By Dr. James M. Dahle, WCI Founder
If you've been around this blog for very long at all, you've probably noticed that I spend a lot of time discussing Vanguard, to the exclusion of other mutual fund and brokerage companies. If you don't know why Vanguard is so special (and my usual default choice when people ask where to invest), this post is for you. In 2020, 9 years after originally writing this post, the time has finally come to update it. It needed precious little update.
Vanguard was founded in 1975 by the late John C. (Jack) Bogle, being named after Admiral Horatio Nelson's Flagship at the Battle of the Nile in 1798. It was founded after a dispute arose between Bogle and the members of the board of Wellington Management Company. He was on the board of the Wellington Management Company, but after irreconcilable differences arose between him and other members, he was forced to resign.
He then went to the boards of directors of the funds administered by the management company, and by convincing them of the merits of a mutual mutual fund company, they gradually chose to move under the Vanguard umbrella. Since then, Vanguard has internalized the management functions, lowered costs, and become the largest mutual fund company in the world.
Why Invest with Vanguard?
#1 Mutual Ownership
As the only mutually-owned mutual fund company in the world, Vanguard has eliminated many of the conflicts of interest inherent in the structure of other mutual fund companies.
At some companies, such as Fidelity, the fund management company is owned by private owners (the Ned Johnson family). The fund management company then administers the mutual funds, which are owned by the shareholders (you and me.) Obviously, the owners of the fund management company want to make some money. Guess where that profit comes from? Yup, you and me.
At other companies, such as Charles Schwab or T. Rowe Price, the fund management company is owned by public investors, and its shares are traded on the stock market. Those investors also want to earn dividends and want their share values to go up. Guess where the money to do that comes from? You're right again — from the owners of the mutual fund shares, you and me. So there is a significant conflict inherent in the structures of most mutual fund companies.
At Vanguard, the management company is owned by the mutual funds, which in turn, are owned by you and me. There are no profits or dividends that need to go to the mutual fund company's owners. What does that mean? It means we get to keep them and it increases our returns over time.
#2 Low-Cost Leader
The means by which Vanguard sends these profits on to you is by lower expenses. In 1990, the average Vanguard expense ratio was 0.35%. The average of the rest of the industry was 1.09%, an advantage of 0.74% a year. Between 1990 and 2011, things got even worse (? better.) In 2011, when I first wrote this post, Vanguard's average expense ratio was 0.25% and the industry had increased to 1.38%, a difference of 1.13% a year.
Vanguard outpaces its peers year after year.
You don't need to know much about compound interest to know that 1.13% a year compounded over 2 or 3 decades is a huge amount of money. Fortunately, in 2020 Vanguard's average expense ratio is 0.10%, just 40% of what it was when I wrote this post. The rest of the industry has realized that we, the investors, have caught on, and the average industry expense ratio is now down to just 0.58%.
#3 Vanguard Funds Outperform Peers
As you would expect, these lower expenses allow Vanguard funds to outperform their peers, especially in the fixed income categories. Time after time, over any reasonable time frame, Vanguard funds outperform the majority of their peers. Over the last ten years, Vanguard funds outperformed 85% of their peers.
#4 Index Funds
Although there was an indexed account for institutional investors at Wells Fargo in 1971, the first real index fund, the First Index Investment Trust was founded by Jack Bogle in 1976. Known today as the Vanguard S&P 500 Index Fund, it is still the largest index fund in the world, with over $543 Billion in assets, more than the GDP of Argentina, and 5 times the size of the fund in 2011 when I originally wrote the post. (If you care, there are no real actively managed mutual funds in the top 20 anymore.)
Since then Vanguard has established dozens of other index funds. A good index fund not only uses ultra-low costs to its advantage, but it also eliminates manager risk. It is well-known that most mutual fund managers don't add value once the cost of the management is added in. Index funds essentially trade the possibility of outperformance for the guaranteed elimination of market underperformance. 85% of our retirement portfolio and 100% of our children's portfolios are invested in index funds.
How to Open a Roth IRA at Vanguard
Other Reasonable Brokerage Choices
These days, you can get low-cost index funds at any brokerage firm (eTrade, etc) by buying Vanguard, iShares or Schwab ETFs. If you still prefer traditional mutual funds, you can also get good, low-cost, broadly diversified index mutual funds at Fidelity or Charles Schwab. But Vanguard is still usually my default recommendation because it offers more index funds and it doesn't treat them like a loss leader to sell other funds or services.
Problems with Vanguard
Is Vanguard perfect? Not even close. They have certainly had some growing pains managing their rapid growth over the years.
Their focus on low costs has predictably led to complaints about their web interface, although having used TD Ameritrade, Vanguard, Schwab, and Fidelity I find it fine for my purposes.
There are also some other quirks you may notice at Vanguard, such as the fact that their individual 401(k) doesn't accept IRA rollovers, a frequent need for white coat investors trying to do Backdoor Roth IRAs.
So when choosing a mutual fund company to open an account with, Vanguard should be your default option. Instead of taking the profits for himself, St. Jack (Bogle) opted to change the mutual fund industry forever and allow the investors to keep the change. Over your investing career, this will probably be hundreds of thousands of dollars you get to keep in your pocket. Now if I could just get them to sponsor this blog…
What do you think? Where do you invest? What mutual funds or ETFs do you use? Comment below!
In regard to fees, I recently found I was reinvesting individual stock dividends at an average of 2% more than in my other brokerage account. Over four years this amounted a lot of money. Has anybody ever done a study to compare what one company reinvests shares vs another company?
Love your blog.
Never seen one but would love to learn more. Maybe you can write up your experience and shine some light on it.
@Gary,
So you are saying the average price difference of the reinvested shares between one account an another was greater than 2%? What were the accounts you were using? What were the stocks?
I recently tracked an ETF and a mutual fund between TDAmeritrade and Vanguard and found any differences very tiny. In the first place it would have to mean the stocks you were tracking were moving more than 2% per day and that doesn’t happen all the time.
My comments are related to individual stock reinvestments not mutual funds. Have switched to Fidelity as they invested my dividends at a lower price than my other brokerage. Only discovered this when I had 3 different stocks in both accounts
Stick to Vanguard as you own some of it when you invest with them
Leave it to Ken to summarize a 1,000-word blog post in one sentence!
I love how timeless this post is. Whether in 2011, 2013, 2015, or 2020 it is all still true.
It was even true in the ’80s and 90’s when I started investing. People thought I was REALLY crazy to invest passively in index funds in the mid-1980s. “Why don’t you want a better than average return?” was a common question. Finally, I don’t hear that one as much. Sir Jack was a very patient man. We small investors all owe him a lot.
A lot of financial news are now saying to avoid index funds as the market is so bifurcated now due to pandemic…..with only techh and healthcare doing well. So active managment adn individual stock picking is now better. Cramer has come up with the Covid 19 index of stocks which is doing very well.
Thoughts?
I disagree. Stock pickers always think it is a stock picker’s market. But index funds outperform the vast majority over the long term in all types of markets. If you have a clear crystal ball, feel free to use it.
One other thing to consider with Vanguard – joint accounts are not allowed to have beneficiary designations. If one owner dies, assets pass to the other owner; but if both die at same time (yes, unlikely but can still happen), then assets pass to estate. This is at odds with other brokerage firms (Fidelity and Schwab) which allow beneficiaries and TOD designations on their joint accounts.
That would be a nice feature.
Our Joint Account With Right of Survivorship at Vanguard has listed TODs. Ours may be a grandfathered account, though.
From a June 2020 account statement:
“Assets in a joint account with a Transfer on Death (TOD) Plan are distributed according to the beneficiary
designation in effect when the last surviving owner dies, not when the account was established. Upon the death of the first owner, the surviving owner may change the beneficiaries, revoke the plan, or change the registration”
I too have been dismayed at the laggard Vanguard has become relative to Fidelity in the service area. It wasn’t long ago when I wouldn’t think the flip flop was possible. The ethos of the company keeps me there, and I am hopeful things get better in the future.
Of note, though, and you did not mention this fact in your review: the board of directors has a paltry sum invested in the Vanguard line up of funds (“eating your own cooking”). In addition, the company is not transparent about the amounts and timeliness of their trades. For Vanguard, I believe its shameful given what they preach about the core values of investing.
Brad
I agree the service can be disappointing. I think they’ve had a lot of trouble dealing with rapid growth but the low cost ethos is also a factor I’m sure.
I don’t really care all that much about what the board of directors has invested as long as the index funds track their indices.
STICK with the only company where we are the owners and thank BOGLE for giving us low cost index funds
Very easy to navigate their website and the #1 mutual fund company in my mind
Thanks for the excellent info. I am a newbie here and extremely impressed with recommendations and information. I personally have no investing knowledge or experience. I will like to use vanguard products as recommended. Can i open an account and buy them myself or is it recommended to go through the vanguard advisor. Please let me know about your experience.
Thanks.
Yes, you can buy them yourself. However, you really need a written investing plan. This post describes 3 ways to get one, one of which is using a financial advisor:
https://www.whitecoatinvestor.com/investing/you-need-an-investing-plan/
I am retired. I have accounts at Vanguard and Fidelity. For both companies my accounts qualify to have a dedicated customer representative.
Fidelity is privately owned, but it does a far better job in many aspects for me as retired investor than Vanguard does. “Customer service” and “features” are more important to me now that I am living off my investment portfolio than they were when I was using automatic investments to build the portfolio.
Fidelity allows Federal and Ohio income tax withholding from IRA distributions. Vanguard only allows state income tax withholding from about 25 states (not Ohio) that essentially require it to do so. Requests to change that are ignored.
Fidelity.com is far superior to Vanguard.com in terms of online features and ease of use for me as a retired investor.
Fidelity monthly account statements beat the pants off Vanguard’s. One example: Fidelity statements have an estimated cash flow report that predicts monthly account income for the next 12 months – very useful in yearly income and tax planning. Requests to add “features” to VG’s statements are ignored.
When I transferred assets from other custodians to Fidelity, I entered the requests on fidelity.com and emailed a copy of the sending account statements. The progress of the transfers was shown on fidelity.com and they were accomplished within a week. To transfer outside assets to Vanguard, I had to create a written request on vanguard.com, print the request, and postal mail the document to Vanguard. It took more than 3 weeks for Vanguard to complete the transfers.
Have a question about account transactions, IRA intricacies, etc.? I can telephone Fidelity and talk to knowledgeable person at midnight Friday. More limited hours for VG.
One Vanguard advantage: I qualified for a free financial plan with a planner who developed a plan with specific investment portfolio recommendations using Vanguard funds. Fidelity did not provide a similar in-depth plan without paying for investment management.
The mutual funds I hold at Fidelity are no more expensive than Vanguard funds. My Fidelity brokerage transactions are free.
I continue with both companies because I don’t want to have all my financial assets held by one custodian, and some of the Admiral-class Vanguard mutual funds I own in taxable accounts are not available outside of Vanguard.
My understanding is that Vanguard board of directors appoints their own successors. I think once “member owned” outfits reach a certain size, they lose touch.
You can convert Vanguard admiral funds to ETFs and move it all to Fidelity if you want.
Fidelity and Schwab have certainly made great strides to catch up to Vanguard on index fund availability and cost since this post was originally written in 2011 and their service has pretty much always been better.
I’ve had accounts at Fidelity and Vanguard for many years and qualify for their upper-tier services. In the past, both companies would gladly give investment recommendations and guidance. Now, however, their typical response is “Why not let us manage your investments for you”. Account reps now seem to only provide help with account maintenance or website navigation with little desire to customize a portfolio to meet a client’s individual needs (unless the customer pays for this service).
Very recently, Vanguard did away with their free annual financial planning service. This was the ONLY reason why I still maintained a relationship with Vanguard. In the past, their CFP’s have provided excellent free advice but, alas, Vanguard has now terminated that free service.
Vanguard has also done away with assigned representatives. In the past, I was given the name of a person who acted as my main contact with Vanguard. Now, you simply call the main number and get whoever happens to be available. Any sense of a personal connection is now gone.
Another issue is that Vanguard does not allow per stirpes designation for beneficiaries in a taxable account. When I questioned Vanguard about this, their response was basically “we’re not going to track down your descendants after you die.” Fidelity, on the other hand, does allow the per stirpes designation
Fidelity now has the edge for my needs since (1) I have a personal representative that I can talk to, (2) Fidelity is available by phone 24/7, (3) they have a brick-and-mortar presence where I can drop off documents and review them in person, (4) their tools are better (although could be improved), and (5) they allow per stirpes on taxable accounts.
I have an assigned Flagship rep at Vanguard. Did you move a bunch of money away from there or something? Not sure why you don’t have that.
Keep in mind the fund offerings were dramatically worse at Fidelity 9 years ago when this post was written. The fact that they’ve fixed that problem has shifted our focus to other things, like customer service where Vanguard is not nearly as good.
I am a Flagship client at Vanguard and have not removed any money. In Aug 2019, I received this note from Vanguard:
“We’re writing to let you know about an upcoming change to the way we interact with you. Starting in September 2019, you’ll no longer be assigned to a specific account representative; instead, you’ll have access to a team of professionals with the expertise to quickly and effectively address your needs.
We’re making this change for several reasons:
To connect you with the right expert at the right time, with more specialized client service teams.
To expedite service, with an intuitive phone system.
To better serve you as your needs evolve, with direct access to a full team of skilled professionals.
Your other Flagship® benefits won’t change”
See also this Bogleheads post https://www.bogleheads.org/forum/viewtopic.php?t=293483
Schwab’s Individual 401K quirk is not allowing electronic deposits for some reason. Only wires and checks.
Not a huge thing, but it does prevent automating deposits and purchases.
Have you found a workaround for that or is your active 401K with another company?
My 401(k) at Schwab is not an individual 401(k).
This may be a “dumb” question; however, if everyone complains about the vanguard website and customer service, why wouldn’t someone just open a fidelity account and buy vanguard index funds like VTSAX or VFIAX? Would there be fees to buy vanguard stock from Fidelity? Also, with the discussion of buying the lowest cost index fund as one of the best choices, why are people not fixated on the lower expense ratios of fidelity?
Not dumb at all.
The reason people who want Vanguard funds but are at Fidelity don’t buy the traditional mutual funds is that you get charged big fees. Not sure what they are, but probably $50 to buy and another $50 to sell. So they use the ETF versions of the Vanguard funds. That’s what I do at my Fidelity 401(k) (and my Schwab 401(k)).
You can just buy the Fidelity funds if you want. I like the Vanguard funds slightly better, and they have more index funds in more categories (plus the more tax-efficient ETF/traditional fund structure.)
As far as expense ratio, once you get below 0.10% it’s probably best to quit worrying about them. At that price, it’s essentially free. More info here:
https://www.whitecoatinvestor.com/expense-ratios/