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Vanguard investors, ever wonder where insiders at the nation's No. 2 fund company have stashed their cash? I started asking that myself a few weeks back after receiving proxy statements for a few of the Vanguard funds I own. (Full disclosure: A chunk of my investments resides in seven of the $380 billion giant's 106 funds.) Proxy statements detail how many shares each fund director owns, and when I ran my finger down the otherwise eye-glazing list, I saw that Vanguard founder John Bogle owns lots of shares in the actively managed Windsor stock fund. How does that compare, I wondered, with how much Bogle, the very avatar of index-fund investing, has in passively run portfolios? More on that question later, but suffice it to say that there is lots to learn by looking over proxies. That's why I pieced together data from the four sets of proxies that Vanguard has issued this spring. Three of them list directors' fund holdings as of Dec. 31, while the fourth gave them as of Mar. 31. To value their holdings, I used the respective funds' net asset values at those dates. Putting it all together, here's what I found: Vanguard's 10 trustees own nearly twice as much in actively managed Vanguard stock-fund shares as in index-fund shares. Besides Bogle, the group includes Vanguard Chief Executive John Brennan and Burton Malkiel, the Princeton University professor best known for propounding the "random-walk" theory of stock price movements. The theory led to the innovation of index investing. The trustees' biggest single holding in their $67.4 million aggregate portfolio? Vanguard's tax-exempt municipal money-market fund, $9.8 million worth, followed at $9.3 million by Vanguard's venerable Windsor. The Trustees' Portfolio
Type of Holdings % of Biggest
Fund ($ millions) Total Holding
Stock 31.0 46.1% Windsor,
$9.3 million
Bond 18.1 26.9% Limited-Term Municipal,
$5.4 million
Balanced 5.6 8.4% Tax-Managed Balanced,
$1.7 million
Specialty 0.7 1.2% REIT Index,
$751,684
Cash 11.8 17.5% Municipal Money Market,
$9.8 million
Totals 67.4 100.0%
Next, I found that Brennan's apparent devotion to indexing is stronger than that of his peers. He has 48% of his stock-fund assets in passively managed funds. He has also got a close eye on his tax bill, with $1.6 million of his $10.8 million portfolio tied up in a fund full of tax-free, long-term bonds issued by the state of Pennsylvania, where he resides. Brennan's Portfolio
Type of Holdings % of Biggest
Fund ($ millions) Total Holding
Stock 7.7 71.4% Windsor,
$3.1 million
Bond 2.2 20.7% Pennsylvania Long-Term
Tax-Free Insured,
$1.6 million
Balanced 0.8 7.8% Asset Allocation,
$564,708
Specialty -- 0.0% NA
Cash 0.018 0.2% Reserves Prime Portfolio,
$17,052
Totals 10.8 100.0%
Brennan, who at age 43 has more time to ride out the stock market's swings, also has a more aggressive asset allocation than 69-year-old Bogle: More than 71% of his account is in stocks, vs. less than half for Bogle. Now, back to Bogle. Among directors, he owns by far the biggest Vanguard portfolio, more than $18.5 million, not counting money he has invested for trusts and charities. His biggest holding is the $2.5 million he has in Windsor, in which he first invested 40 years ago. Not far behind is the nearly $2 million he has in Vanguard's Short-Term Corporate Bond Fund. So how has Bogle split his money between index funds and actively managed portfolios? It's nearly 2 to 1 in favor of active management, with 64% in active funds such as Windsor. Bogle's Portfolio
Type of Holdings % of Biggest
Fund ($ millions) Total Holding
Stock 8.8 47.6% Windsor,
$2.5 million
Bond 5.5 29.5% Short-Term Corporate,
$1.95 million
Balanced 3.8 20.8% Tax-Managed Balanced,
$1.7 million
Specialty 0.02 0.1% Gold and Precious Metals,
$23,245
Cash 0.36 1.9% Reserves Prime Portfolio,
$361,740
Totals 18.6 100.0%
Does this make Bogle, indexing's No. 1 advocate, a hypocrite? Not really, but it would be nice to have Bogle explain his thinking. He and Brennan both declined to talk on the topic, however. When I ran my research by Vanguard spokesmen, they noted first that Bogle and several of the other, older trustees began building their wealth decades before the first index fund appeared in 1976 and would be properly loath to switch those assets into index funds, which would generate a big tax bill and prove counterproductive. Moreover, they said, the directors' Vanguard holdings may not reflect their total investment portfolios. In other words, with the exception of Bogle and Brennan, each of whom have nearly all of their assets in Vanguard funds, most directors have holdings elsewhere. Also, each director's fund choices are driven by individual needs. If Bogle, for example, is a big holder of any particular fund, that shouldn't be construed by the rest of us as a reason to follow suit. True enough. Just the same, the way Vanguard directors handle their own money suggests a few things you and I probably should keep in mind. While index funds have outstripped their actively managed rivals handily in recent years, there's no guarantee that will always be the case. Yes, Bogle and his older peers have sound reasons for having wound up with an allocation that leans heavily to actively run funds. Yet that doesn't explain why 43-year-old Brennan's largest equity stake is in Windsor or why less than half of his stock holdings are in index funds. Vanguard says it has long suggested splitting a stock allocation between active and passive funds, but you'd never know it from its marketing campaign, which emphasizes indexing above all else. What should we make of all this? Lesson No. 1: Hedge your bets. Indexing probably won't always click the way it has lately. Place your equity assets in both actively and passively managed accounts. Lesson No. 2: It's clear that Vanguard insiders don't equate buying a stock market index fund with investing only in the Standard & Poor's 500 stocks. This is a message Vanguard has issued repeatedly. Nevertheless, investors keep flocking to the 500-stock index fund, which is, at more than $55 billion, Vanguard's biggest. Vanguard trustees have $3.1 million in the fund, yet they've got more than $4.4 million divided among a trio of other stock index funds that buy a longer list of stocks. And that doesn't count another $2.3 million they hold in index funds devoted to foreign stocks. The upshot? When Vanguard insiders think index, they don't stop at the S&P. Neither should you. Lesson No. 3: These guys hate the tax man. Among their money-market fund assets, 84 cents of every dollar is in one of Vanguard's municipal tax-free funds; among bond funds, it's 64 cents of every dollar. And I bet much of the balance is held within individual retirement accounts or other tax-deferred vehicles. For you, if your combined federal, state, and city tax rate is 31% or above, it's worth looking carefully at switching your money-market and bond funds from the taxable to the tax-exempt variety (unless you have them in an IRA or other tax-deferred account). Last Lesson: Despite Vanguard's official demurral, it's telling to me that Bogle has $1.7 million stashed in the firm's Tax-Managed Balanced Fund, which has been open less than four years. This makes it one of his biggest holdings, and it contrasts with the $700,000 or so he has in each of Vanguard's much older Wellington and Wellesley balanced funds. Bogle could've kept pouring cash into Wellington or Wellesley, yet he plainly has favored Tax-Managed Balanced in recent years. This is curious in part because the fund -- at $155 million in assets -- has proved one of Vanguard's least popular. But as Bogle knows, the fund has its charms, especially if you're one of the millions of investors made cross-eyed by the thousands of fund choices in front of you. Tax-Managed Balanced is simplicity itself. In one fund you get low costs (no load and a supercheap expense ratio of 0.17%) and exposure to the broad stock market (about 50% of assets are invested to track the Russell 1000 index), with an offsetting hedge in intermediate-term municipal bonds. The index and muni combo means the fund generates a relatively low tax bill. In other words, just the ticket for investors who feel they've already spent way too much time shopping for funds.
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