Did Vanguard Buy High and Sell Low?

You could argue that Vanguard bought  Vanguard Growth Equity  and Turner Investment Partners high and sold low. You could just as easily contend that the family just came to its senses.

Nearly nine years after Vanguard adopted a momentum growth fund managed by Turner and renamed it Vanguard Growth Equity, the family in January replaced the original subadvisor. It's tempting to accuse Vanguard of failing to practice what it preaches--that it hired and fired Turner at precisely the wrong times and didn't give its strategy time to work out over the long term.

Turner joined the Vanguard stable in 2000, near the peak of perhaps the biggest growth stock bubble of all time, an environment that suited firm founder and lead manager Robert Turner's high-octane approach. In the three years before it joined Vanguard, the Turner fund gained an annualized 40.7%, better than most of the large-growth category or relevant benchmarks. Now Vanguard has cut Turner loose in the midst of one of the worst bear markets in history, a climate that has been as hospitable to Turner's style as a Category 4 hurricane. The fund lost nearly 48% in 2008, and its annualized returns for all periods between one and 15 years ended Jan. 31, 2009, trail more than three fourths of its peers.

Time's Up?
Nine years is more time than most managers get to prove that they can deliver good risk-adjusted returns. And a record like Turner's would test the resolve of the most patient investor. But Growth Equity's extreme volatility wasn't (or at least should not have been) a secret to anyone. It had long been a feast-or-famine fund, suffering when growth stocks were out of favor, such as 2000 to 2002, and flourishing more than enough to make up for its losses when they rebounded, such as in 2003. As long as you had the intestinal fortitude, proper expectations, and sufficient diversification, over time Turner's disciplined process could work for you. At least that was the thinking that earned the fund a spot among our Analyst Picks for the large-cap growth category for nearly eight years. Although the fund had looked terrible, we at Morningstar expected its fortunes to change dramatically for the better when the market eventually recovered.

That was the theory. Then Vanguard handed part of the portfolio to Scotland-based Baillie Gifford Overseas in April 2008. About three months later we took Growth Equity off the picks list because the new, much more conservative subadvisor, while curbing the fund's risks, would also limit the rewards that we expected from Turner.  

An Acquired Taste
Personally, I always found Growth Equity under Turner to be an acquired taste and rather un-Vanguardian. Not all of Vanguard's offerings are, or have to be, sober, low-turnover vehicles in which you could entrust grandma's nest egg. But Growth Equity was unique in its combination of high turnover, volatility, and to-the-hilt growth style. It also proved to be extremely hard for investors to use. Its Morningstar Investor Returns, which factor fund owner purchases and sales into results to estimate shareholders' true experience, were among the worst in Vanguard's lineup. Through Jan. 31, 2009, the fund lost an annualized 5.7% over the past decade, but the average investor lost nearly twice as much (10.6%) because they bought the fund when it was doing well and sold it when it wasn't, hurting themselves in the process.

I'll leave it to others to speculate as to whether Turner's brand of momentum investing is dead (many investment strategies have resurrected themselves after people wiser than me had written their epitaphs), but the fund was never my cup of tea, and it was arguably too hot for most investors to handle. Vanguard has its own reasons for the change, and it guards them like state secrets, but I think that the fund's poor investor returns must have had something to do with the change.

Fall From Grace
If that's true, then Turner's replacement by Jennison Associates completed a fall from grace that began probably before Baillie Gifford arrived. It also completely transformed the fund. Growth Equity has gone from a quant-influenced fund that traded quickly around the stocks with the best earnings momentum to one more focused on bottom-up research. It's also evenly split between the aggressive-growth stocks like  Google (GOOG) that are favored by Jennison and the more staid, but consistently growing companies like  United Parcel Service (UPS) that are often picked by Baillie Gifford. Jennison and Baillie Gifford are respectable investment shops with solid long-term records. The Jennison team has managed a slice of the decent  Vanguard Morgan Growth  since January 2007. The squad led by Kathleen A. McCarragher also has run  Jennison Growth (PJFAX) and long supported veteran manager Sig Segalas at Morningstar Analyst Pick  Harbor Capital Appreciation (HACAX). Baillie Gifford has run a segment of  Vanguard International Growth (VWIGX) since 2003 and last year started running a piece of  Vanguard Global Equity (VHGEX).

The new-look Growth Equity will actually be more concentrated because, unlike Turner, Jennison and Baillie Gifford don't tie their sector allocations to the Russell 1000 Growth Index. Still, the combination of Jennison and Baillie Gifford should make the fund tamer and perhaps easier to own. Nevertheless, I'd like to see this combo in action for a while before endorsing it.

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