An Upgrade for This Wide-Ranging Vanguard Fund

The following is our latest Fund Analyst Report for Vanguard Total World Stock Index VTWIX. Morningstar Premium Members have access to full analyst reports such as this for more than 1,000 of the largest and best mutual funds. Not a Premium Member? Gain full access to our analyst reports and advanced tools immediately when you try Morningstar Premium free for 14 days.

Vanguard Total World Stock Index's low fee and comprehensive portfolio should be tough to beat over the long run. Morningstar's new ratings framework, which places more emphasis on fees, has recognized this fund's low expense ratio as a substantial advantage over its peers. Therefore, we have upgraded its Morningstar Analyst Rating to Gold from Silver.

The fund tracks the FTSE Global All Cap Index, which includes stocks of all sizes listed in developed and emerging markets. It weights them by market capitalization, an approach that benefits investors by capturing the market's collective opinion of each stock's value while keeping turnover low. Market-cap-weighting can be tough to beat because the market tends to accurately value stocks over the long run. Occasionally, it will increase the fund's exposure to expensive stocks when investors get excited about an area of the market. But this doesn't undermine its long-term efficacy.

Broad diversification mitigates the impact of the worst performers on the fund's overall performance. The index includes more than 7,500 stocks while its 10 largest names account for only 11% of its assets. The managers almost fully replicate the benchmark, so the fund winds up holding almost all of the constituent stocks. By comparison, the average fund in the Morningstar Category has about 25% of its assets in its top 10.

The portfolio's diversification benefits extend to its regional exposures. It accurately represents the composition of the global market, with U.S. stocks accounting for just over half of its assets. As a result, large U.S. companies dominate its biggest names.

The fund's low fee has translated into solid performance. The Admiral shares and exchange-traded fund both beat the category average by 57 basis points annually over the 10 years through December 2019. The expense ratios on all of its share classes are among the lowest in the category and should continue to give this fund a long-term edge.

Process | High This fund earns a High Process Pillar rating because it captures the entire opportunity set available to active managers while keeping turnover and trading costs in check.

Vanguard's portfolio managers use full replication to track the FTSE Global All Cap Index. This benchmark starts with all stocks listed on exchanges around the world and sorts them by their free-float-adjusted market cap. It targets firms that land in the top 98% of each country's market cap. The index uses buffer rules around the cutoff point to keep turnover low, and it applies some additional liquidity requirements to ensure that its holdings are investable. The index weights its final constituents by their market caps, which helps further mitigate turnover and trading costs. This approach also harnesses the market's collective wisdom about the relative value of each stock, which is hard to beat over the long term. The index reconstitutes semiannually in March and September.

This comprehensive portfolio tracks the entire global stock market. It effectively diversifies stock-specific risk, with only 11% of assets in its 10 largest holdings. This also causes it to look similar to the average of its category peers in important respects. Sector weightings are comparable, with financial and technology stocks collectively representing about one third of the portfolio.

Country and regional allocations aren't far off the category average, either. The fund modestly differs from its peers in this regard, but the gap doesn't pose a significant threat to its category-relative performance. As of December 2019, U.S. stocks represented 55% of the fund, with those from the eurozone and Japan accounting for an additional 9.2% and 7.5%, respectively. The fund does not hedge its currency risk, so its exposure to currencies like the euro and yen can add to its volatility.

Stocks listed in emerging markets represent less than 10% of the portfolio, which is comparable to the typical peer in the world large-stock category. Allocating to these companies improves the fund's reach and shouldn't materially impact its risk or performance. The fund includes small caps but weights its holdings by market cap. So, it tilts toward large-cap multinationals, with companies like Apple AAPL, Nestle NSRGF, and Alibaba BABA among its biggest names.

People | Above Average The portfolio managers on this fund are part of Vanguard's equity index group. This wider team has a global footprint and uses the latest in portfolio management technology to track the fund's target index. The fund earns an Above Average People Pillar rating.

Christine Franquin and Scott Geiger share responsibility for this fund. Franquin is a principal at Vanguard, while Geiger is a portfolio manager. Both have over a decade of experience at Vanguard and help captain some of the firm's largest index-tracking funds listed in North America.

This duo not only oversees the portfolio but also executes trades on a day-to-day basis. Vanguard typically rotates portfolio managers around from one fund to another every few years to improve their breadth and depth of expertise. They also have access to Vanguard's global trading desks, enabling them to make the most cost-efficient transactions in various global markets.

Vanguard's portfolio managers are compensated with a bonus that factors in the gross, pretax performance of the fund relative to its objectives. This includes the manager's record of tracking a benchmark index over the prior 12 months. This aligns the interests of the managers with investors'.

Parent | High The Vanguard Group entered a new era in early 2019 with the passing of its founder and conscience, John C. Bogle. Unlike its mid-1970s origins, when outflows were the norm and its survival was in question, Vanguard now wears the crown as the world's biggest retail asset manager. More than 90% of its USD 5.6 trillion in global assets under management, as of June 2019, are in the United States; but the firm has designs to grow its non-U.S. business, especially in the United Kingdom, Australia, Canada, Japan, China, and Mexico.

Vanguard gained its stature by following Bogle's playbook: pairing relatively predictable strategies, both passive and active, with minimal costs. That's enriched Vanguard's investors, and those outside its flock who have benefited from industrywide fee compression. While Vanguard's passive business now faces stiff price competition from its biggest rivals, inflows into its U.S. strategies still dominate.

Not content, Vanguard aims to transform investment advice, too. In May 2015, it launched Personal Advisor Services, a burgeoning discretionary asset-management business that pairs automation and human advice; and in September 2019, it disclosed plans to launch a digital-only counterpart. Vanguard's industry leadership readily merits a High Parent rating, but the firm must stay on its guard to prioritize investor interests over merely expanding its kingdom.

Performance Category-relative performance was reasonable but not impressive over the decade ended in December 2019. While the fund's total return beat the category average, the margin wasn't large enough to stand out. Its total and risk-adjusted returns ranked near the midpoint of the world large-stock category.

Low-fee, well-diversified index-tracking funds typically post excellent long-term category-relative performance. But this portfolio has not yet lived up to that expectation, despite having those characteristics. Over the past decade, many of the fund's better-performing competitors used stock selection and a growth orientation to aid their performance. Those approaches can work for short stretches, but costs tend to have a greater impact on long-term performance.

U.S.-listed stocks have been among the strongest-performing parts of this portfolio. Between March 2009 and December 2019, their relatively strong returns pushed their weight from 44% of the fund to 55%. Foreign stocks didn't perform as well, returning less than their prior long-term averages.

Foreign-exchange rates subtracted from performance over most of the past decade because the fund does not hedge its foreign-currency exposure, and the dollar appreciated against many of the currencies represented in this portfolio. Exchange rates tend to move in cycles, so they shouldn't have a big impact long term.

Price It's critical to evaluate expenses, as they come directly out of returns. The share class on this report levies a fee that ranks in its Morningstar Category's cheapest quintile. Based on our assessment of the fund's People, Process, and Parent pillars in the context of these fees, we think this share class will be able to deliver positive alpha relative to the category benchmark index, explaining its Analyst Rating of Gold.