Vanguard Balanced Index Is Rated Highly for Effective Approach

Key Morningstar Metrics for Vanguard Balanced Index

• Morningstar Medalist Rating: Silver
• Process Pillar: Above Average
• People Pillar: Above Average
• Parent Pillar: High

Vanguard Balanced Index VBAIX, a low-cost 60% US stock/40% US bond portfolio, epitomizes the firm’s straightforward approach to portfolio construction and asset allocation.

Vanguard’s well-staffed equity and fixed-income indexing groups continuously work on enhancing their sampling, indexing, and trading methods that support this fund’s exposures. Management changes occurred in 2023, but a team-based approach coupled with the breadth of experience across both groups eliminates any concerns.

The 60% equity sleeve tracks the CRSP US Total Market Index, which provides exposure to nearly every investable US stock. The bond sleeve tracks the Bloomberg US Aggregate Float Adjusted Bond Index, providing broad exposure to the taxable, investment-grade US fixed-income market. The bond sleeve’s all-investment-grade nature can result in longer duration (a measure of interest-rate risk) relative to peers. As of Aug. 31, 2024, the portfolio’s effective duration of 6.0 years is longer than the average moderate-allocation peer. As a result, the portfolio tends to be more sensitive to changes in interest rates. This was prevalent during the second quarter of 2022 when the institutional shares lost 12.1%, the fund’s worst-performing quarter in the trailing 10 years ended September 2024. At the time, the portfolio’s duration sat at 6.7 years, 1.4 years longer than the average moderate-allocation peer. On the other hand, one would expect this fund to outperform in a falling rate environment. A useful rule of thumb is that for each 1% increase in interest rates, a bond’s—or a portfolio of bonds’—price will decrease by approximately the percentage of its duration. Conversely, a 1% decrease in interest rates will cause a bond’s price to increase by the same percentage.

Historically, duration has been a solid hedge during equity selloffs as investors flee to the perceived safety of high-quality bonds with a low risk of default, like US Treasuries. That usually provides a ballast during periods of extreme economic uncertainty. For example, the institutional shares lost 22.8% during 2020’s pandemic-driven drawdown from Feb. 20 to March 23—not particularly pleasant for fundholders but better than over two thirds of its Morningstar Category peers. The fund’s defensive aspects can be seen in its capture ratios, which measure a manager’s performance in both up and down markets relative to the index. In the 10 years ended September 2024, the fund participated in 98% of the Morningstar Moderate Target Risk Index’s downside and 108% of its upside.

Vanguard Balanced Index: Performance Highlights

The fund’s track record illustrates the effectiveness of its seemingly simple approach.

Over the trailing 10-year period ended September 2024, the fund’s institutional shares generated an 8.6% annualized return that places it in the best-performing quintile of its moderate-allocation peer group and roughly 2.1 percentage points ahead of its Morningstar Moderate Target Risk Index category benchmark.

On a risk-adjusted basis (as measured by Sharpe ratio), it outpaced or matched 86% of category constituents and beat the category index over the same time frame.

This fund invests only in domestic stocks and bonds, which results in an underweighting in international securities relative to its category peers and benchmark. The US bias can weigh on returns when non-US securities outperform US markets, but the US tilt has provided significant tailwinds over much of its track record.

However, rising interest rates in the face of soaring inflation recently punished this portfolio as both stock and bond prices plummeted. This strategy lost 19.1% during 2022’s Jan. 4-June 16 market correction, placing it in the worst-performing quintile of its peer group. The portfolio’s longer-than-average duration profile (a measure of interest-rate risk) weighed down returns. However, duration is typically a solid hedge during equity selloffs. The fund’s investment-grade-only bond allocation also anchors the strategy during periods of extreme economic uncertainty. In March 2020, for example, the bond sleeve fell 0.6% while intermediate core bond peers lost 1.8%, on average.