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Vanguard was the fastest-growing fund firm in 2017, and if inflows continue at their current clip, the firm will become the world's largest asset manager by 2022. (BlackRock currently occupies the top slot.) Its shareholders are so devoted to the firm's low-cost, index-fund-oriented lineup that loyalists have created an educational website named after Vanguard founder Jack Bogle, bogleheads.org. The group's annual conference, with Bogle himself as the headliner, typically sells out in a matter of days.
Because the firm fields a competitive offering in every key market segment, building portfolios composed of Vanguard's funds is a breeze. Ultralow costs mean the firm's bond funds are invariably contenders in their categories, and Vanguard also fields a lineup of topnotch index products (traditional index funds and exchanged-traded funds) as well as fine actively managed offerings. The firm is a solid destination for retirement accumulators and retirees alike.
As I reviewed my Vanguard Bucket Portfolios' performance and holdings at the three-year mark, all of the portfolios have performed in line with expectations. However, I'm making a small adjustment to the portfolios, the result of impending changes at Vanguard Precious Metals and Mining VGPMX.
Bucket Basics The Bucket approach, pioneered by financial planning guru Harold Evensky, helps retirees segment their portfolios based on their proximity to spending their money. In my Bucket Portfolios, I've employed three buckets. Assets needed within the next few years go into the only asset class where there's a guarantee of a positive return, cash. Assets for intermediate-term spending can go into bonds, which will likely offer higher returns than cash over time, albeit with a bit more price volatility. Finally, assets that won't be needed for at least a decade can go into assets with higher growth potential and higher volatility, primarily equities. The retiree won't necessarily liquidate their portfolios in precisely this sequence--cash, then bonds, followed by stocks. But in a worst-case scenario in which stocks go down and stay down, the cash and bonds can be spent first.
I used that basic three-bucket framework for all of my Model Bucket Portfolios. Yet an essential starting point when customizing a Bucket Portfolio to your own situation is to consider your cash-flow needs, and the amount you'll need to withdraw from your portfolio per year to meet them. In my Aggressive Vanguard Bucket portfolio, for example, I assumed a hypothetical retiree would spend 4% of her portfolio per annum, which explains the 8% cash stake (2 years' worth of portfolio withdrawals times two). Yet a retiree's actual spending might be higher or lower. For example, a retiree who's spending 3% of her portfolio per year could allocate two years' worth of expenditures 6% of her total portfolio) to cash/Bucket 1, eight years' worth of expenditures (24% of her total portfolio) to bonds/Bucket 2, and the remainder to stocks. Her allocation to conservative investments would be even smaller than what's depicted in my Aggressive portfolio.
For security selection, I relied largely on Medalist-rated funds. This portfolio is geared toward tax-deferred accounts, so I've included ample stakes in tax-inefficient assets--actively managed equity funds and taxable fixed-income funds. I’ve created separate Bucket Portfolios geared toward Vanguard investors employing taxable accounts. My aim is to take a hands-off approach to managing the changes, making changes only when there’s a significant fundamental change or a ratings change in one of the holdings.
Now that the portfolios have three years' worth of history, it's a timely juncture to review performance and assess the holdings' fundamentals.
Aggressive Bucket Portfolio Bucket 1: Years 1-2 8%: Cash (money market funds and accounts, CDs, checking and savings accounts, and so forth; specific percentages will vary based on the amount of assets and the retiree's spending rate)
Bucket 2: Years 3-10
Bucket 3: Years 11 and Beyond
5%: Vanguard Precious Metals VGPMX
Performance 3-Year Annualized Return: 7.69%
The Aggressive Vanguard Bucket Portfolio stakes more than half its assets in stocks, mostly U.S. equities, so it's not surprising that it was the best-performing of the three Bucket Portfolios over the past three years. Vanguard Dividend Appreciation and Vanguard Total Stock Market were the top performers in the portfolio. The former has gotten a boost from top position
Vanguard Wellesley Income's performance has been more muted but is still pretty impressive, given that it holds just about a third of its assets in stocks and the remainder in fixed income securities. Vanguard Precious Metals and Mining also generated respectable returns but was incredibly volatile: Nearly all of its gains in the three-year period came in 2016 and 2017, and it has shed more than 20% of its value so far this year.
The portfolio's bond holdings generated returns that aligned with their risk levels. With a short duration and a high-quality focus, Vanguard Short-Term Bond generated returns in line with cash. (I used Vanguard Prime Money Market in calculating the portfolio's return from its cash holdings.) Vanguard High-Yield was the portfolio's standout bond performer, generating an annualized gain of more than 5% as corporate finances improved and investors got comfortable with lower-quality bonds.
Changes Vanguard Precious Metals and Mining is in the midst of some significant changes. As a result, I've decided to cut it from the portfolio. Precious Metals and Mining is changing its strategy, name, and managers: Wellington Management assumed managerial responsibilities for the fund in late July 2018, and the fund will change its name and strategy in late September of this year. The fund will be renamed Vanguard Global Capital Cycles Fund. While it will continue to aim for low correlations with the equity market and will invest at least a fourth of its assets in the precious metals and mining industry, it will also invest in cyclical stocks and other assets, aiming to purchase them when they're in a trough. Morningstar thinks highly of Wellington Management, and new manager Keith White will be able to draw upon the firm's deep resources. However, the fund won't necessarily provide the same diversification as it did when it had a purer focus on metals and mining stocks. I'm allocating its 5% position to Vanguard FTSE All-World ex-US.
Moderate Bucket Portfolio Bucket 1: Years 1-2 10%: Cash (money market funds and accounts, CDs, checking and savings accounts, and so forth; specific percentages will vary based on the amount of assets and the retiree's spending rate)
Bucket 2: Years 3-10 10%: Vanguard Short-Term Bond 10%: Vanguard Short-Term Inflation-Protected Bond 20%: Vanguard Total Bond Market Index 5%: Vanguard Wellesley Income
Bucket 3: Years 11 and Beyond 19%: Vanguard Dividend Appreciation 8%: Vanguard FTSE All-World ex-US 8%: Vanguard Total Stock Market Index 5%: Vanguard High-Yield Corporate Bond 5%: Vanguard Precious Metals
Performance 3-Year Annualized Return: 6.52%
Because of its higher bond stake and lower equity position, this portfolio's return was a bit below the Aggressive portfolio’s over the past three years. As with the Aggressive portfolio, the U.S. equity holdings contributed the most to performance over the trailing three-year period. Vanguard High-Yield Corporate was the portfolio’s standout bond position, generating a 5% annualized gain, though its results in a risk-on market were merely average relative to other high-yield funds. (The fund typically maintains a higher credit-quality profile than its peers.)
Changes As with the Aggressive Bucket portfolio, I'm eliminating the position in Vanguard Precious Metals and Mining due to its upcoming strategy and manager change. I've steered the proceeds to Vanguard FTSE All-World ex-US.
Conservative Bucket Portfolio Bucket 1: Years 1-2 12%: Cash (money market funds and accounts, CDs, checking and savings accounts, and so forth; specific percentages will vary based on the amount of assets and the retiree's spending rate)
Bucket 2: Years 3-10 13%: Vanguard Short-Term Bond 10%: Vanguard Short-Term Inflation-Protected Bond 20%: Vanguard Total Bond Market Index 5%: Vanguard Wellesley Income
Bucket 3: Years 11 and Beyond 20%: Vanguard Dividend Appreciation 8%: Vanguard FTSE All-World ex-US 7%: Vanguard Total Stock Market Index 5%: Vanguard Precious Metals and Mining
Performance 3-Year Annualized Return: 6.30%
With less than half of its assets allocated to pure equity funds, this portfolio generated the lowest return of the three Vanguard Bucket Portfolios. As with the other two portfolios, Vanguard Dividend Appreciation and Total Stock Market buoyed results, while the high-quality bond stakes generated muted, albeit positive, gains.
Changes As noted above, Vanguard Precious Metals and Mining is changing its name, strategy, and management. While the fund will still aim to deliver diversification relative to the equity market, the fact that it will likely maintain a smaller stake in metals and mining stocks could limit its diversifying benefits. As a result, I'm moving the 5% position into Vanguard FTSE All-World ex-US.