(PUB) Investing 2016

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The Independent Adviser for Vanguard Investors • September 2016 • 5 FOR CUSTOMER SERVICE, PLEASE CALL 800-211-7641
And finally, the risk piece of the equation. Alternative Strategies was
just one-third as volatile as Total Stock Market over the past year. Or if
you prefer to look at the fund’s maximum cumulative loss, Alternative
Strategies’ largest decline since its inception was a drop of 2.5%. Total
Stock Market’s worst slide during that period was a drawdown of 7.6%.
Near double-digit returns with low risk and low correlation to stocks and
bonds are exactly what you’d want from an alternative strategy. However,
there are a few things to keep in mind before you say, “Sign me up!”
First, as I mentioned, the fund isn’t available to individual investors.
And even if Vanguard does make it available, using Market Neutral’s
minimum investment hurdle of $250,000 as a guide, it probably won’t be
within reach of most investors.
Second, the fund is very small and hasn’t caught the eye of many
of the endowments and pensions that Vanguard is targeting. Of the
$192 million invested in the fund, $165 million or so can be attributed
to Managed Payout, which allocates about 10% of its assets to the
new fund. (It probably goes without saying, but I wouldn’t invest in
Managed Payout just to gain access to Alternative Strategies.) Some
funds do very well when the portfolio is small, and then struggle as
assets grow. It is not clear how large a portfolio Vanguard can suc-
cessfully manage in this strategy.
Third, let’s say Alternative Strategies was available to everyone with
a minimum hurdle that didn’t break the bank, and the size of the fund
wasn’t a worry. Should everyone allocate some of their portfolio to the
fund? No. I believe that people should only invest in what they under-
stand. If “long/short equity, event driven and fixed income relative value”
sounds like gobbledygook to you, then you shouldn’t invest in the fund.
Owning a mix of plain old stock and bond funds has served us well in the
past—and will continue to in the future.
On top of that, Alternative Strategies hasn’t and shouldn’t behave like
the stock and bond funds in your portfolio. While that is by design and
a strength of the fund, it does mean that some investors may find it dif-
ficult to hold on to. Consider that in Alternative Strategies’ first 12 full
months, it underperformed Total Stock Market in six months. And when
it underperformed, Alternative Strategies lagged the index fund by an
average of 3.7%. Over the three months when Alternative Strategies was
experiencing its largest drawdown of 2.5%, Total Stock Market was gain-
ing 9.6% and Total Bond Market was up 1.3%.
Remember, when something is uncorrelated, that means there will be
times when it lags the other pieces of your portfolio. To reap the ben-
efits of a diversified, uncorrelated holding, you either have to time your
buys and sells precisely, or you’ve got to hang on through those difficult
periods when it is a drag on your returns in order to be there when the
diversification works in your favor. Easier said than done.
With an expense ratio of 0.73%, the fund is expensive by Vanguard
standards, but far cheaper than similar strategies available to mutual fund
investors—and certainly cheaper than the average hedge fund. I suspect
that if Vanguard opened this strategy more broadly, it would be very popu-
lar, if only for its low-fee advantage. And if the fund continued to deliver
differentiated, yet positive returns, its appeal would only increase to the
point of making it unmanageable. For the time being, Vanguard seems con-
tent to leave Alternative Strategies in relative obscurity.
DON’T LOOK NOW, but there’s a very
good chance that money is going to
begin cascading back into Precious
Metals & Mining. And if it does,
Vanguard could quickly slam the doors
on this volatile and risky fund.
Not strictly a gold fund (its mandate
was broadened in 2004, though gold
is still a huge factor), Precious Metals
& Mining has turned the performance
corner in a big way. Its one-year return
turned positive in April, its three-year
return turned positive in June, and the
fund is up 70.2% since the beginning of
2016, putting it on pace for its best single
calendar year since its 1984 inception.
With $3.0 billion in assets, the fund
has more than doubled in size in six
months. Almost all of that gain has
been performance-based, with a net
$43 million in cash added through July.
But history suggests that the trickle
of new money is about to turn into a
PRECIOUS METALS
Watch Out for the Gold Bugs
flood. Traders have been attracted to
the fund, with a bit of a lag, almost
every time its three-month returns have
turned positive. While Precious Metals &
Mining’s three-month return was -12.5%
in January, it turned positive, to 19.4%,
in February, and has remained in positive
territory since. At the end of July, the
Vanguard’s Fund Strikes Gold
-60%
-40%
-20%
0%
20%
40%
60%
80%
100%
120%
Precious Metals & Mining
Price of Gold
1986198819901992199419961998200020022004200620082010201220142016*
fund was up an annualized 6.7% over the
past three years.
Would I buy this fund? No way!
Despite the incredible run it’s had this
year, the fund’s long-term shareholders
are still trying to erase a 75.9% loss.
The fund remains deeply underwater
compared to the high reached on May
19, 2008.
This is by far the riskiest of
Vanguard’s offerings, and also the
one tied to an asset that simply has
no intrinsic investment value. I’d stay
away, but watch with curiosity as others
try to time their entrance and exit here.
It’s a good bet that if the hot money
starts to flow, Vanguard could shut the
doors quickly. So far there’ve been no
signs of excess, but flash floods don’t
give much warning.
So long as performance stays strong,
I expect that the money will flow. But
once it grows cold, the money will go. n
*Year-to-date return.