Vanguard Fires MSCI, Should You Fire Vanguard?

Vanguard Fires MSCI, Should You Fire Vanguard?Vanguard has fired MSCI.  Twenty-two Vanguard index funds that were tracking stock indexes from MSCI will soon be following FTSE and CRSP indexes.  What does this mean to you?  Should you be concerned?  Should you fire Vanguard as your ETF vendor?  Read on for answers.

Background: On October 2, 2012, Vanguard announced a huge change.  Over a period of six months, twenty-two Vanguard index funds will change the benchmarks used to measure their performance.  Six international stock funds will transition from familiar MSCI indexes to established, yet less popular FTSE benchmarks.  Additionally, sixteen U.S. stock funds will move to newly developed benchmarks from the University of Chicago’s Center for Research in Security Prices (“CRSP”).  These changes will apply to all the funds’ share classes, including exchange-traded funds (ETFs).  See Vanguard Announcement of October 2, 2012 with list of affected funds.

The changes will take place gradually during the first six months of 2013, although Vanguard does not intend to reveal the schedules for individual funds.  An added twist for the Vanguard MSCI Emerging Markets (NYSEARCA:VWO) is it will be tracking a specially developed transition index during that time.  Additional information on this process is available in FTSE Transition overview (pdf).

Vanguard’s ETFs are structured as an additional share class to their mutual funds.  The affected funds are typically available in three share classes:  Investor, Admiral, and ETF.  Therefore, up to 66 fund tickers may be affected by these changes.  According to Vanguard, assets in these funds total about $537 billion.  This is not a trivial change.

What does this mean to you?

The primary implication for investors is to understand that when you choose an ETF, you are also choosing an ETF sponsor/manager and choosing an index.  This has always been true to some extent.  However, with multiple ETF providers basing their offerings on the same indexes, the choice was previously just a matter of choosing the ETF provider.

When building portfolios based on multiple index providers, investors need to be cognizant of overlap and underlap.  The most talked about example of this appears in the international indexes and the classification of South Korea.  In the MSCI methodology,South Koreais an “emerging market” while in the FTSE methodology it has “developed market” status.

You can argue about which one is correct or better, but that misses the point.  When Vanguard and iShares were both following MSCI benchmarks, you could easily choose one vendor for your emerging markets exposure and the other for developed markets exposure.  Since they had the same benchmark, you did not have to worry about overlap or underlap.

If you try to mix the two once Vanguard’s changes are complete, you will end up with either a double weighting in South Korea or a zero weighting in South Korea.  The same is true when choosing Large Cap Value and Large Cap Growth funds.  If they are not tracking benchmarks from the same index provider, then there is likely to be overlap and underlap of individual stocks.

Should you be concerned?

Strategic asset allocators, institutional investors, and ETF strategists should be concerned.  For these groups, the possibility of overlap/underlap is very real and needs to be understood.  Switching models from MSCI to FTSE or CRSP will require thoughtful analysis and clear divisions.

Technical and tactical traders should be cognizant of the major differences, but they probably do not need to be overly concerned.  In fact, the differences could be helpful if different performance characteristics develop.  These groups could buy an MSCI based ETF this month and use a FTSE based ETF on the next trade.

For day traders, liquidity and asset class representation are among the most important factors.  These index changes are not likely to be a concern unless the  trading vehicles experience a drop in liquidity.

Should you fire Vanguard as your fund vendor?

Like many difficult questions, the answer to this one falls into the “it depends” category.  If you trade or invest in Vanguard’s sector ETFs, then these changes will not affect you.  For “style-box” funds, Vanguard provides lineups from three separate index providers:  Russell, S&P, and MSCI (see Vanguard Declares War in Fight for Broad Market ETF Supremacy and Vanguard Launches Second Assault On iShares).  The MSCI series is transitioning to CRSP indexes, but there are no changes planned for the Russell and S&P varieties.

If you prefer to stick with the MSCI classification methodology with your international equity exposure, then you will need to fire Vanguard, at least for some of your holdings.  In this regard, my iShares Introduces Core ETF Lineup article identifies some of the advantages of the Investable Market Indexes from MSCI.  Be sure to factor in the potential tax consequences of your actions before making your final decision on firing Vanguard.

Vanguard’s announcement of these index changes stressed the potential cost savings as a primary reason for the change.  Personally, I don’t think investors should make major decisions based on small differences in expense ratios.  At expense ratio differences of less than 0.1%, other factors become more important.  Vanguard has been very successful in the past when competing on price, but they are now moving the battlefield to other, less quantifiable, factors.  Time will tell whether or not that prior success moves also.

This article was originally written by Ron Rowland, and posted on InvestWithAnEdge.

Comments
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months. Our beta is only 1.2 (don't click this link if beating the market isn't important to you).

Lists

The Best Movie Sountracks Ever

The Highest Grossing Musicals on Broadway

The Most Successful Reality TV Stars

Cheapest Cities to Visit in the US

Most Expensive Summer Camps

Most Expensive Animals in the World

Most Expensive Specialty Crops in the World

Movies That Took Ages to Make

The Longest Hollywood Films Ever Made

Most Expensive Concert Stages

The Richest Bands of all Time

10 Most Corrupt Countries 2013 List

10 Countries with the Highest Quality of Life Index

Most Expensive Mattresses in the World

5 Smallest Countries by Land Area

The Ultimate Heartbreak Songs

Richest Teenagers in the World

10 Most Haunted Places in America

10 Best Places to Retire in Florida East Coast

Top 10 Places to See Before You Die

Top 8 Countries in the World Where Justice Prevails

10 Richest States in America

15 Wealthiest Countries in the World

Richest Singers in the World

Most Expensive Tasting Menu in New York City

Most Expensive Baby Items in the World

Most Expensive Hotel Suites in Vegas

Most Expensive Brunch in New York City

Most Expensive Beef Cuts in the World

25 Best Colleges to Get a Job

Top 10 US Supermarkets

The 25 Most Dangerous Cities in the World to Visit

Most Expensive Xbox Games

Top 11 Cities Where Billionaires Live

Top 10 Most Charitable Companies in America

Most Expensive Seafood in the World

The 10 Wildest Conspiracy Theories

The 10 Best Job Markets in the US

Top 10 Accounting Scandals of All Time

The 25 Biggest Cities in the World

Top 10 Best Paying Virtual Jobs

Most Expensive Leather Shoes in the World

Top 6 Things to Buy in March

The 10 Most Stressful Jobs in America – 2014 List

Top 10 Jobs for Introverted People

Top 10 Honeymoon Destinations in the World

Top 10 Highest Paying Jobs in the World

Most Expensive Day-Care in New York City

The 10 Cheapest Places to Retire Abroad

Top 10 Most Expensive Luxury Cars in the World – 2014

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!