Diversified Funds Inwardly sophisticated, outwardly simple Why diversification matters Four investment pillars We believe that a successful investment strategy starts with an When constructing investment portfolios, there are a number of asset allocation suitable for its objective. elements to consider, including the investment objective, time horizon, risk tolerance, taxes and costs. In practice, diversification is a rigorously tested application of common sense: Markets will often behave differently from each Many investors can become overwhelmed by the choice of other—sometimes marginally, sometimes greatly—at any given investment options, asset classes and investment styles. They time. also face behavioural risks in sticking to their investment plan due to the temptation of performance chasing or overreacting Owning a portfolio with at least some exposure to many or to market events. all key market components ensures the investor of some participation in stronger areas while also mitigating the impact We have designed Vanguard Diversified Funds to help investors of weaker areas. achieve their goals by focusing on factors within their control. Vanguard’s suite of Diversified Funds apply a number of At the core of Vanguard Diversified Funds are the four key investment best practices to give you portfolios you can use pillars of our enduring investment philosophy. to add real value for your clients. The portfolios include asset allocation, broad diversification and automatic rebalancing, • Create clear, appropriate investment goals | An which carefully balances risk, return and cost. appropriate investment goal should be measurable and attainable. Success should not depend upon outsized The funds offer a straightforward design, low investment costs investment returns, or upon impractical saving or spending and exposure to a mix of equity and fixed income investments requirements. to help maximise their usefulness to advisers and their clients. • Develop a suitable asset allocation using broadly diversified funds | A sound investment strategy starts with an asset allocation suitable for the portfolio’s objective. The allocation should be built upon reasonable expectations for risk and returns, and should use diversified investments to avoid exposure to unnecessary risks. • Minimise cost | Markets are unpredictable. Costs are forever. The lower your costs, the greater your share of an investment’s return. And research suggests that lower- cost investments have tended to outperform higher-cost alternatives. • Maintain perspective and long-term discipline | Investing can provoke strong emotions. Discipline and perspective are the qualities that can help investors remain committed to their long-term investment programmes through periods of market uncertainty. By following our best practice approach to asset allocation, diversification and transparency, Vanguard Diversified Funds maintain a balance between risk, return and cost. 1 Vanguard Diversified Funds at a glance Risk and return Investors can choose between four multi-sector portfolio Vanguard Diversified Funds aim to provide long-term returns solutions, depending on what they are looking to achieve, how that match investors’ desired level of risk. long they have to invest and how much risk they are prepared to take on. The broad allocations to defensive (fixed income) and growth (equities) are the main factors influencing the risk/return profiles Vanguard Diversified Funds cater to a variety of goals, risk of the Diversified Fund portfolios. tolerances and time horizons. Vanguard Diversified Funds are designed with a medium to Vanguard Diversified Funds: income/growth allocation long-term investor in mind (a time horizon of at least five years), reflecting the reality that the majority of Australian investors Conservative Balanced Growth High Growth need to accept some market risk in order to reach their 10 investment goals. 30 50 30 70 50 70 90 High Growth Income % Growth % Growth Balanced The key objective is to maximise the chances of investment Return success by providing low-cost solutions that meet the primary portfolio construction needs of most investors. Vanguard Conservative Diversified Funds are efficiently managed using a low-cost index approach to provide broad diversification across multiple asset Risk (Volatility) classes through a transparent and tax-efficient portfolio. Each fund has a strong track record in delivering competitive returns through disciplined asset allocation. Strategic asset allocation as the starting point Global Vanguard research shows that strategic asset allocation drives the vast majority of return variation and ultimately the investment experience, rather than market timing or security selection. Percentage of return variation explained by policy return1 Asset allocation Security selection and market timing 89.3% 1 Notes: For each fund in our sample, a calculated adjusted R2 represents the percentage of actual-return variation explained by policy-return variation. The percentage shown in the figure represents the median observation from the distribution of percentage of return variation explained by asset allocation for balanced funds. The Australian market sample covered 600 balanced funds from January 1, 1990, through June 30, 2016. Calculations were based on monthly net returns, and policy allocations were derived from a fund’s actual performance compared with a benchmark using returns-based style analysis (as developed by William F. Sharpe) on a 36-month rolling basis. Funds were selected from Morningstar’s Multi-Sector Balanced category. Only funds with at least 48 months of return history were considered in the analysis. The policy portfolio was assumed to have an expense ratio of 2.0 bps per month (24 bps annually, or 0.24%). Sources: Vanguard calculations, using data from Morningstar, Inc. 2 Why use Vanguard Diversified Funds? Diversification helps to smooth returns Broad diversification maintains investors’ exposure across Increasing the number of securities in an investment portfolio key global asset and sub-asset classes, allowing the investor to through an index managed fund is one way of reducing participate in the stronger-performing markets and sectors while risk within an individual asset class. But to achieve true mitigating the negative impact of weaker-performing ones. diversification it’s also important to invest across asset classes. Cost effective uses Vanguard’s low-cost index funds as When choosing where to invest your money, it’s important to building blocks and benefits from Vanguard’s economies of understand that the best and worst performing asset classes scale. This means that these funds deliver a sophisticated all-in- will often vary from one year to the next, as shown in the one investment solution at a relatively low cost. diagram below. The annual performance follows no discernible pattern, and Automatic re-balancing removes the risk of drifting from strategies that tilt or time the portfolio in an effort to outperform a target asset allocation, which could lead to portfolio risk also run the risk of substantial underperformance relative to the exposures that are not aligned with your clients’ risk and return broad market. A diversified mix of investments across asset objectives. classes can help smooth out returns over time. Low maintenance provides exposure to a consistent At Vanguard we believe investors should be broadly mix of equity and bonds investments. This gives you a low- diversified—both across asset classes and within each asset maintenance investment solution, allowing you to focus on class. A truly diversified investment approach minimises value-added client activities, such as financial planning and portfolio risk. Poor performing assets are offset by better asset location. performing assets to reduce return volatility over time. Financial year returns for the major asset classes (%), 20 years to 30 June 20162 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 Best performer Worst performer Australian shares US shares Australian listed property International shares Australian bonds International listed propertyC A International shares (Hedged) International bonds (Hedged)B Cash Source: Andex Charts Pty Ltd June 2016. 2Notes: Source: A. MSCI Andex World Charts ex–Australia Pty LtdNet TotalJune Return 2016. Index (Local Currency) – represents a continuously hedged portfolio without any impact from foreign exchange uctuations. B. Index prior to 30 June 2008 is the CitigroupNotes: World A. MSCI Government World Bond ex–Australia Index AUD hedged, Net Total from Return30 June 2008Index the (Local index is Currency) the Barclays – Global represents Treasury aIndex continuously AUD hedged (previously:hedged portfolio Lehman Global without Treasury any Index impact AUD fromhedged). foreign C. Prior exchange to 1 May 2013,fluctuations. index is the UBS B. IndexGlobal Realprior Estate to 30Investors June Index2008 ex is Australia the Citigroup with net dividendsWorld Governmentreinvested. From Bond May 2013Index the AUDindex ihedged,s the FTSE from EPRA/NAREIT 30 June Developed 2008 the ex AUSindex Rental is the Index Barclays with net dividendsGlobal Treasury reinvested.Index AUD Past performancehedged (previously: is not an indicator Lehman of future Global performance. Treasury Index AUD hedged). C. Prior to 1 May 2013, index is the UBS Global Real Estate Investors Index ex Australia with net dividends reinvested. From May 2013 the index is the FTSE EPRA/NAREIT Developed ex