Vanguard Announces Index Change For Seven Funds

April 01, 2003

Vanguard is switching indexes for five of its style funds as well as its mid-cap and small-cap funds. The funds will now aim to track new indexes that have been launched by Morgan Stanley Capital International (MSCI). Each fund will continue to track the same segment of the market, consistent with fund objectives, but will do so in a way that Vanguard asserts will have less turnover and more style integrity.

Making the change to the MSCI indexes are the mid-cap, small-cap, value, growth, small-cap value, small-cap growth and variable insurance (mid-cap portfolio) funds. Assets in the seven funds making the transition total nearly $20 billion. Vanguard currently has a total of $200 billion in indexed assets (of some $600 billion that it manages overall) in 40 index funds tracking 22 benchmarks from seven index providers. Vanguard said that the transition to the new MSCI benchmarks was expected to occur between April 20 and September 30, 2003.

Gus Sauter, Vanguard's Chief Investment Officer, said that Vanguard has been "very pleased" with how the new indexes were performing thus far, and noted that "It was not at all a difficult decision to formally recommend to the boards that the funds transition to the new indexes."

Vanguard Fund (assets as of 3/31/2003)

Current Index

New Index

Vanguard Mid-Cap Index Fund ($3.3 billion)

S&P 400 MidCap Index

MSCI U.S. Mid Cap 450 Index

Vanguard Value Index Fund ($3.0 billion)

S&P 500/ BARRA Value Index

MSCI U.S. Prime Market Value Index

Vanguard Growth Index Fund ($7.4 billion)

S&P 500/BARRA Growth Index

MSCI U.S. Prime Market Growth Index

Vanguard Small-Cap Index Fund ($4.0 billion)

Russell 2000 Index

MSCI U.S. Small Cap 1750 Index

Vanguard Small-Cap Value Index Fund ($1.3 billion)

S&P SmallCap 600/BARRA Value Index

MSCI U.S. Small Cap Value Index

Vanguard Small-Cap Growth Index Fund ($487 million)

S&P SmallCap 600/BARRA Growth Index

MSCI U.S. Small Cap Growth Index

Vanguard Variable Insurance Fund-- Mid-Cap Index Portfolio ($253 million)

S&P 400 MidCap Index

MSCI U.S. Mid Cap 450 Index

The indexes that are being replaced are notorious for high turnover (the Vanguard small-cap growth fund has turnover of over 60%, for example, according to the Vanguard Web site) and problems with a significant number stocks that seem intuitively to be in the wrong categorization, move back and forth from one style to the other, or suffer from an index effect of higher prices being paid for stocks entering an index or lower prices gotten for those exit. Most style indexes have suffered from these problems. MSCI claims that the new indexes will address these concerns, although if the MSCI indexes meet their aspirations and gain widespread acceptance, it is unclear how they will avoid the index effect.

Sauter indicated that he feels that nearly all of his objectives for a good index have been met. (Sauter outlined these viewpoints in an article in the Journal of Indexes, 2nd Quarter 2002, which can be viewed at publications/journalofindexes/articles/9-2nd-quarter-2002/1411.html. The 1st Quarter 2003 issue includes an article by Khalid Ghayur, director of research at MSCI, which outlines the index providers' viewpoint.)

"As the leading manager of index mutual funds for more than 25 years, we have formulated certain views of what makes for optimal index construction," said Sauter. "The new MSCI indexes incorporate most of the best practices we seek in market benchmarks, and we expect them to reflect the performance of the funds' targeted market segments more accurately than any other available indexes."

The adoption of these new benchmarks will expand the number of Vanguard index funds tracking MSCI benchmarks to 13 from six. MSCI has provided benchmarks for Vanguard's international index funds since 1990.

" We are very pleased that Vanguard has adopted our new U.S. stock indexes," said Henry Fernandez, President and CEO of MSCI. "This vote of confidence from the leader in index mutual funds is a major step toward broad recognition of the superiority of our new index methodology resulting in a more accurate representation of the U.S. stock market."


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