The asset management giant is cutting costs on its ETFs in Asia, and spoke to this publication about its strategy in the region.

Vanguard, the US-based firm that has been a trailblazer for low-cost, index fund investing, has slashed management fees on all of its Hong Kong-based exchange traded funds, with fees reaching 2 per cent and below on three funds.

The Vanguard S&P 500 Index Fund, the firm’s latest exchange traded fund launched five months ago, now has a total expense ratio - the percentage of total fund costs to total assets - of 18 per cent, a 22 per cent drop from 25 per cent. This move qualifies the fund as the most accessible ETF of its category for investors in Hong Kong, gaining Vanguard kudos for bringing value for money, it says.

The average TER for all Vanguard’s five Hong Kong-listed ETFs is 0.22 per cent, compared with the Hong Kong ETF industry average TER of 0.67 per cent, according to Morningstar’s independent research as at 31 August 2016.

Vanguard has been busy. In other news about the firm, from the end of this year, Vanguard’s Asia business will be led by David Cermak, current head of Vanguard Japan, a position he has held since June 2013. In his new role, Cermak continues to report to Jim Norris, managing director for Vanguard International, and is based in Hong Kong. In the interim, he will continue to oversee the Japanese business until a successor is named. Charles Lin, who has been instrumental in developing a China distribution strategy over the past five years, takes on a new role as head of China, where he will take on full responsibility for mainland China's build out, a strategic focus for the international business. Shelly Painter, regional MD for Vanguard Asia, will return to the US to lead the company’s enterprise risk management function. She will report to Chris McIsaac, MD, planning and development. 

As a top-level provider of "passive" funds, the firm also offers actively-managed portfolios. Vanguard is at the centre of a debate about whether, if mainstream markets are broadly "efficient", it makes sense to try and find the best stock-pickers, or whether it is better to simply track a market for the long term and not pay fees to active managers. Certainly, recent years have seen a surge in use of ETFs, driven to some extent by rising regulatory costs and changes over how advisors and other intermediaries are paid by clients, encouraging a shift to low-cost funds.

The Pennsylvania-based group, the world’s largest mutual fund company and second-largest ETF provider, has been advocating cost cuts and diversification through ETFs ever since inception forty years ago, according to James Martielli, head of portfolio review in Asia.

“Investors in Hong Kong are starting to get the firm’s message about the case for cutting costs via ETFs and using these vehicles to diversify," he told this publication.

The ratio for its Asia ex-Japan Index ETF, the first to have been listed in Hong Kong, will fall to 0.2 per cent from 0.38 per cent, marking a 47 per cent cut. The total expense ratio for its FTSE Asia-ex Japan High Dividend Yield Index ETF has declined to 0.35 per cent from 0.45 per cent.

Persuaders
Cuts in costs and improved returns have made the case for ETFs in the region more persuasive, Vanguard said.

When asked whether the firm was expecting to launch actively managed funds there in the near future, Martielli replied that the firm, which is a major proponent of passively managed funds, was not planning on such a change.

Hong Kong is still very much a pay-for-play market for ETFs and Vanguard’s products differentiate themselves by offering greater transparency for investors at a lesser cost, he said.

In terms of performance, the company claims that 93 per cent of all of Vanguard funds are outperforming the average returns of their peer groups over a ten-year period.

Although the company holds a third of its assets under management through actively managed funds - most of which are held in the US - Martielli said Vanguard "would not change a thing about its current Asia strategy”. He believes the cost cuts associated with passive funds are at the centre of their clients’ interests, and that, in turn, this will inevitably benefit the firm.

Going global
The five ETFs listed in the territory will allow investors to own about 80 per cent of the global equity market capitalisation, covering more than 2,200 individual stocks, and 25 countries. The firm said it is the only one to offer such extensive access to equities across the globe from Hong Kong.

Martielli said he is keen on Chinese equities, but he added that this should not come to the detriment of a well-balanced portfolio, which should be pursued by integrating stocks with greater outreach, and stocks from different regions.

“There is a strong inclination in Hong Kong to invest in Chinese equities or regional equities, but that’s not all there is,” he said.

Building blocks
When asked whether he had a preference for a specific type of product at the moment, Martielli did not give other specific details, except for an interest in Hong Kong’s Default Investment Strategy.

“With the Default Investment Strategy being implemented, we are exploring opportunities to bring low-cost investing to the local MPF [Mandatory Provident Fund] market,” he said.

Martielly elaborated on the firm’s modus operandi, saying: “We have a building-blocks approach, a continuing long-term perspective on all our investments, and wouldn’t give priority to highly leveraged products for instance."

Asked if Vanguard had a strong view about the interest rate strategies of central banks, Martielli said the firm usually discourages anyone from listening to background noise on quantitative easing policies and says they should keep to their original strategy, unless their personal circumstances have changed.

The costs that count
Given the strong attachment to long-term investment strategies, it is no surprise that the firm has made efforts to reduce management costs, which is “one of if not the only factor we can control”, Martielli said.

“If you are investing for two days through an ETF, it does not matter so much what the management costs are, but the longer term you start looking, the more it matters,” he added.

“We will continue to reduce costs, reflecting our positive results,” said Martielli.

However, when asked to be more precise on how the distribution of cost cuts was calculated, Martielli did not elaborate.

“It is not a formula calculation,” said Martielli, “but what we can say is that when looking at economies of scale, we do not look at the picture on a product by product basis but rather at an industry as a whole.”

Linda Luk, Vanguard managing director for retail and intermediary business for Asia, said: “We integrate factors such as how well other indexes are doing and compare that specific ETF to others, and another factor is how our clients are reacting to our products.”

The firm applies different total expense ratios for developing markets and developed markets, she said. When asked whether that was to take into account the differences in overall economic performance of a country, she said that was not the case.

Though the firm seeks to continue pursuing other diversification opportunities in the region, there are no immediate plans to increase the number of Asian funds, said Lin.

However, a listing in Taiwan is being considered with interest, he said.

The firm is also upbeat about the new opportunities the Shanghai-Hong Kong Stock Connect should open up and expects to see a deeper ETF market with a greater choice of stocks.

(The author is a journalist based in Hong Kong.)