Vanguard’s Approach to the >$11 trillion US ETF Market | Daniel Reyes, Vanguard

July 17, 2024 00:09:18
Vanguard’s Approach to the >$11 trillion US ETF Market | Daniel Reyes, Vanguard
FTSE Russell Convenes
Vanguard’s Approach to the >$11 trillion US ETF Market | Daniel Reyes, Vanguard

Jul 17 2024 | 00:09:18

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Show Notes

In our second episode of FTSE Russell Convenes, we are joined by Daniel Reyes, Global Head of Product at Vanguard, whose career with the firm spans over 14 years.

In his discussion with Dana Moody, Manager, Index Investments Group at FTSE Russell, Dan explains how Vanguard adapts to evolving ETF market dynamics, while staying true to its investment philosophy—to offer products and exposures it believes will drive positive investment outcomes over the long term.

The conversation flows into new entrants into the ETF market, novel exposures and the many different types of ETF strategies launched over the last decade, with most coming and going with a market cycle. Digging in deeper here, Dan shares his views on thematic exposures, and when an investment strategy turns from a fad into a sound investment strategy.

Wrapping up the discussion, the focus is on market structure, specifically in the U.S., where equity market indexes and returns have become increasingly concentrated. Dan addresses how Vanguard considers this in the index construction process of its products, and the broader product lineup.

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Episode Transcript

Dan Reyes: At Vanguard, commercial success of a particular strategy doesn't necessarily make it a sound investment idea or a sound investment strategy. We think about products, for instance, in a way where the first question that we ask ourselves is, does this product offer enduring outcomes, enduring investment outcomes, again, for decades? Dana Moody: Welcome to FTSE Russell Convenes. My name is Dana Moody and I'm a member of the Index Investment Group at FTSE Russell. Today we're joined by Dan Reyes, the Global Head of Investment product at Vanguard. Vanguard manages over nine trillion dollars of client assets. Today, we're going to talk about ETF market trends and also dig a little deeper into Dan's background and career journey. With that, thanks for joining us today, Dan. Dan Reyes: Thank you for having me, Dana. Dana Moody: Let's touch on ETFs. Obviously, ETFs are the marquee product in our industry for the last decade and it appears to only be gaining steam. Vanguard has been one of the most dominant players in the ETF market over the last decade in terms of net cash flows. But with the explosion of new entrants into the ETF market in recent years, how is Vanguard thinking about potentially adjusting the firm's approach for new market dynamics and also novel exposures that have been generating assets? Dan Reyes: In some ways, Dana, I mean, we're more vigilant than we ever have been about what's happening with clients and in particular, client preferences. But we're also really fortunate to have a product philosophy that's grounded in our investment philosophy. And in many ways, despite the new entrants or the new trends, the fact that we can keep on coming back to our investment philosophy is unbelievably helpful for how we think about product. And at the centrepiece of that investment philosophy is offering products and exposures that we believe are going to drive investment outcomes over the long term. So when we think about an investment idea or something that's developing in the market place, we ask ourselves, will this generate positive returns? Should it generate positive investment outcomes over decades? Is this idea that we think will last for decades? And in our experience, the idea of generating positive investment outcomes for our clients is actually what then drives asset growth and cash flow growth. It's more of an outcome as opposed to a specific objective. Now, that being said, Dana, we are attuned and we're always keeping an ear to the ground on what our investors are doing and how their preferences are evolving. And to the extent that those preferences don't undermine the investment outcomes that we're seeking to deliver, we'll look and we'll investigate those ideas even further. Dana Moody: It definitely sounds like, obviously, the firm's mission to seek out enduring strategies that last not only for a market cycle, but for years. Along the same vein around novel exposures and new entrants, there have been many different types of ETF strategies launched over the last decade. Most have come and gone with a market cycle. In terms of a lot of thematic exposures, for example. Some call them meme or fad-like products. However, there has been some products like the Bitcoin ETF that has had outside success. When does an investment strategy turn from a fad into a sound investment strategy? Dan Reyes: You know, at Vanguard, commercial success of a particular strategy doesn't necessarily make it a sound investment idea or a sound investment strategy. We think about products, for instance, in a way where the first question that we ask ourselves is, does this product offer enduring outcomes, enduring investment outcomes, again, for decades, right? And more specifically, what we're going to ask, is there a plausible economic rationale for why a particular product should generate positive real returns over the long term? If the answer to that question is no, then there is no transformation of something from a fad to a sound investment strategy. Our process is structured in a way where you think about the investment question first, and then you think about the client and trying to adhere to their preferences. And if the preferences that they want, say, for instance, they want to access a strategy in a newer or a novel wrapper, and if that novel strategy or the novel wrapper doesn't undermine the investment outcomes that we're aiming to deliver, then that's the next step in our process to evaluate and investigate further. Dana Moody: Now that totally makes sense. And obviously, Vanguard has a robust framework of how you call it a decision tree, if you will, to really evaluate the soundness of an investment strategy over the long term. Dan Reyes: Yes, it's absolutely sequential. You have to ask the investment question first, and then if you don't pass that investment question, you don't even make it to the client or the commercial aspects. Dana Moody: Thinking about Vanguard strategy, you kind of already, kind of, gave the broad view of how Vanguard thinks about investments in the market place. But in terms of the firm’s strategy and thinking in terms of growth, in the US and globally, not only for its assets, but also revenue, how does Vanguard assess optimal go-to-market strategy? What are some of those factors that go into that and how do you balance staying true to the ethos of Vanguard, low cost, long term, but also factoring in profitability for the business? Dan Reyes: We're pretty unique in the sense that our structure gives us effectively different objectives, right? So revenue maximisation, profitability maximisation, isn't the objective of Vanguard. And that's all derived, Dana, from the fact that clients own the funds, and the funds own Vanguard. And because the funds own Vanguard, our owners are effectively the clients. So it creates this virtuous circle where we're not necessarily trying to maximise revenue or profit at all. It's not something that you hear us talk about. What we do talk about a lot is whether or not the investment products that we offer are generating positive investment outcomes and giving investors the best chance for success. And that, in and of itself, if you produce great product and you surround it with the thought leadership, the support, the ecosystem, in some instances for some investors, advice that they can get from Vanguard as well, too, the growth is more of an outcome of focusing on trying to improve clients' investment outcomes on a day-to-day basis. Dana Moody: I think that definitely aligns with, like, obviously for again, enduring products, but also we think about the ecosystem, market dynamics. It sounds like Vanguard obviously factors all of that in. But again, with this longer-term approach. But digging on that, one of the points around market dynamics giving investors the best chance of success, a key component of that is market structure. In recent years, and specifically in the U.S., equity market indexes and returns have become increasingly concentrated. I'm thinking even broad market indexes like the Russell 1000, for example, and this is mainly due to mega-cap companies, i.e. the Magnificent Seven, really gaining more market share. How is Vanguard factoring this into how the firm thinks about index construction process of their products, but also just the broader product lineup in general? Dan Reyes: So I think, Dana, you're totally right to highlight the rise of the Magnificent Seven and the role that that plays in index concentration. And the one thing I would point out, though, is that index concentration actually isn't something that is new. It changes over time. If you look back to periods like the 1960s or the early 2000s, you'll see increases and decreases in index concentration. Right now, we're at a point in index concentration where the market is certainly taking notice, right? And we undeniably, fundamentally, believe that investors are served well by broadly diversified broad market exposures, of which those indexes that you reference are still a huge part of them. The other thing that we focus on is as the index incels, and certain indices become more concentrated, is making sure that investors have high quality tools to dial up their exposures, however they see fit that's in line with their investment views and their investment risk tolerances. But we're also careful not to slice the onion too thinly. We want to make sure that investors, even if they are modifying their exposures and have access to high quality tools, different exposures to design what they want, that they're still well-served by broadly diversified exposures. Dana Moody: Market concentration is not a new thing. And also, there's so many different tools that firms like yourself can use to account for that market concentration, but also still delivering those products, those sound products to investors to give them the outcomes that they need. Investors are obviously in good hands. With that, I think we're out of time. But thank you, Dan, for joining us. It was a great discussion. You definitely gave our listeners good insights into the ETF market and how Vanguard is continuing to position itself for success in the future. Dan Reyes: Thank you for having me, Dana. I really appreciate it.

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