The following is an extract from my latest FT column, which appeared on February 9th. It comments on the announcement by Vanguard, the US fund management company owned (unusually) by its investors, that it is planning to target the retail market in the UK for the first time. The published version of the column can be read on the FT website.
“About a decade ago, on my way back from a holiday in the United States, I took a thousand mile detour by Amtrak and hire car to Valley Forge, Pennsylvania, so as to visit the head office of an investment firm that all the big beasts in the finance and economics departments at MIT, from Paul Samuelson down, had raved about during my year’s fellowship programme there. At the time I had never met anybody in the UK who had heard of Vanguard, let alone found someone who knew anything about them or had visited their operations”.
“The two day visit turned out to be a real eye-opener, offering as it did a glimpse into a novel way of running an investment business that few on this side of the Atlantic would then have recognised. The purpose built office complex was in the middle of nowhere. It was clean and frighteningly efficient, in a buttoned down, earnest sort of way. All the employees were known as “crew”. They ate in the same canteen. In the best American tradition, the whole place gave off a tangible aura of hard work and intensity – not the sort of place, on first encounter anyway, where you immediately felt moved to make a flippant remark”.
“More impressive than the company’s cohesive culture however was its evident devotion to customer service and imaginative use of information technology. Vanguard was one of the first fund management firms to invest heavily in computerising its customer service operations. In those days it ran a total of four call centres, at different sites, each one of whose function was not just to take, but to deal with, calls from its 12 million mutual fund investors. Its target was to answer every call within a minute, and its strike rate was impressively high”.
“Vanguard, in other words, was a strikingly different business to anything I had ever come across in the UK financial services industry. It actually seemed to do what most firms only purported to do in their advertising materials. It had customer service as a priority; a well trained and highly motivated workforce; a mutual ownership structure that encouraged the firm to sell what was good for its customers, not merely what made the most money; stunningly low fees, based in part on a refusal to pay commission; and most strikingly of all, a range of product that it passionately – and with good reason – believed to be superior to that of most of its competitors”.
“The company is adamant that it will not pay commission, but rely instead on fee-based advisers to shift its fund range. It has however opted against direct marketing to the UK retail market at this stage. Of course it is true that in hindsight the golden age for index funds was in the 1990s, when a roaring bull market, coupled with the rise of the 401K retirement plan, for which index funds were particularly suited, allowed Vanguard to carry all before it in the marketplace”.
“Market conditions have clearly not been so helpful since 2000 and the company, some observers feel, may have lost a little of its competitive bite as it has matured. I do not have enough direct recent experience to answer decisively how well the mature Vanguard of today compares with the still developing company of ten or twenty years ago, or indeed with more established competitors over here such as as BGI. But the fact that the board of Vanguard has finally decided that it is time to enter the UK retail market is still a symbolically important and encouraging omen”.
“While market conditions are less favourable to index funds than in the golden age of the 1990s, its judgment however is that the trend away from commission and towards plain vanilla low cost solutions is now – finally – sufficiently well advanced to justify the cost and effort of setting up shop over here. The recent Retail Distribution Review is clearly not an unhelpful development in that respect. If Vanguard’s judgment is right, it is surely a portent for the future of competitors and intermediaries alike, and a sign that the use of the cheap, diversified and tax-efficient passive fund has at last completed the long journey from novelty item to mainstream fund design, something from which investors in aggregate can only benefit”.