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Active vs Passive Fund Share of US Equity Fund Assets Source: Research Affiliates, Data as at 31st Dec 2024 The financial services industry sometimes does not aid understanding with the labels it employs. Index funds and index ETFs are often labelled ‘passives’ in contrast with ‘active’ funds, like Fundsmith Stewardship Fund, which have a fund manager making investment decisions. The ‘passives’ mostly track the index they invest in by holding the stocks in proportion to their market value. Far from being passive in any normally accepted sense of the word, this makes them a momentum strategy. A momentum investment strategy is one in which the investor buys stocks which are performing strongly. If you redeem money from an active fund like Fundsmith and invest it in an S&P 500 Index tracker fund your new fund will buy the index stocks in proportion to their market value. Currently about 7% of it will go into Nvidia which we do not own. About 35% will go into the Magnificent Seven of which we own only three stocks — Alphabet, Meta and Microsoft. This gives added momentum to those stocks we do not own which are a major part of the index. John Bogle, the pioneer of index investing who founded Vanguard, the index fund manager, was asked at the 2017 Berkshire Hathaway annual meeting if there was a level of assets in index funds which would distort markets and he agreed that there was, although he had no method of determining that level. We may already have reached it.markets

If you had invested $100 in the Vanguard Long US Government Bond Index Fund (Ticker: VBLAX, ‘Bond Fund’) in June 2020, at the trough in yields on US Treasury bonds, your total income over the next 10 years would be a mere $7 i.e. you would receive 70 cents per annum in income. You would have had to invest a lot of dollars to get an income you could live on. Had you invested in October 2023, which may represent the high point in this economic cycle for bond yields, your total income over the life of the investment will be $47.50. Quite a change. This illustrates two points. One is that you would have lost a lot of money had you bought the Bond Fund in 2020 and had still been holding it in October 2023. The Bond Fund’s net asset value, at which it trades, declined from a peak of $17.71 in June 2020 to a low of $9.19 in October 2023, a fall of 48%. This puts the losses from investing in high quality equities over this period into perspective. Better to be in equities than long bonds when interest rates rise sharply. The other point it illustrates is that bonds have been offering an alluring alternative to equities for many investors.close

higher education, as noted in press reactions, curricula in leading business schools, and the reception of Swensen’s books about institutional and per- sonal investing principles. He frequently appeared as a speaker or pan- elist, won prestigious awards, and, hailed for his stewardship for the pre- vious twenty-four years with “a record unequaled among institutional investors,” he was appointed to President Barack Obama’s Presidential Economic Recovery Board in "##$. In David Swensen, Yale had an investment chief who was also uniquely involved in the life of the institution, educated in its doctoral program, active as a teacher, proud of Yale’s record of accomplishment and committed to its unique standards. Above all, Swensen was always aware of the essential link between resources and the university’s capac- ity to pursue its role in the vanguard of research and educational institu- tions. Working closely with the Yale Investment Committee as advisers, he was guided less by mere numbers, important as they are, than by service to the institution’s mission. He regularly stressed the necessity “to balance the demands of tomorrow against the needs of today” by provid- ing “substantial levels of cash flow to the operating budget for current scholars, while preserving endowment purchasing power for future gen- erations.” His professional commitment to his work and to Yale was acutely personal. A leader of his scope and impact leaves a strong legacy.

So while he has left quite a legacy on so many dimensions, the simple truth remains that he will be sorely missed. Steve Freidheim, excerpt from Cyrus Quarterly Letter David had a truly beautiful mind. No other individual has done more for Yale; no other has done more for institutions dedicated to doing good in this world. Kim Sargent, Chief Investment Officer, David and Lucile Packard Foundation What people may not know about David is what a dedicated teacher and mentor he was to young people. Austan Goolsbee, former chairman, Council of Economic Advisers (on %&&) David Swensen will be remembered for how great he was at his job, but I hope we will all take a moment to remember what a kind, decent person he was and how much he cared for the public good. And how that very decency was what made him great at his job. John Bogle, founder, Vanguard Group Swensen is one of only a handful of investment geniuses on the planet. Ben Jacobs, '() Companies My initial impression of David matured to become my definition for a “great” individual, my iconic standard by which to measure others and a goal for my life. David changed the way insti- tutions think about investing.

Rebuilding Faith: Wealth Management in the New Era Keynote Speech by John C. Bogle Founder and Former CEO, The Vanguard Group Before the “Changing the Game” Thought-Leadership Forum New York, NY June 12, 2002 “Investing is an act of faith.” So reads the very first sentence in my Common Sense on Mutual Funds: New Imperatives for the Intelligent Investor, published in 1999. “When we purchase Corporate America’s stocks and bonds,” I pointed out, “we are professing our faith that the long-term success of the U.S. economy and the nation’s financial markets will continue—and that our corporate stewards will generate high returns on our investments.” We are also, I added, “expressing our faith that our professional (money) managers will be vigilant stewards of the assets we entrust to them.” Perhaps it goes without saying that in recent years these three articles of faith, faith in the stock market, faith in the corporate executives who run our publicly-held enterprises, and faith in the trustees who manage our money—have been tested. And found wanting. If there is a single over- riding task that lies before us—especially each one of us in this room today—it is restoring our citizens’ faith in investing.

What Will Survive Of Us Is Love Remarks by John C. Bogle Founder and former Chairman, The Vanguard Group Before the United Way Community Rochester, NY October 2, 2001 It has been nearly a full year since I was invited to speak to you about the importance of sharing our blessings with our community. Then we citizens of the United States of America lived—or at least we thought we lived—serene and safe, in a world that was pretty much at peace. But exactly three weeks ago today, on September 11, 2001, that illusion was shattered. Our world changed, and with it the theme of my remarks this evening. The aftermath of the devastating attack on the proud towers of the World Trade Center was terrible beyond imagination: Their collapse into a twisted pile of rubble and dust; the devastating human toll—six thousand lives, more than at Pearl Harbor or Antietam, more than in the entire course of the American Revolution from 1776 to 1783; the poignant cell phone messages pledging love in the face of death; the billions of dollars for clean-up and rebuilding costs, for enhanced security, and for preparations to fight a war. None of us will ever forget exactly where we were at nine o’ clock on that crystal clear, bright, and fateful morning. What does it all mean? It means there is life as well as death, evil as well as goodness, grief as well as joy, destruction as well as creation.

It’s High Time We Return Capitalism to its Owners Keynote Speech John C. Bogle, Founder & Former CEO The Vanguard Group to the 2004 Institutional Shareholder Services Annual Conference “Corporate Governance: The New Reality” Washington, DC February 26, 2004 Only a week ago, that consistently passionate voice of the free enterprise system, the editorial page of The Wall Street Journal, hit the proverbial nail on the head: “The constant tension at the heart of corporate life: ensuring that the managers serve the shareholders and not themselves.” During the recent era, that constant tension has, far too often, been resolved in favor of the managers, the diametrical opposite of the cause that the Journal champions. It is high time that we return capitalism to its owners. Yes, corporate governance is indeed “the new reality.” The evidence of how far we have departed from Owners Capitalism is pervasive. One corporate scandal has followed another, and the egregious behavior of some of the imperial chief executives whom we so recently lionized provides additional eloquent evidence of the departure.

“Gentlemen . . . To Save Our Business from Ruin, We Must Reduce Expenses” Remarks by John C. Bogle Founder and Senior Chairman, The Vanguard Group of Investment Companies On Receiving The Special Achievement Award of the National Association of Personal Financial Advisors Washington, DC June 4, 1999 It is a signal honor to be named as the first mutual fund executive to receive this award for distinguished service to the financial services industry, all the more so since the award places me in the company of author-journalist Jane Bryant Quinn, U.S. Representative Edward Markey, and SEC Division Director Kathryn McGrath, who have also stood for serving the mutual fund shareholder in the most honest, efficient, and economical way possible. It all comes down to giving the fund investor a fair shake. I do not believe that the mutual fund industry is giving the investor a fair shake today.  Marketing and promotion have taken precedence over management and trusteeship, a shift dramatized by the fact that the industry’s star manager of the 1980s and early 1990s has become the industry’s star marketer during the waning years of the millennium.  The traditional mutual fund watchword—“For the long term investor”—is belied by fund portfolio turnover that now approaches 100% per year, and turnover of investors’ holdings of fund shares that has risen to 30% per year.

Reflections on Markets, Ethics, and Careers Remarks by John C. Bogle Founder and Former Chief Executive, the Vanguard Group at The Stern School of Business, New York University New York, NY March 23, 2007 Over the years, I’ve done more than my fair share of speaking, but I still get my greatest joy in meeting in an academic environment, and especially with the college students who are our nation’s hope for the future. While I welcome you all here this afternoon, I confess to the teachers and business leaders who have been kind enough to join us that it is the students who will be the prime focus of the latter part of my message. But I think you’ll all find food for thought in the ideas that I’ll present. In my limited time, I want to reflect on our financial markets and our business ethics, and their relationship to the careers of our leaders, future as well as present. In my recent book The Battle for the Soul of Capitalism, I get right to the point in its dedication, to my twelve grandchildren—half of whom are now college students—and the other fine young citizens of their generation: “My generation has left America with much to be set right; you have the opportunity of a lifetime to fix what has been broken. Hold high your idealism and your values. Remember always that even one person can make a difference. And do your part ‘to begin the world anew.

“A Question So Important that It Should Be Hard to Think about Anything Else” Remarks by John C. Bogle, Founder, The Vanguard Group Before the CFA Society of Philadelphia On CFA Day, the 60th Anniversary of the CFA Institute June 12, 2007 I’m honored (and humbled) to be on the same program as two of Philadelphia’s finest money managers, John Neff and Ted Aronson. Not only are they both professional investors, a somewhat exceptional title in this age of the professional speculator, but they are also men of extraordinary career accomplishment and high personal integrity. With their long experience, they are far more able than I to comment on the financial markets. I will focus on the evolution of the investment profession and on what lies ahead.1 “It is my basic thesis—for the future as for the past—that an intelligent and well-trained financial analyst can do a useful job as portfolio adviser for many different kinds of people, and thus amply justify his existence. Also I claim he can do this by adhering to relatively simple principles of sound investment; e.g., a proper balance between bonds and stocks; proper diversification; selection of a representative list; discouragement of speculative operations not suited for the client’s financial position or temperament—and for this he does not need to be a wizard in picking winners from the stock list or in foretelling market movements.

A New Era for Corporate America, for Mutual Funds, and for Investors Remarks by John C. Bogle Founder and Former Chairman, The Vanguard Group Distinguished Speaker Series The Owen School of Management Vanderbilt University November 11, 2003 Nashville, Tennessee I'm delighted to return to Vanderbilt and to the Owen School of Management. (Congratulations, by the way, on being named one of the top MBA "hidden gems," and your great leap forward to a rank of #15 in the recent Wall Street Journal rankings!) I'll talk to you today about the new era for investing that lies ahead—a new era in our financial markets in which we can expect more subdued returns then those of the latter half of the second century, a new era for the governance of corporate America after the egregious financial manipulation of the 1990s; and a new era for the mutual fund industry growing out of the recent scandals. Our business institutions need to be reinvigorated, and that situation creates great opportunities for each one of you. Of course I'm especially pleased that my son Andrew is preparing here for his MBA, continuing the tradition begun by his brother, John, Owen 1983, who moved on to a distinguished and successful business career and now runs his own money management firm. It was eleven years ago when I was honored to deliver the Commencement address to your Class of 1992. It was entitled "Press On, Regardless," and while I don't know how many graduates took the advice, it's clear that I did.

Investing with Simplicity Speech by John C. Bogle Senior Chairman and Founder, The Vanguard Group ~ ~ ~ The Personal Finance Conference The Washington Post Washington, D.C. January 30, 1999 Many of you have heard the ancient Chinese curse---<:urse, mind you-that says, "may you live in interesting times." Curse or not, surely this is as interesting a time as it is possible to imagine. The extraordinary volatility in the financial markets is just one example of the stepped-up pace of our lives in an era-·a new era, to be sure-in which the technology revolution, the information explosion, and the rise of global interdependence have altered almost every activity in our daily lives. In important measure, it is these developments that have brought most investors unprecedented prosperity and wealth accumulation, and helped make mutual funds the investment of choice among American families. You now have all the information you could possibly need---except, of course, information about the future course of events and markets-to make investment decisions. But you should not mistake information for knowledge ... nor should you ever, ever mistake knowledge for wisdom, the ultimate weapon of the intelligent investor. During this "Personal Finance" conference, you'll hear a lot of good common sense. Pay attention to it. But you'll also hear a considerable amount of investment wizardry, financial legerdemain, and tempting solutions, often from the apparently omniscient. Disregard it.

Entrepreneurship—What’s It Really About? Remarks by John C. Bogle, Founder and Former Chairman, The Vanguard Group On Receiving The Entrepreneur of the Year Award From The National Foundation for Teaching Entrepreneurship    Introduction by John C. Whitehead Former Co-Chairman Goldman Sachs, Chairman, Lower Manhattan Development Corporation New York, NY May 19, 2003 Thank you, John Whitehead, for that infinitely generous introduction. Thank you, directors of NFTE, for honoring me with your recognition. Thank you, honored guests, for supporting this marvelous mission. And, most of all, thank you, young entrepreneurs for the wonderful reminder that I too was once a young kid, short on financial resources but long on grit and energy and optimism, and, like each of you, a kid determined to make his way in a world laced with obstacles, but loaded with opportunities. Never Underestimate the Power of Simplicity While entrepreneurship is often thought to involve an idea that requires an incredibly creative leap of the human mind, followed by its implementation through a remarkably clever marketing scheme, never underrate the power of a simple idea with energetic implementation. Indeed, my own career is a monument, not to brilliance, but to simplicity. For Vanguard’s core investment values are the manifestation of a simple mathematical formula: The gross returns earned in our financial markets, less the costs of our financial system, equals the net returns earned by investors.

Three Lucky Breaks—Three Exciting Careers Remarks by John C. Bogle President, Bogle Financial Markets Research Center Founder and Former CEO, The Vanguard Group Former CEO, Wellington Management Company On Receiving the Founders Award for Business Leadership From the Union League of Philadelphia Philadelphia, PA November 22, 2002 I am deeply honored to receive your Founder’s Award for Business Leadership, not least because your motto—Love of Country Leads—is so utterly consistent with the manner in which I’ve tried to live my career. Going back to my first job in the mutual fund industry, I’ve done my best to serve American investors, offering our citizens no more nor less than the opportunity to earn their fair share of whatever returns our financial markets are generous enough to provide, the result of whatever long-term economic value our system of democratic capitalism creates. Indeed, not only my career but my life are a tribute to how blessed I’ve been to be a citizen of these United States of America. I was raised in a family that was far from wealthy, enjoyed public schooling through tenth grade, and then, thanks to generous scholarships and the opportunity to earn enough extra money through campus jobs, was privileged to attend and graduate from Blair Academy and then Princeton University.

The Marriage of Information Technology and Investing: For Richer or Poorer? Keynote Speech by John C. Bogle Founder and Former Chairman, The Vanguard Group Annual Interchange Conference of the Society for Information Management (SIM) The Loews Philadelphia Hotel Philadelphia, PA October 22, 2001 The marriage of information technology and investing has changed our nation’s—and the world’s—financial system, and its wedding vows reverberate all through the mutual fund industry. Given the tumultuous geopolitical, economic, and market era in which we are now living, and with the unprecedented terrorist attack on the heart of the U.S. financial system, an economy in recession, and the most severe bear market in more than a quarter-century, adding the phrase “for richer or poorer” to my theme could hardly be more timely. We are in a New Era in which America is being challenged on her own shores, even as the New Era of information technology shapes nearly everything we do. Just as we were taught in our college economics classes, however, competition remains the iron rule of capitalism. The Internet, for all of its mind-boggling complexity, speed, accessibility, and entrepreneurial innovation, has proven to be just what we should have expected: Not only a superb medium for human communication, but the greatest medium for unfettered price competition ever designed by the mind of man—a priceless asset to consumers, but an enormous challenge to the profitability of producers.

Three Odysseys— The Long Adventurous Journeys of the Stock Market, the Mutual Fund Industry, and Vanguard Remarks by John C. Bogle Founder and Former Chairman, The Vanguard Group The Wisemen New York City, NY November 15, 2001 In January, 2001, when I accepted your kind offer to join you this evening, little did any of us imagine that the first year of a new millennium that began with such great promise would end with such staggering challenges to our American way of life. Our economy has been—and will continue to be—greatly affected by the attack on America, and I’d like to talk to you tonight about what’s next in three different financial odysseys: The long adventurous journeys of the stock market, the mutual fund industry, and Vanguard. What happened on September 11, just four miles from here, struck like a stiletto into the American psyche and our economy. Its echoes quickly reverberated across our financial markets, reminding us once again of one of the most elemental realities of investing: Stock market returns are created by just two factors—economics and emotions. When the stock market reopened after the attack, emotions held sway. How could it have been otherwise?

The Wisdom of Investment – The Folly of Speculation Keynote Address by John C. Bogle, Founder and Former Chairman The Vanguard Group at The Sixth Superbowl of Indexing Phoenix, AZ December 5, 2001 Way back in 1968, the Stanley Kubrick-Arthur Clarke film 2001: A Space Odyssey—at once a story of human civilization, the space age, and the power of computer technology—put a durable imprint on this first year of the third millennium. But 2001 also marks a double anniversary year for indexing. Thirty years ago, in 1971 at Wells Fargo Bank, James Vertin, William Fouse, and John McQuown pioneered the effort by establishing the first indexed pension account for the Samsonite Corporation. And twenty-five years ago, in August 1976, the first index mutual fund, established by Vanguard eight months earlier, completed its initial public offering. In both cases, the starts were precarious. At Wells Fargo, the tiny $6 million index account was invested in an equal-weighted index of New York Stock Exchange equities. Its implementation proved to be a nightmare, and in 1976 it was replaced with the market-capitalization-weighted Standard & Poor’s 500 Common Stock Price Index. At Vanguard, we had earlier selected that same index as the standard for our newly-formed 500 Index Fund—known at the outset as First Index Investment Trust—and its offering raised but just $11 million.

Mutual Funds at the Millennium: Fund Directors and Fund Myths Remarks by John C. Bogle, Founder and Former Chairman The Vanguard Group To the ’40 Act Institute of PLI* New York, NY May 15, 2000 As I was doing the research for my Princeton thesis on the mutual fund industry in 1950, a mere half-century ago, I discovered a report from the Securities and Exchange Commission which described mutual funds as “the most important financial development in the U.S. during the past 50 years.” Just how the SEC reached this powerful conclusion about an industry which had but $2½ billion of assets and represented only 1½% of the financial assets of American families was not at all clear to me. But, by golly, they were right! Since then, the fund industry has lived up to that early promise—and then some. Today, with assets totaling $7.2 trillion, and accounting for a stunning 90% of the net additions to family liquid savings over the past five years, mutual funds have become the largest aggregation of financial assets in the land. But this industry has lost its way. A half-century ago, it was far more an investment business than a marketing business. Today, the reverse is true. Measured not only by the fund industry’s very nature and focus, but by its relative expenditures on each function, the industry is primarily a marketing business. Then, funds were long-term investments, fund managers were long-term investors, and fund shareholders held their shares for an average of 15 years.

Happiness or Misery? Investment Performance in an Age of “Investment Relativism” Remarks by John C. Bogle, Chairman and Founder The Vanguard Group Before The Washington (D.C.) Society of Investment Analysts December 16, 1997 Today, more than any time in the history of the financial markets, the quest for investment success is focused on relative performance over the short-term. We have entered what I call “The Age of Investment Relativism,” as all eyes seem focused on a comparison that has become as much a part of our lives as the daily fluctuations in the stock market: How did the equity portfolio we manage perform relative to the Standard & Poor’s 500 Composite Stock Price Index? Whether we experience happiness or misery seems to depend on how we answer that question. The impecunious and mercurial Mr. Micawber (in Charles Dickens’ David Copperfield) set the stage for my theme some 150 years ago, bestowing happiness and misery according to the following formula: “Annual income, twenty pounds, annual expenditures nineteen six, result happiness. Annual income, twenty pounds, annual expenditures twenty pounds six, result misery.” Similarly, as investment managers today, we work in a system that seems to operate according to this updated formula: “market return, eighteen point six; my return nineteen point one; result happiness. Market return, eighteen point six, my return fifteen point seven; result misery.

Business as a Calling Remarks by John C. Bogle Founder, The Vanguard Group On Receiving the Honorary Doctor of Laws Degree The University of Rochester William E. Simon Graduate School of Business Administration June 11, 2000 William E. Simon was my friend, and we shared many business and human values. When I began to write these remarks a few weeks ago, I had him in mind, and looked forward to having him hear them today. Alas, our lives follow God’s plans and not our own, and that’s not going to happen. But I dedicate this talk to Bill’s memory.    Good morning. On this glorious occasion, congratulations on earning the advanced business degree you will shortly receive. It is hardly a secret that you are entering a world of unparalleled prosperity in America. Business is booming; salaries to professional school graduates are generous almost beyond imagination; the stock market remains at a level undreamed of as little as a decade ago; our world is spinning in lightning-quick revolutions. The Information Revolution has become the analogue, as some would have it, of the Industrial Revolution of 100 years ago and the Agricultural Revolution 1000 years before that. Hyperactivity and speed—perhaps nicely captured by today’s acronymic society: ATM, B2B, B2C, DSL, MP3, NASDAQ, to cite just a few—seem to be the watchwords of these feverish times. We truly live in a New Era, offering exciting opportunities not only in new ventures, but in established firms eager to join the fray.

Looking At Investing From A New Perspective, A Half Century Old John C. Bogle, Founder and former chief executive The Vanguard Group ∞ ∞ ∞ Before The CFA Society of Los Angeles Los Angeles, CA February 26, 2007 I’m honored to be here with you investment professionals today, especially in this lovely city on this beautiful day. When your Board members learned that I would be in Malibu to give a lecture at Pepperdine on “Artistic Entrepreneurship and Technology,” they kindly invited me to meet with you during my visit. I was delighted to accept, and I appreciate your coming to this luncheon on such short notice. It’s ironic that at my lecture tomorrow my remarks will revolve around the theme of my previous book, The Battle for the Soul of Capitalism, published by Yale University Press in October 2005. In Battle I discuss, among other things, the failure of our new “agency society” that has developed over the past five decades, supplanting our old “ownership society,” now long gone and never to return. Today, financial institutions hold 68 percent of the shares of the stocks of all U.S. corporations, a dramatic change from 1950, when only 8 percent of shares were held by institutions and 92 percent were owned directly by individual investors.

Human Beings: Essential Link in The Service-Profit Chain A Vanguard Perspective Remarks by John C. Bogle, Founder and Senior Chairman The Vanguard Group of Investment Companies    Harvard Business School December 7, 1999 Way back in 1990, at our traditional Christmas/Holiday Party, the title of my speech to our organization was “If You Build It, They Will Come,” a theme borrowed from that wonderful film “Field of Dreams,” the story of baseball old-timers who appear on a diamond carved out of the cornfields of Iowa. I used that theme to reinforce Vanguard’s philosophy of creating solid mutual funds with sensible strategies, providing first-class service to our shareholders, holding a tight lid on operating costs and minimizing marketing costs—of doing it all right—and then waiting patiently for investors to come. Amplifying my theme, I then asked the question of who the you is that builds, what the it is that we build, and who the they are who come. My answers: you are our employees; it is our products; and they are our customers. Before my audience had a chance to reflect on those answers, I sprung my trap: Employees and products and customers are words we simply don’t use at Vanguard. An employee, it seems to me, is a person who works for someone else, who does his or her job from nine to five each day, who asks no questions and makes no waves, and who then picks up a paycheck at the end of the week.

The (Non) Lessons of History—and the (Real) Lessons of Return Sources and Investment Costs Remarks by John C. Bogle Founder, The Vanguard Group Before The American Philosophical Society Philadelphia, PA November 10, 2012 For virtually my entire career in finance—now more than 61 years—two of the greatest economists of the past century have played a major role in my understanding of the financial markets. One is John Maynard Keynes, the legendary British theorist and author. The other is Paul Samuelson, the prolific generator of ideas and the first American to win (in 1970) the Nobel Memorial Prize in the Economic Sciences. My own academic credentials are modest to a fault: a Bachelor of Arts degree (albeit with high honors) from Princeton University in 1951. No MBA, no Ph.D. Only an AB. Despite my limits, I was invited to become a member of the American Philosophical Society in 2004, perhaps because I’ve stood on the shoulders of these two economic giants during so much of my career. In many respects, the inspiration of Keynes and Samuelson underlies the creation of Vanguard in 1974 and of the world’s first market index mutual fund in 1975. Day after day, scores of investors assure us that we’ve given them a new way—and a better way—to put their capital to work. _____________ Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

“Energy and Persistence Conquer All Things” Applying Benjamin Franklin’s Entrepreneurship in the 21st Century Remarks by John C. Bogle, Founder and Former Chairman The Vanguard Group On Receiving The Benjamin Franklin Founders Award Philadelphia, PA January 17, 2002 Introduction I am humbled by the honor you bestow on me today. But marking, as 2002 does, the 250th anniversary of the founding of The Philadelphia Contributionship in 1752, the timing seems delightfully appropriate. Just as the Contributionship was founded by Benjamin Franklin on the rock of true mutuality—the ownership of an enterprise by those whom it serves—so mutuality was the rock on which I founded The Vanguard Group in 1974. While our far more venerable cousin serves the community’s needs for the insurance of homes against the devastation of fire, this upstart younger cousin, serves the needs of our citizens for accumulating wealth by following sound investment principles. But the Contributionship and Vanguard are not only connected by mutuality. Both began their lives in our City of Brotherly Love and have continued in our region ever since. Were Dr. Franklin to return to earth this day, I believe that he would award both enterprises his seal of approval.

Mutual Funds: Parallaxes and Taxes Presentation by John C. Bogle Chairman and Founder, The Vanguard Group of Investment Companies To The Association for Investment Management and Research November 12, 1997 Often, a small change in vantage point can engender a large change in perception. So it is with the parallax, exemplified by the angle created by the 2 1/4 inch distance between our eyes, which enables us to visualize objects in three dimensions. Today, mutual funds are too often viewed on a two-dimensional basis return and risk-so I'd like to look at a third dimension: cost. Included in costs are both fund operating expenses and portfolio transaction costs, and taxes paid by fund shareholders. "Parallaxes and Taxes" is my theme, not only because of its vaguely rhythmic quality, but because far too many mutual fund portfolio managers and fund shareholders ignore the third dimension: cost. Cost is part of what I call "The Eternal Triangle of Investing." In particular, fund investors ignore the impact of the cost of taxes on their returns. With an estimated $600 billion of capital gains on the books in mutual fund portfolios today, it is high time that the subject of taxes receives the exposure it deserves. Return Given the remarkable increase in potential tax liability that has come hand-in-hand with the great IS-year bull market in stocks we have enjoyed, it's especially timely to discuss this third dimension of the Triangle.

“Acres of Diamonds” Remarks by John C. Bogle, Founder and Senior Chairman The Vanguard Group    Temple University, Philadelphia, PA Upon Receipt of The Musser Excellence in Leadership Award November 17, 1998 Good evening. Ladies and gentlemen, citizens of Philadelphia and of this great Commonwealth, and distinguished members of the Vanguard crew, including representatives of the 300 Temple graduates who, with me, serve our ten million shareholders. I am as humbled by your attendance as I am by the Award for Leadership that has been bestowed upon me by Temple University. At this great university tonight, I can hardly begin my remarks with any other theme than the one that I have chosen, not alone, but with the inspiration of an ageless idea that was born right here in Philadelphia 114 years ago. I suppose that “Acres of Diamonds”—the classic lecture of your founder, Russell Conwell, one that he is said to have delivered more than 6,000 times, all the world over—has been used as the theme for many more thousands of speeches that others have given over the years. But I simply can’t imagine another soul for whom it would be quite so appropriate. Since many of you know the story that inspired Dr. Conwell, I shan’t recount it in detail here. Suffice it to say that in ancient Persia, a wealthy farmer is said to have left home to seek even greater wealth, and spends his life in a fruitless search for a perhaps mythical diamond mine.

ON LEADERSHIP Address at the 176th Commencement of Widener University by John C. Bogle, Chairman and Founder The Vanguard Group of Investment Companies  Chester, Pennsylvania May 17, 1997 Too often we hear that, in our complex and impersonal modern society, young persons see and hear little that encourages them to feel they might exercise a role of leadership. But today our society needs leaders more than ever, leaders who can conceive and articulate goals that unite people in the pursuit of objectives—large and small alike—worthy of their best efforts. With the new millennium in prospect, I would like to take this opportunity to urge your generation to step forward. Today, your Commencement marks a new phase of your life. You—each one of you— must go forth to play a role in building a better America. How so? In these next few minutes I’m going to urge you not only to be leaders, but to make some music, to dream some dreams, to become the movers and shakers, no matter how difficult it seems. This morning, I urge you to take on the task of creative leadership in whatever you do. What can this aging warrior tell you about creative leadership? Honestly, I am not sure.

A Tale of Two Markets Remarks by John C. Bogle Founder, The Vanguard Group    Trinity University Policymaker Breakfast Series San Antonio, Texas April 16, 2001 It was the best of times, it was the worst of times; it was the age of wisdom, it was the age of foolishness; it was the epoch of belief, it was the epoch of incredulity. . . it was the spring of hope, it was the winter of despair; we had everything before us, we had nothing before us . . . the period was so far like the present period, that some of its noisiest authorities insisted on its being received, for good or for evil, in the superlative degree of comparison only. When he began A Tale of Two Cities with those familiar words, Charles Dickens was writing about the wildly divergent conditions that prevailed in London and Paris in the year 1775. But were he alive today, Dickens could have used them to describe the two distinctively different stock markets that U.S. investors have experienced since the beginning of 1998. Surely “the superlative degree of comparison” is a fair characterization. From the outset of the period through the market high last March, stocks listed on the New York Stock Exchange provided solid returns, rising steadily to a cumulative gain of 21%. Stocks trading on the “other market”—the NASDAQ market of stocks without exchange listings—soared by ten times more, an astonishing 230%.

“The Battle for the Soul of Capitalism” Remarks by John C. Bogle Founder and former CEO, The Vanguard Group At the Miller Center of Public Affairs The University of Virginia Charlottesville, VA February 8, 2006 I’m deeply honored by the invitation to address the Miller Forum, right here in Thomas Jefferson’s “academical village.” Of course I’m humbled by the reputations and accomplishments of the members of your Governing Council and of the scores of our Nation’s leaders who have addressed the Forum in recent years. But I’m not so intimidated that I could decline this treasured opportunity to discuss the range of issues of national importance that are the subject of my newest book, The Battle for the Soul of Capitalism, published late last year by Yale University Press. Like so many of you here today, I have been blessed by the intellectual training and values of a liberal education at a great university. In my case, it was Princeton, a school linked to Virginia by more than a few great Americans. James Madison, son of Virginia, patriot, and president of the United States, is also a son of Princeton, Class of 1771, who later became the first president of our Alumni Association. And in 1904, Virginia Law graduate Woodrow Wilson, Princeton 1876, who by then was president of Princeton, was offered the opportunity to serve as the University of Virginia’s first president.

A Businessman-Philosopher Considers the New Millennium Remarks by John C. Bogle Founder and Former Chairman, The Vanguard Group Chairman of the Board of Trustees, Blair Academy Before the Alumni Association of The Shipley School May 5, 2000 I chose my title—“A Businessman-Philosopher Considers the New Millennium”—a few months ago. But when I saw it printed on the invitation, I was, well, completely intimidated. For in the interim I had read a wonderful book entitled The Year 1000,1 describing what life was like in England at the turn of the first millennium. It was a world so far removed from how we live our lives today as to cow any mortal fool in 2000 from opining on what lies ahead for us in the next millennium. The centerpiece of The Year 1000 is a document known as the Julius Work Calendar, laboriously written, colored, and sketched around 1020. It describes people very much like most of us, ordinary human beings cheerfully doing their daily work, but in an environment vastly different from ours. Life was primitive and simple, clothing sack-like and without buttons, and labor entirely manual, although the heavy plow was revolutionizing agriculture. Life was short; expectancy then in the 40s, the venerable over 50. The church and the throne were the most powerful instruments of English society, and the saints were the heroes and heroines of that ancient age. For nearly all citizens, the only world they would ever know lay within a few score miles.

When Commitment Leads, Providence Follows Commencement Address by John C. Bogle Founder and Former Chairman, The Vanguard Group President, Bogle Financial Markets Research Center Upon Receiving the Honorary Doctor of Laws Degree From Susquehanna University Selinsgrove, PA May 13, 2001 One of the greatest thrills of my half-century career has been my association with young men and women, working closely with them at Vanguard, and speaking with them at colleges and universities. So I am privileged today, not only to receive Susquehanna University’s honorary degree, but to address you on this signal day in your lives. To each and every one of you, congratulations. And to your parents and friends, I share your pride. Though it seems like only yesterday—it really does!—it was June of 1951 when I was just where you are today, at my own commencement. I was then, as I hope you are now, almost overwhelmed with feelings of accomplishment, of having overcome obstacles, and of pride in making it across the finish line of my undergraduate education. And I was then, as I hope you are now, filled with confidence and optimism and idealism about what lay ahead. By God, I would go out and strive to succeed, and at the same time do my part in helping to make the world a better place.

Success In Investment Management: What Can We Learn From Indexing? A Presentation by John C. Bogle Founder, The Vanguard Group President, Bogle Financial Markets Research Center To the Investment Analysts Society of Chicago Chicago, Illinois October 26, 2000 Unless you’re Peter Bernstein, it will probably be news to you that the year 2000 marks the 100th Anniversary of a truly seminal academic paper. Dr. Bernstein is well known to all of you, I’m sure, both through his bi-monthly publication, Economics and Portfolio Strategy, and his books, including his marvelous chronicle of risk, Against the Gods. But it was in his Capital Ideas, published in 1992, that I first learned of Louis Bachelier’s 1900 dissertation, The Theory of Speculation. In that paper lay the roots of the huge volume of academic research that we now refer to as Modern Portfolio Theory. Bernstein—perhaps our preeminent expert on capital markets history—credits Bachelier as the father of MPT and of the Efficient Market Hypothesis as well. At its outset, Capital Ideas quotes the French academic’s key words—“past, present, and even discounted future events are reflected in market price . . . and it is impossible to aspire to mathematical predictions of [price]”—and then moves on in history.

“The Case of the Dog that Didn’t Bark” Remarks to Mutual Fund Directors Education Council By John C. Bogle, Founder, The Vanguard Group Washington, DC January 11, 2001 Good evening. By way of full disclosure, let me say a few words about Vanguard. We are a large mutual fund complex (assets of some $560 billion), managed under a unique corporate and governance structure that shapes the perspective I’ll present. Our management company is owned by the mutual funds themselves. We operate on an “at cost” basis, and this year our expense ratio will average a bit more than 0.25%. We provide investment advisory services for almost $400 billion of our assets. The remaining assets are supervised by external advisors under contracts negotiated at arms-length, with a weighted average fee rate of about 0.09%. You are unlikely to see any of this information in the studies prepared for fund directors by consultants. We are omitted, I am told, because we are “different”—as indeed we are. One can argue that difference is “good,” and I suppose one can also argue it is “bad.” But it is unarguable that our structure is cheap in terms of the services we provide our funds. I appreciate Dean Ruder’s gracious invitation to be with you, and to discuss my views on the role and responsibilities of fund directors. I have given several talks on this subject, and I understand that you have in your folders a copy of my last year’s speech to the Practicing Law Institute.

“The End of Mutual Fund Dominance” Keynote Speech By John C. Bogle, Founder and Former CEO The Vanguard Group Before the Financial Planning Association 2002 Forum New York, NY April 25, 2002 Despite the title of my remarks, my purpose here today is not to predict the demise of the mutual fund industry. In fact, I’ve simply quoted the title of a report prepared last autumn by the respected Forrester Research organization. It predicts that by 2004—right around the corner, really—mutual fund assets will grow by 26%, while separate account assets will grow by 400%. By then, they predict the end of mutual fund dominance will be well underway: “By 2006, large fund firms will emphasize separate accounts at the expense of mutual funds . . . By 2010, assets in separate accounts will exceed $2.6 trillion, at least 30% of retail assets managed.” And that’s not all. “The end of mutual fund dominance will accelerate as fund families create their own separate account products,” 401(k) plans will jump on the bandwagon, and financial advisers will construct their own client portfolios with stock baskets (read “Foliofn”). Why will this happen? In Forrester’s view, simply because “separate accounts deliver what investors want: customized money management.” The alleged benefits: higher tax efficiency; ability to structure investors’ portfolios around large individual holdings (e.g.

The Dream of a Perfect Plan Keynote Speech by John C. Bogle Senior Chairman and Founder, The Vanguard Group    Money Matters The Boston Globe Boston, MA October 16, 1998 Good morning. It’s especially wonderful to be in the fair city of Boston, from whence came, almost exactly 50 years ago, my inspiration to enter the mutual fund industry. In December 1949, I read an article in Fortune magazine entitled “Big Money in Boston,” introducing me to this industry for the first time. Thus inspired, I wrote my senior thesis at Princeton University on “The Economic Role of the Investment Company,” joined the industry when I graduated in 1951, and have been around ever since. It was also in Boston in early 1974 that I got fired from the company I’d joined at the outset of my career, which led to my founding of Vanguard in September 1974, just 25 years ago. I’ve had an exciting career. Over the years, I’ve often cited Von Clausewitz’ epigram, “the greatest enemy of a good plan is the dream of a perfect plan.” This morning I’m going to use that profound thought as the theme of my keynote speech to you investors who are here today. My theme will echo the fact, not only that “Money Matters,” but that your money matters. We are all trying to make sense out of our volatile financial markets, our U.S. economy that is each day becoming more a part of the global village, and the implications of our present revolution—and it is no less than that—in information technology and communications.

Owners Capitalism vs. Managers Capitalism Remarks by John C. Bogle Founder and Former CEO, The Vanguard Group Before the 2003 National Investor Relations Institute Conference Orlando, FL June 11, 2003 I’m honored to be with you today to discuss the profound issues regarding corporate governance in our nation today, and to offer some thoughts on the role that Investor Relations professionals might play in their resolution. In the year and one-half since Enron blew up in our faces—doesn’t it seem like an eternity ago?—a score or more of large, once-reputable companies have been scandalized, the “Big Five” accounting firms have shrunk to the “Final Four,” Wall Street’s reputation has withered—and deservedly so—as much as its research turned out to be sales promotion for investment banking clients, and rarely has a week gone by without some new disclosure of wrongdoing in corporate America. It’s not yet clear how much of these distasteful goings-on represent criminal behavior. And we have often been reminded that there have been, so far, few convictions and almost no jail sentences. But when that’s the best defense is the best that capitalism can offer to justify its status, Adam Smith must be turning over in his grave. How often have you heard that the problems of American capitalism are confined to just “a few bad apples”? In the context of our tens of thousands of corporate executives and Wall Street leaders, of course that’s true.

JCB Remarks at “25th Anniversary” Dinner May 20, 2000 I stand before you, my fellow crew members, to thank you for this celebration of the 25th Anniversary of the company I founded on September 24, 1974. While it is doubtless traditional for the creator of a company to make a speech on such an occasion, I put you at ease by assuring you that I have no speech to make. But I do have just a few thoughts I’d like to leave with you on this gala evening.    We read much today about the need, in this decidedly new era, for what is called business concept innovation, the need for radical, not incremental, change. As you all recognize, that is exactly what Vanguard did a quarter-century ago, changing, within our first three years of existence, the very way that investors look at mutual funds. Call it mutualization if you will, but the idea of funds being managed with their owners’ interests paramount began right then. That structure called for rock-bottom operating costs, a recognition that almost instantly led to our creation of the industry’s first index fund and then to the industry’s first defined-asset-class bond funds, and to the complete elimination of distributors and sales commissions. Together, these revolutionary changes have constituted the driving force that has carried us to the pinnacle of industry leadership that we enjoy today.

Technology: Follower or Leader? Bane or Blessing? Remarks by John C. Bogle, Founder, The Vanguard Group Before the Society for Information Management Philadelphia, PA February 2, 2000 It’s wonderful for this close observer of the rapidly-changing world of technology to be with this group of distinguished investment technology professionals tonight. I want to discuss with you, first, a bit of Vanguard’s history, as we grew from a technology follower in the financial services arena to the technology leader. But I also want to discuss the impact of technology on the mutual fund industry, and specifically whether it is a bane or a blessing. Clearly, information technology has brought our world into a new era, as the availability of information and the speed and ease of communications soars to levels beyond what any of us—or at least myself—would have even found imaginable as recently as 15 years ago. In my case, I can make that statement with considerable authority. For in September 1985, a reporter for Forbes magazine asked me how I viewed the priority that tiny Vanguard— then with $10 billion of assets, just 1/53rd of our present $530 billion asset size—would place on technology. “We are not going to be a technology leader,” I said, and was duly quoted in the article that appeared later that month. “We cannot afford to be.” Considering the circumstances at that time, it was not quite as stupid a comment as it might seem today.

The Riddle of Performance Attribution Who’s in Charge Here: Asset Allocation or Cost? Remarks by John C. Bogle, Chairman and Founder of The Vanguard Group Before the AIMR Financial Analysts Seminar at Northwestern University July 20, 1997 “Investment policy dominates investment strategy, explaining on average 93.6% of the variation in total (pension) plan returns.” This statement may well be the seminal (and surely the most quoted) single citation on the subject of asset allocation. In “Determinants of Portfolio Performance,” published in the Financial Analysts Journal in 1986, authors Brinson, Hood, and Beebower (BHB) went on to say: “although investment strategy (market timing and stock selection) can result in significant returns, these are dwarfed by the return contribution from investment policy—the selection of asset classes and their normal weights.” This finding for the ten years through 1983, in turn, was reaffirmed for the ten years through 1987 by the authors in a follow-up article published in the FAJ in 1991. In that period, the impact of investment policy was calculated at 91.5%, an inconsequential change. (I understand that the authors are now updating the data.) Properly understood, the conclusion is, I think, beyond challenge. Unfortunately, however, it has been subject to considerable misunderstanding.

Reversion to the Mean: Sir Isaac Newton’s Revenge on Wall Street Presented by John C. Bogle Chairman and Founder, The Vanguard Group of Investment Companies Distinguished Lecture Series MIT Lincoln Laboratory Lexington, Massachusetts January 29, 1998 (Revised) It is an honor to have the opportunity to speak at this distinguished forum. I have selected a theme that I hope is worthy of the challenge, and shall present a perspective that is a combination of the academic and the pragmatic. For this audience clearly has not only a strong intellectual bent, but, I imagine, an awareness of the need to invest wisely today to assure a financially secure tomorrow. The title of my remarks is “Reversion to the Mean.” This theme may at first blush seem a bit dry and uninspiring. But I assure you that it is anything but that. For I suggest to you that RTM is a rule of life in the world of investing—in the relative returns of equity mutual funds, in the relative returns of a whole range of stock market sectors, and, over the long-term, in the absolute returns earned by common stocks as a group. RTM represents the operation of a kind of “law of gravity” in the stock market, through which returns mysteriously seem to be drawn to norms of one kind or another over time. Recognizing the discoverer of this universal law, I have added a subtitle: “Sir Isaac Newton Comes to Wall Street.” Many of you—perhaps most of you—have chosen mutual funds as part of your retirement savings programs.

The New Global Economy Remarks by John C. Bogle, Founder and former CEO The Vanguard Group Before the Combined Columbia University/MIT Association Philadelphia, PA April 10, 2008 I’m delighted to have this opportunity to discuss the turbulent financial markets we face today. As the title of my talk suggests, I’ll focus on “the new global economy,” even though the global economy is hardly “new.” The famous silk routes of Asia date back to 200 A.D., and— with exception of periodic wars, the Black Plague, and the Great Depression (in part a result of protectionist tariffs)—globalization has been growing ever since.1 Perhaps no better example of the globalization of yore was British trading with China two centuries ago. It began with the staggering growth of tea imports, which created a balance of payments crisis for the British Empire, resolved by substituting opium exports from Southeast Asia to China for the rapidly-decreasing supply of sterling in the Exchequer, not a happy part of the history of globalization. But even in the more orderly modern era, global trade has grown from about 5 percent of world GDP immediately after World War II to an estimated 20 percent currently. But if the growth of global trade is impressive, the growth of global finance is truly breathtaking. We seem to live in a world without financial borders, with traders flashing enormous investments (and speculations) across the world electronically at a nanosecond pace.

Reflections on the Spirit of Entrepreneurship Remarks by John C. Bogle, Founder and Chairman The Vanguard Group of Investment Companies before the Greater Philadelphia Venture Group Philadelphia, PA September 16, 1997 Thank you so much for this opportunity to address you on the subject of “the spirit of entrepreneurship.” This was the title suggested by your Chairman, and one on which I’m delighted to reflect today. This happens to be a particularly timely moment for my reflections. For, while I’d never spent much time thinking about entrepreneurship in personal terms, my insouciance was shattered just a month ago. I received in the mail a copy of a 25-page paper discussing my career, written by a Yale senior. It described me (I’m embarrassed about saying this, but, obviously, not too embarrassed to say it!) as a “classic Schumpeterian entrepreneur.” It was Austrian economist and Harvard professor Joseph A. Schumpeter who, in his 1911 work, The Theory of Economic Development, first identified the entrepreneur as the moving force of economic development. That Schumpeter has become sort of a pop-hero of the so-called “supply side” political movement is not to denigrate his seminal approach to economics. Indeed, entrepreneurship is clearly one of the driving forces in the economic boom that is sweeping the globe today, most obviously manifested in the flowering of the technological revolution.

“Leaving the Things that You Touch Better than You Found Them” Remarks by John C. Bogle Founder, The Vanguard Group ∞ ∞ ∞ The Union League of Philadelphia Philadelphia, PA April 10, 2007 Being honored by the Union League of Philadelphia—the city in whose environs, providentially, I’ve spent the past 62 years of my life—almost demands that the honoree begins with the club’s timeless motto, Love of Country Leads. And in fact it is love of country—the blessings of citizenship in the United States of America—that has led me through much of my own life and career. I was raised to be, above all, a good citizen, constantly reminded in my pre-Philadelphia years of, well, family values. These values are exemplified by my memory of the kind of adages like “God Bless Our Home” that were cross-stitched on the sampler pillows of years long gone. Even today, these principles remain part of my life. “Do what’s right, no matter how painful”; “a penny saved is a penny earned”; “idle hands are the tools of the divil” (the way my Scottish forebears pronounced “devil”); “even one person can make a difference”; and “press on, regardless,” the name of my uncle’s old lobster boat. (That one came always with the reminder you must press on, not only in tough times, but in easy times as well.) My unifying theme today is yet another of these family principles: “leave the things that you touch better than you found them.

For, then as now, we were extremely cost-conscious, driving as hard as we could to become the lowest-cost provider of financial services in the world. We sought that goal, not because it would be an advantage in marketing (although it would prove to be just that), but because, as the only truly mutual mutual fund organization—uniquely, Vanguard shareholders own both the funds and the company that operates them—we knew that every dollar of costs we saved would provide an extra dollar in the returns we delivered to our fund investors. (By 1999, the 100 basis point (1%) difference between Vanguard’s unit costs and the fund industry norm would put an extra $5 billion in our shareholders’ pockets.)Forward

A major part of that failure reflects the traditional “agency problem” described by economists—the fact that, paraphrasing Adam Smith, “corporate directors and managers of other people’s money seldom watch over it with the same anxious vigilance that they watch over their own. Like the stewards of a rich man, they very easily give themselves a dispensation.” This is as true of executive compensation in corporate America as it is of management fees in mutual fund America. The shareholders of both, alas, dine at the bottom of the food chain—the harsh reality of our business. ____________________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

But we should not allow these horrible examples to blind us to the fact that there is a lot of rot in the system itself: An erosion in financial standards; misleading earnings statements; public accountants in cahoots with the companies they audit; mergers without apparent business merit; CEO compensation ratcheted up, year after year, without commensurate business achievement; a focus on short-term perception—the momentary but precise price of the stock—rather than long- term reality—the enduring but often intangible intrinsic value of the corporation. In all, Managers Capitalism took over the driver’s seat, shoving Owners Capitalism into the back seat. _______________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

1 For a wonderful adventure in the history of global trade, don’t miss William Bernstein’s terrific new book, A Splendid Exchange—How Trade Shaped the World, Atlantic Monthly Press, 2008. Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Happily for my university, he resisted the temptation and remained in his job, only to be elected President of the United States in 1912. While my new book is, obviously, about capitalism, I’ve done my best to paint with a broader brush, beginning with an introduction entitled, “Capitalism and American Society.” At the outset, I warn about the striking similarities between the United States today and the Roman Empire at its peak in the second century A. D. Drawing on Gibbon’s epic, The Decline and Fall ____________________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

” While it may surprise those of you who happen to be familiar with my career, the words I’ve just spoken are not my own. They are the words of the legendary Benjamin Graham, as they appeared in The Financial Analysts Journal of May-June 1963, celebrating the 25th anniversary of your Institute. To say that I passionately subscribe to these simple principles of balance, 1 Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

’” I then quickly turn to the main issue: “The business and ethical standards of corporate America, of investment America, and of mutual fund America have been gravely compromised. It is time ____________________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

So we use crewmember, a designation tied to the omnipresent nautical theme we established when we named our new firm after HMS Vanguard, Lord Nelson’s flagship at the great victory over Napoleon’s fleet at the Battle of the Nile in 1798. But much more importantly, crewmember suggests teamwork, interdependence, and the realization that we’re all in the same boat. We will sail on to victory, or we will sink in the struggle. And the word product has nothing to do with what we provide.successful

” This afternoon, I’d like to tell you how I tried to apply this tenet to some of the major interests of my long life: the National Constitution Center, Blair Academy, Vanguard, and our financial markets. _______________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

consumer products at one stage in their history, products to be heavily marketed until times and fashions change and then replaced by something else that is saltier or softer or sleeker. We would offer financial services, or simply stewardship, durable mutual funds with sound investment philosophies, prudent strategies implemented with simplicity, and rock-bottom costs to investors, the better to enhance their profits. The idea: We would not make what we could sell. We would sell what we made. Finally, we did not seek customers, those who would move from one product to another depending on fad or whim, location or price. We had no interest in creating an investment version of Poke’mon or the Barbie doll or the pet rock. Long-term investors, not short-term speculators, would be the focus of our strategy. We sought clients, those who would enter into a long-term investment relationship with us, trusting in our investment skills and our stewardship. That anecdote, I think, says a great deal about Vanguard’s view of the service-profit chain. While the chart in Harvard Business School Professor Michael Porter’s 1996 article, “What Is Strategy,” nicely describes how Vanguard works (Chart 1), my story explains why Vanguard works so well. In any event, for an enterprise that began without a single employee, or a single product, or even a single customer 25 years ago, we have come a long way.

Despite that philosophy and despite my callow words to Forbes, within a year we took our first aggressive steps to expand our technology commitment. Bob DiStefano—then and now Vanguard’s technology boss, and for my money, one of the most capable technology executives in the financial services field—reminds me that in mid-1986 I urged him to step a bit more lightly on our cost-control brake and more heavily on the accelerator that drove our then-modest technology program. While the numbers seem puny by today’s standards, we quickly upped the number of programmers’ two-and-a-half fold—from 22 to 56—and our total tech staff to 75. We have been building our technology focus and commitment ever since. In those days, our world was fairly simple: each shareholder in each fund got a regular quarterly statement from each fund independently, just as if he or she owned, say, one Vanguard fund, one Fidelity fund, and one T. Rowe Price fund. With some 700,000 shareholders on our books—most of who owned but a single fund—that was “industry standard” at the time. But the standard was about to change, and our commitment to expand our technology effort came not a moment too soon. Our business not only grew by leaps and bounds, but at ever-increasing levels of activity and complexity. Today, with some eight million shareholders on our books, Vanguard has become the second largest mutual fund organization on the face of the globe.

To have such a crew, we’ve relied heavily on traditions—some venerable, such as a spirit of fair-dealing dating back to Wellington and Walter L. Morgan, others going back to the earliest days of Vanguard, such as our Award for Excellence and the Vanguard Partnership Plan. Yes, “even one person can make a difference,” and yes, each crew member has earned the right to share in the fruits of our success. Taken together, our structure-driven corporate strategy, our innovative investment ideas, and our progressive implementation of business values have made Vanguard an industry revolutionary: A company that stands for something. And the world knows what it is we stand for: The primacy of the shareholder. Stewardship. With the power of an idea we have flourished. I know no other firm in this industry about which that can be said with such crystal clarity. What of the future? “The times they are a changin.” What does a revolutionary firm do? Live off the legacy I have put my heart and soul into giving you, or build on the legacy? The answer to that question, ladies and gentleman, is in your hands, no longer in mine. But as you make these decisions, please remember that we will be judged not only by what we do but what we refrain from doing. Opportunity yes, but discipline too. And confidence. And courage, always.

How huge? A long-term investor who owns a portfolio of stocks of all of the companies in America, holds them for Warren Buffett’s favorite holding period—forever—and pays no management fee will!—will—end up with a financial stake that is at least double that of all other investors as a group. How to do that? Own an all-stock-market index fund. That now-pervasive idea began with the creation of the Vanguard 500 Index Fund more than 27 years ago. At first it was dubbed “Bogle’s Folly.” But today it is the largest mutual fund in the world. (Memo to young entrepreneurs: never worry about disdain for your ideas!) Energy and Persistence Low-costs and indexing are the simple rocks on which Vanguard was founded, an enterprise built on the majesty of simplicity in an empire of parsimony. So never underrate the power of common sense. Never underrate your ability to recognize the obvious, for, paradoxical as it may seem, the obvious is often the hardest thing to see. And then pursue your vision with energy and with persistence. Why? Because “energy and persistence conquer all things,” as that timeless epigram of Founding Father Benjamin Franklin reminds us. With all of his other talents, this great patriot also qualifies as the first American entrepreneur.

From the start of 1998 through the first quarter of 2000, the NASDAQ Index, home of the New Economy, rose by 200%. During the same period the New York Stock Exchange Index, largely Old Economy issues, rose just 26%. (The difference between the two indexes is not inconsequential: A NYSE listing requires a company to have at least three years of operating earnings; the NASDAQ requires no earnings history.) And then the bubble burst. In fits and starts, the NASDAQ Index plunged. At its low following the terrorist attack, it was down 72% from its earlier peak. The NYSE Index, by contrast, was off just 2% during the same period. From 1998 to date, the net return: NASDAQ +9%, NYSE +8%. In the aftermath of this boom and bust cycle—just one more such cycle in the annals of American finance—this conference presents a wonderful opportunity for this veteran participant in the rapidly-changing world of investing to meet with this group of information technology professionals from all across the nation. I want to discuss the role of technology in changing the financial marketplace, its impact on the mutual fund industry, and how Vanguard has responded. I’ll conclude with some investment advice that I believe will help you become richer rather than poorer as you pursue your personal goal of long-term wealth accumulation. Does Technology Help us to Better Serve Fund Investors?

This investment strategy, at once innovative and counterintuitive, in turn depends on our unique corporate structure. We are a mutual enterprise owned not by the fund managers, but by the fund owners, an enterprise in which service to shareholders and stewardship are our highest priorities. With that combination of investment ideas and human values, we have striven to become one of those all-too-rare enterprises: A company that stands for something. We stand for the primacy of the fund shareholder. And it works! Vanguard’s growth is, to me at least, living proof that enlightened idealism is sound economics. Business: An Honorable Career Over the past half century, business has come to be my personal calling. But I’m not here to talk about my life and career. I’m here to urge you to think about your calling as you go out into the wide, wide world of business, whether it be commerce or industry, finance or technology. I urge you to fulfill your own personal destiny, to gain a sense of contributing something wonderful—perhaps unique—to society, something that you’re good at, something you enjoy, something that without you would simply not be there.

Most own at least two Vanguard funds, and many own five, six, seven or more. Through the miracle of technology, they now receive a single combined statement for all of them, in the mail or, for the many whom have elected to skip the paper, electronically. Two million of those shareholders own Vanguard funds in their 401(k) corporate retirement plans, along with hundreds of thousands who own our funds through our variable annuities, or our brokerage affiliate, or our defined benefit administration, or our asset management and trust division, so we actually must maintain six separate record-keeping systems. Nonetheless, today our shareholders can view a combined electronic statement that combines all of their accounts through our “Access Vanguard” website, which receives about 100,000 visits each day. This is a remarkable and valuable service and a big cost saver as well.Forward

Yet those who serve nominally as trustees, but relieved, by clever legal devices, from the obligation to protect whose who interests they purport to represent . . . consider only last the interests of those whose funds they command, suggest how far we have ignored the necessary implications of that principle.”1 In this industry, then as now, small groups “control the resources of great numbers of investors,” and it is fund managers who must accept the lion’s share of the responsibilities for the baneful trends I will discuss today. But fund directors—“those who serve nominally as 1 I last used that quotation in my “State of the Firm” address to the officers of Wellington Management Company in 1971, more than three years before I founded Vanguard. I was reflecting on the harm the fund industry inflicted on investors during the “Go-Go Era” of the 1960s, the precursor of the devastating 50% market crash of 1973-74.

Samuelson’s 1974 article Challenge to Judgment noted the incontrovertible brute fact that academics had been unable to identify any consistently excellent investment managers, challenged those who disagreed to produce “brute evidence to the contrary,” and pleaded for someone, somewhere to start an index fund. And in 1975 in an article entitled The Loser’s Game, Charles D. Ellis argued that, because of fees and transaction costs, 85% of pension accounts had underperformed the stock market. “If you can’t beat the market, you should certainly consider joining it,” Ellis concluded. “An index fund is one way.” In mid-1975, when I decided to start the Vanguard index fund, I was both blissfully unaware of the work the quants were doing and profoundly inspired by the pragmatism of Samuelson and Ellis. It was then that I pulled out all of my annual Weisenberger Investment Companies manuals, calculated by hand the average annual returns earned by equity mutual funds over the previous 30 years, and compared them to the returns of the Standard & Poor’s 500 Stock Index. Annual Returns, 1945-1975: S&P Index 11.3%; average equity fund, 9.8%. To give that seemingly small percentage difference a high impact, I then showed that a hypothetical initial investment of $1,000,000 would have grown over the 30-year period to $25,000,000 in the Index vs. $16,500,000 in the average fund.and

Consider his creations: The Colonies’ first fire company; our oldest property insurance company, still thriving today; the Franklin stove, whose stunning efficiencies slashed families’ heating costs; and the lightning rod; along with a library, a hospital, and a college (now the University of Pennsylvania). Now there is one truly eclectic entrepreneur! The Purpose of Entrepreneurship: Service to Others And that brings me to my second point: the true purpose of entrepreneurship is service to our community and our world. Franklin’s imagination, energy, and persistence were focused on public weal, and not personal profit. He refused to patent his “Pennsylvania fireplace”; he made the lightning rod freely available; and his insurance company was, of all things, “mutual.” (As it happens, the same form of organization we chose for Vanguard.) “Knowledge is not the personal property of the discoverer,” Franklin believed, “but the common property of all. As we enjoy great advantages from the inventions of others, we should be glad of an opportunity to serve others, freely and generously, by any invention of our own.” And so it should be for all of us. As you budding entrepreneurs go home this evening, dreaming your dreams of today, even as you realize that you’ll likely have new and even bolder dreams tomorrow, I urge you never to stop dreaming and creating.common

” And the deal must be fair: “there is some indication that costs are too high,” and that “future industry growth can be maximized by concentration on a reduction of sales charges and management fees.” After analyzing fund performance, I concluded that “funds can make no claim to superiority over the market averages,” perhaps an early harbinger of my decision to create, nearly a quarter-century later, that world’s first index mutual fund. And my conclusion powerfully reaffirmed the ideals that I hold to this day: The role of the mutual fund is to serve—“to serve the needs of both individual and institutional investors . . . to serve them in the most efficient, honest, and economical way possible . . . The principal function of investment companies is the management of their investment portfolios. Everything else is incidental.” All of this gratuitous advice from a callow college senior was, alas, largely ignored by the fund industry. But the creation of Vanguard in 1974 as a truly mutual mutual fund group— operated on an “at cost” basis for the benefit of its owners rather than its managers—was my attempt to walk the walk that I had talked the talk about a quarter-century earlier.assure

you that my youthful idealism remains intact. Indeed, it is shamelessly reflected not only in Vanguard, but in my new book, an expression of my concern about our American society today, my conviction that our system of capital formation is essential to our economic growth and world leadership, and my acknowledgement that much has gone wrong in that system. There is much that needs to be fixed, for “the business and ethical standards of corporate America, of investment America, and of mutual fund America (the three principal elements of the book) have been gravely compromised.” In each of these three arenas, I discuss not only what went wrong, but why it went wrong, and how to go about fixing it. Right at the outset I warn the reader that mine is a tough message, bluntly delivered, opening with this epigram from St. Paul: “If the sound of the trumpet shall be uncertain, who shall prepare himself to the battle?” In this case, the battle is for the soul of our capitalistic system. Today’s Capitalism So my trumpet, as you’ll now hear is a certain one. Today’s capitalism has departed, not just in degree but in kind, from its proud traditional roots, a system that served us admittedly imperfectly, but with remarkable effectiveness for the better part of the past two centuries—a free enterprise system based on open markets and private ownership, and on trusting and being trusted. The system worked. Or at least it did work.

mutual fund firms to better serve our clients? The answer is multi-faceted, for as we adjust to the information age technology is playing many roles in the financial business. Here are the seven questions that I’ll consider with you: (1) Does technology enhance the returns of mutual fund investors? (2) Does technology help us to create better investment products? (3) Does technology afford our investors better information? (4) Does technology help us to provide better communications? (5) Does technology help us to provide better services? (6) Does technology offer our clients better financial advice? (7) Does technology give us a better cost structure? As I focus on these issues, I am reminded of the timeless message of Vanguard’s long- time Chief Technology Officer, Robert A. DiStefano, whose inspired leadership, mastery of the IT field, and compassionate human values brought us into the Information Age with flying colors. His death last summer, at far too early an age, only magnifies that message: “How we do technology is far less challenging than deciding what we do. We must be clear on our objectives and our strategies, and allocate our resources accordingly. We must set intelligent priorities and have clear business objectives for each project we undertake, and serving our clients must be at the heart of all we do.” The Economist of London said pretty much the same thing: “Durable client relationships are only partly about clever technology, however imaginatively used.

“indexing” as such, and almost everything to do with simply owning U.S. business (or global business) in its entirety, through a capitalization-weighted portfolio of our total stock market, and then holding that portfolio for Warren Buffett’s favorite holding period: “forever”. Simply put, if an investor buys the market portfolio, pays no sales loads, no management fees, tiny operating costs, and no portfolio transaction costs, and holds it forever, that investor will capture virtually 100 percent of the stock market’s annual return. On the other hand, for the average investor buying actively-managed funds (or for that matter, engaging in any strategy that involves heavy trading), usually carrying commissions, substantial management fees, heavy operating and marketing costs, huge costs of portfolio turnover (the average equity fund now turns its portfolio over at an astonishing rate of 100 percent per year!), that investor’s return will fall far short of the market’s return. How far short? Well, those all-in mutual fund costs that I just enumerated presently come to something like 2 ½ percent of assets per year. Since the average mutual fund manager is, well, average—you heard it here!—the return of the average fund has fallen short of the return of the Vanguard 500 Index fund by about 2 ½ percentage points over the past quarter century. And simply because of those costs, the average fund is destined to fall short by a similar amount in the years to come.

sense—of devices that would improve the community’s quality of life. And third, his view that virtue is not only achievable by us mortals, but is the principal requirement of a life well lived. In each case, I shall deal both with Franklin’s accomplishments of yore and with the humble parallels reflected in the creation of Vanguard and the innovations we have brought to the investment community, which drive our growth to this day. I. Mutuality In the eighteenth century, fire was a major and ever-present threat to cities. In 1735, when barely 30 years of age, Franklin responded to that threat by founding the Union Fire Company, literally a bucket brigade that protected the homes of its subscribers. In a short time, numerous other fire companies sprang up. Fire protection became sort of “every company for itself”—but only until it occurred to Franklin that if Philadelphia’s fire companies joined in common cause it would be possible to insure the homes under their aegis against financial loss when a fire took place. So Franklin joined with his colleagues in founding The Philadelphia Contributionship on April 13, 1752, following public notice in The Pennsylvania Gazette.

Ellis articles, to persuade a dubious Vanguard board of directors to approve the creation of the first index mutual fund. The idea of an index fund was hardly anathema to me. Way back in 1951, the anecdotal evidence that I had assembled in my Princeton University senior thesis on the mutual fund industry shaped my conclusion that funds “can make no claim to superiority to the market averages.” When the newly-formed Vanguard began operations in May 1975, I had realized my dream of establishing the first truly mutual mutual fund complex. While the idea of an index fund would have hardly appealed to a high-cost fund manager whose very business depended on the conviction that, whatever his past record, he could outpace the market in the future, indexing would be a natural for Vanguard. Uniquely, we operated on an at-cost basis and sought to become the world’s lowest cost provider of financial services. What is more, at the outset Vanguard provided only administrative services to our then-$1.4 billion fund group, which continued to rely on Wellington Management Company for all investment management and distribution services. Added to my conviction that indexing was a winning strategy, my powerful itch to expand our narrow mandate provided an irresistible urge to create the first index mutual fund. As I’ve often noted, many firms had the same opportunity, but like the prime suspect in a murder mystery, only Vanguard had both the opportunity and the motive.

Exhibit I: Source of Variations in Return* Factor BHB Study Vanguard Study Allocation Policy 92.5% 88.7% Allocation Changes and Security Selection 7.5 11.3 Total 100.0% 100.0% _________________ *Average of BHB’s 1986 and 1991 studies; Vanguard study based on ten years ended December 31, 1996. Turning from variations in return to total return, both the pension plans and the mutual funds displayed returns before expenses that fell slightly short of the returns of the market index benchmarks. For the balanced funds, we used the Standard & Poor’s 500 Index for stocks, the Lehman Intermediate-Term Corporate Bond Index for bonds, and U.S. Treasury Bills for cash. (In neither the BHB study nor in our study did the results vary significantly if the all-market Wilshire 5000 Equity Index were used instead of the S&P 500.) What we are witnessing, as has been reaffirmed over what seems like time immemorial, is the failure of active mangers, on average, to outperform appropriate market indexes. Exhibit II: Returns Before Costs BHB Study Vanguard Study Index Composite Return 11.8% 12.5% Fund Composite Return (before costs) 11.2 12.3 Difference -0.6% -0.2% It seems likely that portfolio transaction costs were a material factor in both the pension plan and the mutual fund shortfalls to the unmanaged index portfolio. Undistinguished individual stock selection (or, if you will, highly efficient markets) simply meant that the active manager failed to add value.

enthusiasm again, this time in a different way (!), I plunged into the exciting challenge of building a new enterprise, an enterprise that would stand for something powerful: Stewardship—giving average investors a fair shake at building their own financial independence. And what else could explain that, at the very moment I was searching for an appropriate name for the firm, I came across a book recounting the history of the Napoleonic wars and the Duke of Wellington? I opened it to the very page that described the sweeping victory over the French at the Nile, won by Admiral Nelson aboard (you guessed it!) HMS Vanguard, the name I immediately chose for my new enterprise. And as we began, providence moved yet again: Some words that I’d written in my Princeton thesis nearly a quarter-century earlier happened to come back to me: “Mutual funds can make no claim to superiority over the market indexes,” words that led us to pioneer the index mutual fund—a fund that wins the investment race simply by owning the stock market and holding it forever. That first index fund, the backbone of our firm’s success, is now the largest mutual fund in the world. A Second Chance at Life If that series of unforeseen incidents in my life is not proof enough that commitment is rewarded by providence, I still have one more. Five years ago, at death’s door after fighting against a rare genetic heart disease for 35 years, I became the beneficiary of a heart transplant.

Driven by the long bull markets in both stocks and bonds, the ever-market-sensitive mutual fund industry too has burgeoned, growing at a 17% annual rate since 1986 and increasing assets eight times over. Vanguard’s 26% growth rate since then has multiplied 19-fold. To be sure, we found ourselves in the most rapidly growing segment of the fund industry—the direct marketing (largely no-load) sector— which became the industry’s largest distribution channel in 1996. This growth reflects an increasingly cost-conscious breed of self-motivated investor. Happily, we had sensed this trend years earlier, and were well prepared. For in 1977 the Vanguard funds abandoned their 50-year dependence on stock brokers and made an unprecedented leap forward to no-load distribution. Direct marketing has grown at a 21% annual rate, resulting in an 11-fold asset growth. The runners-up in the growth sweepstakes, growing at a 16% rate, were independent firms offering load funds, largely sold by stock brokers. Their assets grew seven-fold. In a poor third place, growing at just 12%, with but a four-fold asset increase, were the proprietary load funds, managed and distributed by the brokers. Despite the obvious and innate competitive advantage held by broker-sold funds, their notably high costs and notably low returns (not entirely unrelated!) were too much for even their dedicated distribution systems to overcome.

If the words about efficiency, honesty, and economical operation strike you as a design for a firm called Vanguard, and if the idea that funds can’t beat the market seems to lay the groundwork for the index fund, so be it. But those things are probably what any young college student, idealistically seeking to build a new and better world, would have written. Whatever the case, the thesis led me directly into a career in this industry, for it was read by Walter L. Morgan, long-time member of the Union League, fellow Princetonian, legendary fund pioneer, and founder in 1928 of Wellington Fund. When I graduated in 1951, Mr. Morgan hired me. With few hardy souls having come into the beleaguered investment field during the 1930s and 1940s, my ascent was rapid. This fine gentleman groomed me, challenged me, trusted me, and liked me—we were friends for nearly half a century until his death at age 100 four years ago—and by 1965, at age 35, I was running his company. Mr. Morgan told me “to do whatever it takes” to prepare Wellington for the future. Headstrong, self-confident, and immature, I took a radical step, merging Wellington Management Company with a Boston investment firm. But I relinquished too much of Wellington’s voting control for my own good. While at first the merger was an extraordinary success, the end of the speculative boom of the “go-go” 1960s and the onset of the great 1973-74 bear market brought tough times.

Getting to the here of 2000 from the there of 1985 was not easy. I think (and Bob DiStefano agrees with me) that the major turning point came in 1992, with the delivery of my “Sacred Cow” speech at our executive meeting in mid-year. In it, I announced that my somewhat heavy-handed, Luddite-type approach to our business could, in a rapidly changing New World, retard our progress. I presented the staff with a list of seven Vanguard business principles—I called them “Sacred Cows”—that the officers felt, probably reading me correctly, we would never violate. I told them that those principles that involved our basic investment philosophy and our fundamental human values indeed were sacred, but that other policies would have to be killed if we were to remain competitive. By the time my speech was over, four of the sacred cows were dead, including number two: “We shall not be a technology leader.” To visualize its demise, I created an imaginary article from a bogus June 1992 issue of the aforementioned Forbes magazine, in which I was quoted as reversing the cautious and provincial position I had expressed seven years earlier. The new quote read: “We are going to be the technology leader. We cannot afford not to be.” We began by bringing in Arthur D. Little to develop a major analysis of our technology operations, the beginning of a year-by-year series of quantum leaps that took our technology from 1990s followership to year 2000 leadership.

Market Share and Client Loyalty The very first sentence in the 1994 Harvard Business Review article, “Putting The Service-Profit Chain to Work,” noted, “outstanding service organizations spend little time setting profit goals or focusing on market share.” Nor do we. From the time Vanguard began, my two fundamental rules were: “1) Market share is a measure and not an objective; and 2) Market share must be earned and not bought.” Nonetheless, Vanguard’s market share has grown. And grown. And grown. From 9% of direct marketing assets in 1980, we topped 10% in 1984, 15% in 1988, 20% in 1992, and 25% in 1998, reaching a 29% share in late 1999 (Chart 3). Since 1986, significant market share growth has been achieved by just two firms: Vanguard (+14 percentage points, from 15% to 29%) and Fidelity (28% to 31%, +3 points). In the meanwhile, T. Rowe Price (-3 points, to 5%), Scudder (-3 points, to 2%), and Dreyfus (-14 points to 2%) all tumbled sharply. With a total share of 72% in 1986 and 70% in 1999, the “Big 5” are clearly swapping shares with one another. In fact, of the 25 largest firms in the direct marketing field, 19 have lost market share since 1986, with only six gaining. What can we learn from the success of the two peerless leaders in gathering market share? Only this: There is no single route to success.performance

I was recently asked about this issue in a question I received from a Vanguard shareholder, a member of a sort of Internet fan club known as “the Bogleheads.” (It is true!): Do you find that when people donate their money or volunteer their time to those less fortunate, good comes their way? And when people are miserly with their money and not very charitable with their time, do the chickens come home to roost? My response: Much as I’d like to shout amen to that thought, I fear that the rewards for doing right and the retaliation for doing wrong are rarely found—at least in any systematic or causal way—here on earth. We’ll have to receive the rewards in Heaven, if we are too receive them at all. The act of giving should itself be the motive for the deed. And when you give, give with an open hand.modest

There’s nothing quite equal to a second chance at life. “Something no man could have dreamed would come his way,” just as Goethe promised. Without that miracle, I would not be standing here today. Since then, providence has continued to favor me. What else could explain that just two weeks ago, FORTUNE magazine stuck again, just as it had a half-century earlier. As if to prepare me for these remarks, its feature article on Vanguard began with the headline, “Say It Loud: They’re Average and Proud,” and concluded, “two (of their original) old ideas, low fees and indexing, make Vanguard the company of the moment.” The story’s final words about what is now the industry’s second largest firm: “If Vanguard becomes No. 1, it would be the ultimate validation of its co-op style management structure, of its low costs, and of index funds too . . . a positively freakish event: A triumph of humility over those vain investors who think they can beat the market.” Yes, boldness can lead to magic.

points of our $500 billion base—a near-50% decline. We can’t accept all of the kudos for that reduction, however. For our total direct expenses leaped from $45 million in 1995 to well over $1 billion last year. However, soaring stock prices and huge cash inflows from investors carried our assets upward at an even faster rate. Economies of scale in fund management were also a big help. But modern communications and computer technology played a powerful supporting role, and our now 2000-person technology crew managed both the growth in our shareholder base and the increasing complexity of our businesses processes with extraordinary efficiency, economy, focus, and vision. I might add here a word about management’s role in all of this. Despite what I view as the mind-boggling complexity of computers and investment technology, of programs and processes, of bits and bytes, and of Bluetooth and XML, Bob DiStefano reminds me that how we do technology is far less challenging than deciding what we do—our objectives, our strategies, the allocation of our resources. Be that as it may, the record is clear that we’ve been pretty good in both areas. But we realize that we must never ignore the importance of setting intelligent priorities for our technology resources, and the need to have clear business objectives for each project we undertake. I’ll spare you my own pride in what Vanguard’s Information Technology team has accomplished.

Exhibit III: Returns After Costs BHB Study Vanguard Study Index Composite Return 11.8% 12.5% Average Fund Return (before costs) 11.2 12.3% Average Expense Ratio 0.6 1.0 Average Fund Return (after costs) 10.6% 11.3% Difference -1.2% -1.2% The total shortfall was 1.2% annually, reducing the market index return by 10%. Expenses accounted for 83% of their shortfall, and consumed fully 9% of the funds’ average return. As it turns out, moreover, there is a fairly systematic relationship between the cost and net returns of the balanced funds in our sample. Indeed, the gross returns of the 2nd, 3rd, and 4th quartiles are virtually identical when costs are eliminated from consideration. The results are illustrated in the table below. Unsurprisingly, lower costs lead to higher returns. Exhibit IV: Balanced Funds: Returns vs. Costs Costs Quartile Net Return Expense Ratio Gross Return 1st (lowest costs) 12.7% 0.5% 13.2% 2nd 11.3 0.9 12.2 3rd 10.9 1.0 11.9 4th (highest costs) 10.7 1.4 12.1 Average 11.3% 1.0% 12.3% What is more, costs systematically magnified the gross return advantage earned—for whatever reason. Randomness seems an unlikely explanation; perhaps reaching for a higher income yield to offset expenses is traded off against capital return at a net cost. In any event, every 10 basis points of lower expenses accounted, on average, for 20 basis points of enhanced net return.

to retain Wellington as fund advisor and fund marketer. But because success, as it were, in the fund field is driven, not by how well the funds are administered, but by what kinds of funds are created, whether superior investment returns are attained, and how effectively funds are marketed, I feared that I had won a Pyrric victory, for our new company was formally prohibited from performing those critical portfolio supervision and distribution functions. In any event, we needed a distinctive name for our firm, and Lady Luck quickly struck again. In mid-September 1974, a dealer in antique prints happened by my office and sold me some prints of naval battles of Great Britain during the Napoleonic Wars. Glancing at the book from which they had been removed, I read the text describing the Battle of the Nile in 1798, where Lord Nelson demolished the French fleet. His dispatch announcing the glorious victory proclaimed his flagship’s name and location: “Vanguard, off of the Nile.” I knew immediately that I had the name for our new enterprise! As 1974 drew to a close, the new Vanguard Group was a tiny company with a proud name, a staff of 28, responsible for only the administration—nothing more—of $1.4 billion of mutual fund assets, and a mutual structure without precedent in the industry—a structure in which the funds would be operated at cost, and solely in the best interests of their shareholders.

cost funds that don’t sell don’t count. Virtually ignored in the ICI methodology, the managers of funds that investors shun nonetheless prosper, even as their shareholders suffer. To the extent that the industry’s overly-generous appraisal of the data, along with its somewhat specious series of definitions, can be regarded as valid, what the data really show is that, quoting from the independent Morningstar Mutual Funds analysis, “the drop has been driven by investors, not by shareholder-friendly mutual fund companies,” and that a few fund families “deserve credit for keeping their expenses down, but one shouldn’t credit the entire industry for the virtues of a few—and for the diligence of investors in seeking them out.” Given the dynamic combination of (a) the increasing importance of no-load funds (sold without commissions); (b) the rapid growth of low-cost market index funds; and (c) the remarkable rise in market share of the industry’s sole mutual mutual fund complex—the unique structure adopted by a firm that operates its funds on an “at cost” basis (you’ll recognize that firm as Vanguard)—the industry’s claim that the cost of purchasing, as distinct from owning, fund shares has declined may well even be valid, as far as it goes. However, it doesn’t go nearly far enough.

success, a reputation that hangs on despite the tough sledding that has characterized its returns in recent years; and the most aggressive and expensive marketing and advertising programs in the industry’s history. (“If you sell it, they will come,” apparently.) The other leader, by contrast, has spent little on marketing and less on advertising, relying instead on the word-of-mouth recommendations of its shareholders—they are truly our apostles—and conveying our story through the financial news media. (Truth told, there are a few apostles there too!) “Earned and not bought” seems to work just fine. It is our well-deserved reputation for low costs and shareholder service, part of a truly distinctive business strategy, that lets us stand out in a field populated largely of firms that all seem to do the same things, make the same claims, and produce, over time, the same returns; fund returns that are typically driven down by the high costs of acquisition and ownership incurred by their investors. Professor Porter had it right when he spoke to the Investment Company Institute in 1993: “The mutual fund industry has grown fat and lazy, a ‘me too’ industry with most companies stuck in the middle. Only Vanguard has differentiated itself from the pack by having a genuine, unique, sustainable competitive advantage.” He did reassure industry executives, however, by telling them that our “measured, careful, gentlemanly competition” gave them some protection.

A Much Younger Cousin, A Mixed Pedigree Vanguard, of course, is a much younger enterprise, and its pedigree rather more mixed. We trace our lineage to 1928, when another remarkable Philadelphian, financial entrepreneur and fund pioneer Walter L. Morgan, founded Wellington Fund, one of America’s oldest mutual funds. His company, Wellington Management Company, operated and managed the fund. Like its peers, however, while it was mutual in name, its management was engaged in carving out a profit from the advisory and distribution fees the fund generated. It was the creation of Vanguard in 1974 that changed the operation of Wellington Fund from being a profit-making entity for its operators to one that operated on an at-cost basis, one in which the fund shareholders actually owned the operating company. Flying in the face of industry tradition and practice, Wellington Fund, under Vanguard’s aegis, became a truly mutual mutual fund, now joined by 106 sister funds that compose the Vanguard family of mutual funds. The change in the character of Wellington and its sister funds—from profit to not-for- profit—came when they were brought under the Vanguard umbrella. How that happened is a tortuous and compelling saga, filled with success and failure, joy and sadness, good choices and bad. I will not recount it today, except to say that we began operations as a tiny company with a crew of 28 members, providing only administrative services to Wellington and the other Vanguard funds.

sacrifice—and the satisfaction of helping one’s fellow human beings in need is quite enough reward. I continue to hold those principles high to this very moment. How Much to Give It occurs to me that those of us who have had the good fortune to accumulate some wealth during our lives—through our businesses, or our investments, or our inheritances—ought to be thinking about whether we are nearly generous enough. I inherited nothing but my genes, and perhaps my values and my character, from my forebears. And I created in Vanguard a business that I’ve never owned (it is owned by the shareholders of our mutual funds). But I have earned a substantial annual income, a considerable portion of which I saved, and invested intelligently enough in the mutual funds I created to have built a nice-sized estate. For many years I’ve followed the practice of giving half of my income to charity, including our United Way; our church; hospitals in which I’ve been given loving care; community cultural organizations, especially those which I serve; the schools and colleges that have touched my life and the lives of my wife, six children, and twelve grandchildren; and lots of other worthy causes that seem to merit my support. While giving at the 50% of income level may be rare, even among those with my good fortune, it is not nearly as generous as it might appear at first glance.

chairman in 1984, and served in that post through 1999. (I continue as a dedicated trustee to this day.) Even as my heart began to fail and during my long siege in the hospital awaiting the transplant, I threw myself into helping to rebuild my old school, to develop a long-range plan, and to restore its reputation. During that era, we’ve added a new classroom building, a new arts center, a new library, and a new girl’s dormitory, and are now building a new student center and gymnasium. At the same time, our endowment fund has risen from a pathetic $900,000 to a reasonable (but hardly excessive!) $54,000,000. Would that these were all my personal accomplishments! Alas, they’re not. Most of the credit goes to the remarkable headmaster who joined us in 1989 and leads the school to this day. Even as with Joe and Rick at the Constitution Center, hiring Headmaster T. Chandler (“Chan”) Hardwick and his wife Monie remains my signal achievement at Blair. With the support of a splendid faculty and staff and a fine alumni body, these two wonderful human beings have invested their lives in making the school that I love among the best in the nation. Now educating remarkable young citizens who will serve as America’s leaders in the new century, Blair Academy is a far better institution today than when I found it (or did it find me?) in 1945, all those years ago. Vanguard I suppose that its fairly easy to leave something better than you found it when it didn’t even exist in the first place.

 “The virtue of practical realism . . . common sense . . . paying your dues by getting your hands dirty and facing day-to-day frustrations . . . a strong sense of how the world really works, from the bottom up, gives you confidence in your ideas, no matter how unrealistic others may think them.” Yes, as Dr. Novak notes, we live in a society where realism seems a bit threadbare and outmoded, where what is said to be important is perception, and who knows whose perceptions are “true”? That notion does not please him, nor, most certainly, does it please me. Ever since I started Vanguard more than a quarter century ago, my mantra has been: “If there is a gap between perception and reality, it is only a matter of time until reality takes over.” The Worldly Economists Please realize that the ideal of business as a calling was hardly anathema to the worldly economists of the ages. Years before he wrote The Wealth of Nations, extolling the virtues of the invisible hand of competition and the essential nature of personal advantage and self-love in making the world’s economic system work, Adam Smith wrote The Theory of Moral Sentiments.

It is often best if things do not come too easily in this life. Surely, when I was fired in 1974 from my job as the chief of the mutual fund company I had joined in 1951, I had somehow failed. But out of the ashes of that painful experience came the Phoenix that is “in the vanguard” of the mutual fund field today. And failure seemed to plague our every early step, too. We experienced net cash outflow from our new firm’s funds for eighty consecutive months— think of that!—but we learned and we grew. If you must fail, then you must fight. Persistence was essential in our battle, for it was to take time to put our corporate structure and our business strategy into full flower. The deck was stacked against us at the outset, as our perhaps properly cautious directors were unwilling to create this mutual structure de novo. In 1975, we were allowed only to administer the operational, legal, and shareholder record-keeping affairs of our funds.in

My idea was simple. Why should our mutual funds retain an outside company to manage their affairs—that was, and still is, the modus operandi of our industry—when they could manage themselves and save a small fortune in fees? Truly mutual mutual funds, as it were. The battle was hard, with the Fund Board almost evenly divided, but this new structure finally carried the day. I had named our new company after HMS Vanguard (Lord Nelson’s flagship at the great British victory over Napoleon at the Battle of the Nile in 1798), for I hoped it too would be victorious in the mutual fund wars. However, my idea suffered a setback when the Fund directors allowed Vanguard (now owned by the funds) only to handle the administration side, responsible only for the Fund’s operating, legal, and financial affairs, when we began in May 1975. The other two—and far more critical—sides of the mutual fund triangle, investment management and marketing, were to remain with my rivals at Wellington Management.

1. Tangible Costs . . . management fees and trading commissions. Each dollar given away for, say, management fees is a dollar explicitly detracted from the portfolio net return. 2. Managed Costs . . . unintended risk exposures, tax costs, and Not-Equitized- Cash, an opportunity cost for not keeping funds fully invested. 3. Invisible Cost . . . the adverse market impact of trading and the opportunity cost of delaying trade execution. Result: “Simply put, every incremental basis point increase in rate of return translates into competitive advantage (by which) a firm improves its absolute performance and its ranking relative to its peers.” Thus, what the study calls the Complete Firm, the firm that “will lead the way . . . will diligently seek to minimize these performance detractors.” Thus spaketh, I remind you, not Vanguard/BOGLE, but Merrill Lynch/BARRA. Here is their prescription for curing the disease: “Releasing Embedded Alpha.” 1. Take a Holistic View (whatever exactly that is in this instance). Appoint a single Embedded Alpha champion with the firm. 2. Take an Alpha Inventory. Develop a coherent policy, and review all work processes. 3. Set Priorities. Widen managerial bandwidth. (Again, I confess my ignorance of the term in this context.) 4. Develop a Strategic Agenda that sets goals by which to measure success. 5. Make It Real on the Shop Floor, communicating the agenda and aligning incentives accordingly. 6. Tell the Market.

It took nearly three long years for us to develop into a full-fledged fund complex, providing not only administrative services to the funds, but distribution and investment services as well. And two more years were to pass before the new enterprise began to grow. But ever since 1981, our path has been one of unremitting growth—indeed the highest growth rate in the mutual fund industry. Mutuality—The Rock Foundation Suffice it to say that mutuality is Vanguard’s most distinctive characteristic, the rock foundation upon which all that we have accomplished depends. But without Dr. Franklin’s angels—energy and persistence—sitting on our shoulders, we never would have been able to form the new enterprise, nor to establish its character, nor to build it to its present substantial size. With assets of the Vanguard funds now exceeding $575 billion, we have become the second largest fund complex in the world.

But that’s the way I’ve always wanted to play the game. While it has seldom been noted by industry observers, our growth has been importantly fostered by what is measurably the highest level of client loyalty in the mutual fund industry. Vanguard shareholders have consistently redeemed their shares at only about one-half the industry rate—about 10% of assets per year, versus almost 20% for the other fund complexes (Chart 4). Investors who purchase a Vanguard fund stay at Vanguard for an average of 10 years, compared to just five years for those who invest with our peers. Consider this example of what this has meant to our growth: This year our share redemptions will be about $55 billion dollars. With new share purchases of $105 billion, our net cash flow will be about $50 billion (before dividend reinvestment). Had our shares been redeemed at the industry rate—i.e., doubling to $110 billion—we would have actually experienced a cash outflow. Repeated year after year, then, an industry redemption rate for Vanguard would have radically vitiated our market share gain. Client loyalty, in short, is one of Vanguard’s major assets. Low Costs Produce High Performance The attraction Vanguard obviously holds for long-term investors has been driven by two main factors. First are our hallmark low-costs. In an industry where costs have soared over the years, Vanguard is distinguished by driving its costs ever lower, even as the industry’s costs have soared.(Bear

However, I won’t spare you the results of the study conducted by Information Week a few months ago, in which we were ranked #40 among the 500 leading IT innovators. Indeed, in the Banking and Financial Services Category, we were ranked #7 among the 43 top firms, only two of our mutual fund peers even made that list, ranking #13 and #25. What is more, we earned gold medals in each of four designated categories: Application Development, E-business, Customer Management, and Business Processes/ERP. So, eight years after that imaginary Forbes quote that I used in 1992 to illustrate the abrupt change required in our technology priorities—from complacent also-ran to clear leader—we can fairly be said to have reached our ambitious goal. This seems only poetic justice, for the ship’s motto of HMS Vanguard—a name that has persisted in the British navy for more than two centuries—is “leading the way.Technology

While these might seem rather meager credentials, that structure set in motion all that was to follow. We quickly went to work to expand our mandate. Ignoring the limitations in our charter, we created the world’s first index mutual fund, and then the industry’s first targeted maturity bond funds, now the industry standard. We eliminated the seller-driven broker-dealer distribution force that had marketed the Wellington funds for nearly half a century, replacing it with our own buyer-driven “no load” system. By mid-1977, with our fund assets still below $2 billion, each of the critical elements of today’s Vanguard was not only in place, but set on a firm foundation. We had built it. Now we would test our thesis: “If you build it, they will come.” Our innovation, our structure, our strategy, our faith in stock indexing and in disciplined bond management, our over-bearing focus on low cost, and our attention to serving the needs of our clients were what we built, and millions of investors came. Year after year, unremittingly, our market share of industry assets increased, and our fund assets now total $560 billion. The Vanguard Experiment has worked.

I’m speaking, of course, of Vanguard, the little company that I founded all those years ago, a company started by accident and begun as an experiment. The legends about Vanguard’s creation happen to be true. Yes, in January 1974, I was fired from my job as chief executive of Wellington Management Company. Yes, I then presented a plan to the directors of the Wellington-managed mutual funds under which I would remain as their chief executive, and the funds would retain their own operating staff. Yes, after months of tussling, the directors approved that initial plan, and Vanguard was incorporated on September 24, 1974. (And yes, I picked that name out of an old book of Great Britain’s naval history, where I learned for the first time of Lord Nelson’s flagship at the Battle of the Nile in 1798; it was HMS Vanguard.) The creation of that unique new structure led to: (1) the establishment of a new form of governance in the mutual fund industry, a mutual structure in which the interests of fund investors would take precedence over the interests of fund managers and distributors, in constitutional terms, a governance “of the investor, for the investor, and by the investor.that

I picked a name borne partly out of Duke-of-Wellington- era British battle history, partly out of my lifelong love of the sea, and partly out of the conviction that we were truly onto a new and better way of running a mutual fund complex. It was, of course, the name “Vanguard.” After heated debate, the Board approved the name. “The Vanguard Group, Inc.” was incorporated on September 24, 1974. By this time, the bottom of the bear market was at hand, and our assets, which had fallen from the $3 billion peak, through $2 billion, were down to $1.4 billion—a decline of more than 50%. And hard times were to face us for eight years, until the summer of 1982, when the great bull market, that I must credit for the lion’s share of our growth, began. That bull market, unprecedented in financial history, remains intact this today. The hard times we faced were reflected in tough financial markets, magnified by the poor performance of Ivest Fund and Wellington Fund, although Windsor, under John Neff’s aegis, performed admirably.still

So we had to seek yet another diamond. And we quickly found what was to prove to be the rival of the fabled Kohinoor diamond in size. The fact that investment management was outside of Vanguard’s mandate led me, within months, to what may seem obvious, a great idea that I’d toyed with for years. And before 1975 had ended, we started the world’s first index mutual fund. Our first index portfolio—based on the Standard & Poor’s 500 Stock Index—was derided for years, and first copied only after a full decade had passed. But very soon this fund, once called “Bogle’s Folly,” will be the largest mutual fund in the world, one of 28 index mutual funds that today constitute nearly one-third of our business. The trick of the index fund, I argued to the Board, was that it didn’t need to be “managed;” it would simply buy all of the stocks in the Index. The argument narrowly carried the day, and with this quasi-management step, we had edged into the second side—the investment side—of the triangle. How to get the final and third side—the marketing function? Why, just find another diamond. Our idea was to eliminate the very need for distribution, doing away with the Wellington network of brokers and relying, not on sellers to sell fund shares, but on buyers to buy them. So, in 1977, after yet another divisive battle, we made an unprecedented conversion to a no-load, sales charge-free marketing system. Once again, we’ve never looked back. We’ve never had to.

precious few portfolio managers have measured up to over time. (3) The development of a new paradigm for bond fund management, using innovative three-tier structure of short-term, long-term, and intermediate- term portfolios that quickly became the industry standard. And (4) the abandonment, literally overnight, of a proven broker-dealer, commission-oriented “supply-push” distribution system in favor of a new and untried no-sales-charge, “demand-pull” system for self-motivated investors. None of these changes came easily. To accomplish them required a devil-may-care attitude; a blasé disregard for risk; a profound conviction, without hard evidence, that they would work; and the sheer energy required to get it all done. Yet despite what we regarded as our noble intentions, the completion of our structure was initially opposed by the Securities and Exchange Commission, which rejected our structure and dawdled over our appeal for years. When the Commission finally gave us its unanimous approval, it came with an endorsement that proved to be prophetic: “The Vanguard plan actually furthers the (1940 Investment Company) Act’s objectives, and promotes a healthy and viable complex in which each fund can better prosper.” And prosper we did. By the time the SEC finally gave us the green light in 1981, seven long years after we began, the stock market recovery had begun, and our assets had doubled, from $1.4 billion to $3 billion.

This thrilling ride drew on my every talent—however modest—and seemed to ignore my numerous weaknesses. My energy and sheer delight in making a radical departure from industry norms and in building a new business, and my feisty taste for the competitive battle were unflagging. But while my spirit was willing, my flesh was weak and growing weaker by the day. A genetic heart disease, first manifested when I was 30 years of age, gradually worsened, and by early 1995, the right half of my heart had ceased to beat. I decided to step down, and end my career as Vanguard’s chief executive. February 1996, Break #3—“You Have A New Heart” Of course my failing heart was a major reason for my decision. But I also did not intend to outstay my usefulness, and, truth told, I had found the operating challenge of managing a firm that had already grown to some 5000 crewmembers (on the way to 10,000) paled by comparison with the entrepreneurial challenge of building a new company and establishing its character—its common sense investment philosophy and its ethical human values. Further, I’d remain at Vanguard, for the Board agreed that I would continue to serve as Chairman. In October 1995, I entered Hahnemann Hospital to await a heart transplant. As a round- the-clock intravenous line carried heart-stimulating drugs that kept me alive, I remained cheerful, optimistic, and of course busy in my Vanguard duties. On February 21, 1996, after 128 days in the hospital, I received my new heart.

Let me now turn from the miracles of what Vanguard’s IT group has accomplished to the miracles that technology has brought to the mutual fund industry. These four stand out:  The emergence of a financial system that has enabled the professional money managers of funds to offer a whole new variety of investment products, to provide remarkable liquidity for transactions, and to transact business around the globe at the speed of light.  The provision of an up-to-date information network that provides data about mutual fund portfolios and performance so vast as to be beyond the ability of the human mind to absorb.  The development of websites that not only provide fund shareholders with real-time account valuations, but also financial planning advice, including recommendations on saving for retirement and on the allocation of investment assets.  The availability of a communications network so efficient that investors can purchase and redeem fund shares instantaneously (albeit so far with the transactions executed no more frequently than hourly), without ever moving from their desktop computers. But, with all of this extraordinary technology available to investors, I ask you tonight: To what avail? Yes, computer technology has played a major role in the growth of the mutual fund industry, adding a whole new order of magnitude to the growth fostered by the 18-year bull market in stocks.

in mind that the industry costs reflect fund expense ratios only; they ignore sales charges, paid on the purchase of shares in almost one-half of all mutual funds. Since we offer only no-load funds, Vanguard’s cost advantage is in fact substantially larger than it appears.) The impact of cost is greatest where the time horizon is longest. If a low-cost complex operates at a cost of ¼ of 1% (assuming a market return of 10%) over 25 years, it captures 95% of the market’s return. A high-cost complex (at 2%), would capture but 63%. So here is another form of the tyranny of compounding—cost compounds, too! Since 1980, the expense ratio of the average Vanguard fund has dropped from 59 to 28 basis points, even as the industry’s expense ratio has risen from 99 basis points to 125 (Chart 5). Thus our margin of advantage has risen from 40 basis points to almost 100—by two and one-half times—an 80% competitive advantage in unit costs. This advantage is pervasive—in our U.S. and international stock funds alike; in our balanced funds; in our tax-exempt and taxable bond funds; and in our money market funds. After all, given Vanguard’s unique mutual structure, we have two ways of earning profits for our shareholders: Investing in portfolios of securities that provide generous long-term returns; and minimizing the drag of intermediation costs so as to provide the highest possible portion of those returns.

0.90% per year? A 27% cost increase. (Including Vanguard, whose equity fund costs—using the ICI methodology—are down from 0.67% to 0.27% since 1980, a reduction of 60%!) If there is price competition, how can the industry possibly explain how the industry’s sole very low cost provider has, since last July, accounted for an eye-popping 80% of the cash flow into direct- marketed (no-load) stock and bond funds . . . without significant competitive response. (That’s right: Vanguard cash flow, $40 billion; other direct marketers $9 billion.) In what other industry could a relative upstart capture a market share of 80% and not have a single competitor imitate its strategy? How one can equate this picture with the allegation that mutual funds compete vigorously based on price is beyond my comprehension. Consider this simple example. Assume there are just two large mutual funds, Fund A charging 2% per year and Fund B charging 0.20%. In the first year, investors are unaware of the role costs play, and Fund A has sales of $100 million and Fund B zero. In the next year, investors wake up. Fund A has no sales and Fund B $100 million. Miraculously, under the ICI methodology, the cost of fund acquisition (not ownership) has dropped by 90%—from 2% to 0.20%. How would Fund A’s manager respond? If the manager cut the fee to 1%, his profits would be squeezed, yet a cost-conscious marketplace would ignore it. At 0.

” While all of this gratuitous advice from a callow college senior was, alas, largely ignored by the fund industry, the creation of Vanguard as a truly mutual mutual fund group—operated on an “at-cost” basis for the benefit of its owners rather than its managers—was my attempt to walk the walk that I talked the talk about all those years ago. Today, I assure you that my youthful idealism remains intact. Indeed, it is shamelessly reflected not only in Vanguard, and not only my Battle book, but in my new book, The Little Book of Common Sense Investing, both of which express—in different ways—my concern about our business and finance system, where so much has gone wrong. It is truly astonishing how pervasive have been the failures in our capitalistic system. While it’s often alleged that these problems have been limited to just “a few bad apples,” the evidence suggests that the barrel that holds all those apples, good and bad alike, has developed some serious problems. For example:  Yes, there have been “only” a few Enrons, WorldComs, Adelphias, and Tycos. But during the past five years, there have been 5,989 restatements of earnings by publicly- held corporations, with stock market capitalizations aggregating more than $4 trillion, often reflecting overly aggressive accounting procedures.Motors)

Awakening in the blackness, the first words I remember hearing were, “Congratulations. You have a new heart, and it is young and strong.” And so it was. It was also a near-perfect match. I’ve had 33 consecutive zeros on the rejection scale, have long ago ceased taking the most potent anti-rejection drugs, and am enjoying perfect health. With my miraculous second chance at life, I have the energy of a colt, play squash doubles a couple of times a week, again sail my aging 15-foot sailboat, enjoy my family, and take long walks with my wife. I’m also vigorously engaged in what has turned out to be my third career. For when my long tenure as a director came to an end as 2000 began, the Board, happily, agreed with my proposal that Vanguard would sponsor a newly-formed Bogle Financial Markets Research Center.to

Marching to a Different Drummer But while mutuality has been the key factor in Vanguard’s growth and in the Philadelphia Contributionship’s longevity alike, the concept is hardly winning any popularity contests. Part of the reason for my choice of the name Vanguard for our new firm was to suggest that our structure would establish a new trend, one that would lead the way in the mutual fund industry. Alas, after the passage of nearly 28 years, our mutualized structure has yet to attract its first follower. Indeed, in the insurance field, it is de-mutualization that is leading the way. Nearly all of the great mutual life insurance companies that once dominated their field have abandoned their heritage. And mutual thrift institutions—before its demise, even the venerable Philadelphia Saving Fund Society had converted to stock ownership—are today as hard to find as the cigar store indian.creating

50%, his profits would be gone, and the impact on the market would be no more than minimal. And at 0.20%, the manager would probably be bankrupt. So the manager of Fund A doesn’t reduce his 2% expense ratio. Price competition is defined, not by the behavior of consumers, but by the actions of producers. What would real price competition look like? The answer is as simple as it is obvious. Since Vanguard’s success has been based on long-term investing at low-cost, competitors would have to: (i) cut their management fees and the portfolio turnover of their managed stock and bond funds; and (ii) plunge enthusiastically into the index fund fray; a “kicking and screaming” entry won’t do the job. These changes would make money for their investors. But they would slash profits for their management companies (and their shareholders), for it costs managers money to give shareholders the fair shake they deserve. The simple economic truth is this: As long as today’s awesome level of profitability is priority number one for the managers, fund shareholders will pay the price, and industry expense ratios will continue to edge ever upward.Advisers

’ And so I look at the de Tocqueville Award not only as recognition of the past, but as an encouragement—indeed a challenge—to do even more through our United Way, in the future years I am given.” In striving to live up to that promise, I joined the de Tocqueville million-dollar round table in 1995. It took me nearly six years to complete my pledge, but I just wrote my final check over the weekend. It’s a privilege to have made that commitment, and a delight—and a relief!—to have fulfilled it. I’ve felt strongly enough about the United Way to have put Vanguard’s weight behind it almost from our very inception in 1974.Vanguard-wide

With the extraordinarily low operating expenses that became our hallmark—a product of our mutual structure and our cost discipline—offering our shares without sales commissions proved a timely step. Our fundamental marketing strategy: “If you build it, they will come.” (A phrase, of course, that inspired the creation of a baseball diamond in Iowa.) And, though it took years to happen, come the investors did. By the millions. The diamonds Vanguard had accumulated during those struggles, however, were not yet quite ours. They were only on loan. The Securities and Exchange Commission gave us only a temporary order allowing us to take some of these crucial, but unprecedented steps. And finally, believe it or not, the SEC concluded that we could not do so. Aghast, for I knew we were doing what was right for investors, we endured a week-long regulatory hearing, mounted a vigorous appeal, and—after a struggle that lasted four years—triumphed at last in 1981, when the SEC did an about face and finally approved our plan. The diamonds weren’t going to Boston.Wellington

The board approved (9 to 2—a landslide for a change) our assumption of responsibility internally for our money market and bond funds in 1981. Slashing the expenses of these funds by doing the job ourselves at rock-bottom cost, we raised net income accordingly. Our resultant superior yields, combined with our existing strategies of peerless investment quality and defined maturities, has made us the dominant force in the fixed-income fund field today. So by 1981—just six years after we began as a tiny administrative business—we had become the full-fledged mutual fund organization that I had sought to become, without success, in 1974. The modern Vanguard was in place. There was, really, just one more action we took that established the firm that the world knows today, and that was our very first action after we got up and running in 1975. We formed the first index mutual fund. The Inescapable Logic of our Index Fund I’ve always had a bit of an intellectual bent to go with the opportunism and determination that were required to conceptualize, form, and develop the full Vanguard structure. As an avid reader of the academic journals, I had become intrigued by the concept of index investing, and had watched it gain a toe-hold among a few banks and pension funds during the mid-1970s. The idea of index investing was simply to match the market and, by keeping costs at minimal levels, to winning the game in the long-run.of

Once upon a time, managers could (and did) use the argument, “yeah, but who can buy the market?” And later, “yeah, but the index is theoretical, and it would cost a lot to buy, be expensive to operate, and you wouldn’t be able to nearly match the index.” The low- cost index fund has given the lie to these foolish make-weight arguments. But even though Vanguard founded the first index mutual fund began in 1975, fully 22 years ago (perhaps the bogle goblin really was the data devil), it was not until the mid-1990s that index funds began to catch the fancy of investors and become a formidable competitor for their assets. And tough competition they are. As recently as 1994, index funds accounted for only 3% of equity fund flow ($4 billion). In 1997, index fund inflow should reach a 15% share ($30 billion). What is more, tough in the marketplace they should be. For they have been tough in the market. As I noted at the outset, the total return on the original S&P 500 index fund (net of costs) over the past 15 years was 18.2% annually, compared to 15.7% for the average U.S.equity

Every three years thereafter, assets would double again and again with remarkable regularity. In 1983, to $6 billion; 1985, $12 billion; 1986, $24 billion; 1989, $50 billion; 1992, $100 billion; 1995, $200 billion; and again to $400 billion in 1998. Remarkable! While it took longer—seven more years—for our assets to double yet again, we crossed the $800-billion mark in 2004. Today we oversee $1.1 trillion of other people’s money. Surely that growth can be described as a commercial success for our firm. More importantly, Vanguard has also proved to be an artistic success for our fund shareholders. The returns earned by our funds are consistently ranked near the top of our industry, most recently as #1 by Global Investor. How could it be otherwise? For this is an industry where cost is everything. After all, for investors as a group beating the stock market is a zero-sum game before the huge costs of financial intermediation, that a loser’s game after deducting those costs. These relentless rules of humble arithmetic, using Justice Brandeis’s formulation, backed by our mutual structure and our legendary thriftiness, guaranteed that we would be—as we are, by a huge margin—the world’s lowest-cost provider of financial services.and

with a human failure (of a rather different kind—heart failure) with all of the patience, persistence, and courage that I could muster when, a little over a year ago, I endured a 128-day hospital wait, on life-sustaining intravenous fluid, before receiving a heart transplant. Believe me, you can’t possibly imagine the sheer joy in my (new) heart as I speak to you this morning. How could I not exude energy, enthusiasm and delight in bringing you this message of challenge to you this morning: Draw on your own God-given talents and be a leader in whatever you decide to do with your own life. Let me close by speaking on leadership with some words rather more poetic than my own, written more than a century ago by the poet Arthur O’Shaughnessy. He opened his “Ode” with this inspiring stanza: We are the music makers, And we are the dreamers of dreams, Wandering by lone sea-breakers, And sitting by desolate streams; World-losers and world-forsakers, On whom the pale moon gleams: Yet we are the movers and shakers Of the world for ever, it seems. I first used this verse in one of my periodic “sermons” to the Vanguard crew way back in 1986. But I was stunned just three weeks ago when I heard the poem again, in its entirety, in Sir Edward Elgar’s inspirational musical version, composed in 1912.

creating the first index mutual fund was exciting. It wouldn’t involve “investment management” for our new firm. The board had decreed that as a taboo at the outset. But I knew absolutely that “non- management” had to work. An “at cost” operation like ours could make the most of the opportunity, and we grabbed it. So, when Vanguard finally began operations in May 1975, we quickly developed a plan for the formation, management, and distribution of the first index mutual fund in history. The board (again, after considerable controversy) approved it four months later in September, and it was incorporated in December of the same year. Then named “First Index Investment Trust”—though known more familiarly in the industry as “Bogle’s Folly”—the fund began operations with $11 mission of assets in August 1976. It’s had a good run, solidly outpacing the returns of actively-managed funds. And the now-well-known 500 Portfolio of the renamed Vanguard Index Trust, with assets nearing $50 billion, is the second largest mutual fund in the world. It constitutes about one-half of our index book of business of 26 passively-managed stock and bond funds, now approaching $100 billion in assets. These assets, in turn, comprise nearly one- third of our $300 billion asset total today. Standing alone, our index funds would be the nation’s seventh largest mutual fund complex. All in all, it wasn’t too bad an idea.

organization that spread the responsibility for success down through the company, division by division, unit by unit, person by person. I resisted—but only by a whisker—the temptation to personally review our list of givers, for I knew that some crewmembers who should participate wouldn’t, and some who could make major contributions would give pittances. But even without that pressure, we’ve done a pretty good job. We’ve become an important part of our community’s United Way effort. Vanguard’s total support—corporate plus crew, in roughly equal proportions—has grown has grown from $700,000 and 1,500 contributors in 1992, to $3.8 million and 9,500 contributors in the current campaign. We produced 1.5% of the greater Philadelphia campaign at the outset; this year our contribution exceeds 7%. Last year, we led our region’s total giving; our crew participation was 88%; and our leadership-giving counted 211 leaders, including 21 de Tocqueville Society members who gave $10,000 or more. How did we do it? The key to success is not a mystery. It’s the same key that opens the door to success in any campaign, indeed in any business. A combination of leadership, commitment, organization, execution, desire, and spirit. Making my own support clear, in both word and deed, was essential. Indeed, I was so committed that I violated my usual practice of doing my giving anonymously and made my United Way gifts and pledges public.

Second, the S&P 500 has actually turned in a slightly higher annual return than the stock market over the full 75-year period: 11.0% vs. 10.6%, suggesting that small-cap and mid-cap stocks as a group have produced an annual return of about 9.6% per year. Of course there were—surprise!—frequent reversions to the mean during the period, with large caps doing much better during the depression years than from the end of World War II through 1955, and then during the great bull market that ran from mid-1982 to March 2000. But the fact is that the S&P 500 index that we selected in 1975 as the benchmark for the Vanguard 500 Index has stood the test of time. I have no doubt that will do so long into the future.

come, working with the press and on television, regularly meeting with Vanguard crewmembers, and acting as a sort of ambassador to our shareholders/owners around the country. But perhaps the most rewarding part of my third career is the opportunity to apply my unflagging missionary zeal to the building of a better financial world. As I wrote years ago, investing is an act of faith—faith in our financial markets, faith in the stewards who manage our corporations, and faith in the trustees who invest our hard-earned assets. Given the events of the past few years, it can be no surprise that in each case investors are losing faith—and with good reason. So my new efforts focus on rebuilding faith in investing, on making the mutual fund industry a better place to invest, and on restoring the traditional values of Corporate America. In a sense, I have come full circle, for that very same 1949 issue of Fortune that included the mutual fund story also carried an extensive essay entitled, of all things, “The Moral History of U.S. Business”—one more marvelous coincidence. I take on these challenges with the same idealistic spirit that Fortune inspired in my ancient thesis, the same aspirations with which I joined and then ran Wellington, the same steadfastness that was required after I got fired, and the same energy, enthusiasm and zest for accomplishing the impossible with which I created and ran Vanguard.

in 1928 and of Vanguard in 1974. That should have exhausted the diamonds in my Golconda, but there proved to be one more diamond awaiting my discovery here. I’ll come to that later. Before I do, I would like to talk a bit about leadership. While I have a rather large ego, I’m reluctant to personalize the forces that brought Vanguard to the very pinnacle of this industry, with a reputation (I’m immodest enough to say) that may well exceed even our frighteningly-large asset base. Starting a new firm, with a new name and a clean slate to write upon, I had but one ambition. It had nothing whatsoever to do with huge assets or dominant market share or anything that can be counted. I told this to the Directors at the outset; my goal was to make Vanguard the proudest name in the mutual fund industry. And I was absolutely determined to accomplish it. We would build the firm on just two ideas. One was simplicity. Our Funds would have clearly stated investment objectives, explicit investment policies, and precise performance measurement standards. Their portfolios would be broadly diversified, conservatively managed, and invested largely in high-quality securities. We would hold costs to the minimum, for, apparently almost alone at the outset, I had discovered the best-kept secret of the investment business: gross investment return, minus the cost of management, equals the net return earned by the investor.

. . for success itself, not for the fruits of success”—are in the ordinary course of events succeeded by businessmen who are more susceptible to temptation by the fruits of success and the greater personal wealth that results from building their empires. They perceive, perhaps correctly, that having public stock available to acquire other enterprises will enhance—for better or worse—their ability to achieve those goals. Yet one of the secrets of success is remembering whence you came, living up to the character you have established, placing the trusteeship of the assets entrusted to you by your owner-clients first, even if it entails substantial personal cost. I salute the Contributionship for staying the course that has served its policyholders so well, even as I assure you that I have neither personal nor professional regrets about creating a mutual structure for Vanguard. While mutuality is hardly in vogue today, it has been the linchpin of the strategy of two firms that have dared to march to a different drummer. They have succeeded in their highly competitive business simply by being companies that stand for something. II. Invention It is impossible to imagine a contemporary American who has demonstrated anything remotely resembling the breadth of interests of Benjamin Franklin. He was a central participant in the drafting of both the Declaration of Independence and the Constitution, and a signer of both.

managed largely by the contemporary numeric standards of modern management. But at our core, at least through my idealistic eyes, our founding values remain largely intact, thriving on our commonsense mutual structure, on our simple investment strategies, and on eternal verities such as service to others before service to self, doing our best to hold high the belief that ethical principles and moral values must be, finally, the basis for any enterprise worth its salt. So yes, I’m reasonably comfortable—if hardly objective!— in my conviction that, Vanguard will remain the fully-realized manifestation of our original vision that it is today. What is more, we have made a positive impact on our industry—in direction, if hardly in magnitude—that will ultimately make the mutual fund industry a better industry than it is today. The Financial Markets But it was years before I founded Vanguard that I first engaged with our financial markets. (Until then, given our family’s circumstances, I was very familiar with large debts and threatening repayment notices, but knew nothing—zero—about investments.) But when I happened to open FORTUNE magazine in December 1949, I learned of the mutual fund industry for the first time. I was intrigued and inspired by the prospects of this then “tiny but contentious” industry, and wrote my Princeton thesis about it. The thesis, in turn, led directly to my first full-time job in the summer of 1951—with Philadelphian Walter L.

between the hedgehog and the fox. “The fox knows many things,” Archilochus told us 2200 years ago, “but the hedgehog knows one great thing.” In an industry filled with brilliant, sly, ambitious, impatient, high-cost investment manager-foxes, trading portfolio securities with a vengeance and ever seeking the holy grail represented by outpacing the financial markets, we are the principal hedgehog. We know the one great thing: that the closest we will get to that holy grail will come by owning a widely-diversified portfolio of high-quality stocks (or bonds) that effectively represents the market, trading those securities only when absolutely necessary, and operating at low-cost. Our best-known strategy, of course, is stock market indexing. We now manage 28 index funds (including four bond index funds and six balanced index funds), but more than 75% of our $210 billion in index fund assets is represented by two funds modeled on the S&P 500 Index, and one modeled on the Wilshire 5000 Total Stock Market Index. We pioneered the first index mutual fund in 1975; our level of conviction reflected in the fact that, following our commencing operations in May of that year, it was Vanguard’s very first business decision. As it has turned out, indexing was a transforming decision for the firm, the apotheosis of all we stand for in linking cost and value—low cost and high value, inextricably intertwined.

Sharply reduced costs in this fund industry will obviously serve fund shareholders, but it should not go without saying that it will also serve personal financial advisers. You charge, as you must, fees for the services you provide your clients, and you deserve a wide choice of suitable, fairly-priced funds from which to choose the mutual funds you offer. That simple fact, indeed, lies behind my conviction, reached more than a decade ago, that Vanguard, with its low- costs, should be the natural ally of financial planners and registered investment advisers, with their need to keep the total level of client costs at reasonable levels. Working in unison, personal financial advisers can press the funds to reduce their costs with a power far greater than my idealistic vision. If your association, representing individual investors, could somehow join with retirement plan trustees, representing institutional investors, and demand a fair shake for fund investors, you could make a real difference in enhancing the future returns earned by your clients. In this context, I was struck by your Code of Ethics. It uses wonderful words that, as it happens, rarely if ever appear in mutual fund literature: “fiduciary responsibility to clients. . . practicing fairness and suitability. . . integrity and honesty.” These are the right words to describe the values of firms and individuals entrusted with the stewardship of the assets of investors.

Schumpeter’s Three Entrepreneurial Standards As I hope you can sense, laying this solid foundation was an exciting business, replete with a sense of purpose, success and failure, elation and disappointment, close calls, a bit of foresight, and no small amount of luck. Looking at this history, our Yale senior sought to reach his conclusion. If I were to be deemed an entrepreneur, I would have to fulfill the three tests of entrepreneurial drive set forth by Schumpeter: first, the dream and the will to found a kingdom; second, the will to conquer and the impulse to fight; and third the joy of creating and exercising one’s ingenuity. Here’s what the Yale paper found: “First, the dream and the will to found a kingdom . . .” Here, the paper, using Schumpeter’s words, generously dates my dream as first arising in my Princeton thesis. He notes, correctly to be sure, that “the dream was in and of itself not remarkable, . . . particularly for a young idealist. What was remarkable was that he had the determination to stick with it until he had created . . . . a new sort of investment company, ‘of, by, and for the investors’—not the investment managers.” And he is right. That is just what Vanguard is today.

I hoped my own commitment would inspire my colleagues at Vanguard and my counterparts in other firms to step up to the plate, too. Only time will tell whether or not I succeeded. Creative Destruction Now in fairness, most of this growth in our United Way program is a reflection of our growth. Our fund assets of $550 billion this year have multiplied six-fold since 1992. That growth has been a happy, even essential, event for our community. For in the financial services industry during this period we’ve seen much creative destruction—the phrase Joseph Schumpeter coined to describe the impact of innovation and entrepreneurship in our economy. The names of most of America’s largest regional banking institutions have vanished, their once-local identity subsumed by national pachyderms, as across the nation the banking industry has relinquished to the mutual fund industry its traditional role as the savings vehicle of choice for America’s families.measurably

The Total Stock Market Index Nonetheless, I continue to favor the Wilshire Total U.S. Stock Market Index as the prime benchmark for an index strategy—not to the exclusion of the S&P 500, but as the place to begin for most investors who are not yet indexing. While returns of the two indexes are apt to be identical over the long-run, there seems little to be gained by accepting any short-run deviation from the market. At Vanguard, we began to implement the total market strategy in 1987 with the creation of the industry’s first Extended Market Index Fund, (based on the Wilshire 4500 Index), enabling investors to fill out their S&P 500 portfolios by adding the rest of the market. But, convinced that this two-pronged strategy might someday result in surprisingly high portfolio turnover as stocks moved back and forth between the indexes, in 1992 we introduced the first total stock market index fund, based on the Wilshire 5000 Index. I believe that it is only a matter of time until the total stock market, most easily measured by the Wilshire 5000, becomes the basic standard for the broad-based indexing strategy. The Wisdom of Stock Indexing After more than a quarter of a century of stock indexing, how has it worked? Unbelievably well! Consider the results of Vanguard’s 500 Index Fund since its initial underwriting in 1976. First, it survived, something that can’t be said about 160 of the 356 equity funds in existence when we made our debut.

With this remarkable insight, we could say (though we didn’t dare to say it for quite a few years) that the central task of investing is to realize the highest possible portion of the returns earned in the financial markets by the asset class in which you invest—stock, bond, money market alike—recognizing and accepting that (and here is the key phrase) that portion will be less than 100%. The recognition of this reality finds its apotheosis in our low-cost index fund, which provides 99% of the market return. For the record, the portion provided by the average mutual fund—stock, bond, and money market—has been about 85%. With the fundamental Vanguard diamonds—our mutual structure and our focus on low-costs—we have had the best possible opportunity to approach that 100% desideratum. The second idea may surprise you. It was to make human beings the focus of our firm.and

financial goals.” This credo says nothing about aggregate billions of dollars of assets, nor millions of investors, nor Lord forbid, market share, nor even about corporate strategy, nor the need for financial controls, technology support, and focused marketing, although all of them are, to one degree or another, necessary. But they are secondary to our primary goal: to serve the human beings who are our clients to the best of our ability, to serve them with candor, with integrity and with fair dealing. To be the stewards of the assets they have entrusted to us. To treat them as we would like the stewards of our own assets to treat us. This mission is not very complicated, but if you preach it, you’d better live it, every single day. It should go without saying that the same concept of “human beings” should apply to those who serve on our Vanguard crew. (Under penalty of a $1 fine, we don’t use the word “employee,” nor the word “product.”) Those of us who earn our livelihood at Vanguard should treat one another the same way as we would like to be treated. The keys: respect for the individual; recognition that, “even one person can make a difference;” financial incentives to each and every crewmember, based on the rewards we earn for our fund shareholders compared to our peers. Our great crew has made me look good for almost 25 years, and that is the least that I owe to them.

uncanny ability to recognize the obvious.” For better or worse, I accept that criticism. (Or was it intended as praise?) But our indexing and bond strategies, radical for their time and once considered heresy, have now become dogma. And in the marketplace, they have proven, using the current lingo, to be the “killer apps” of the mutual fund business. Our huge cost advantage has the effect of nicely elevating Vanguard fund performance relative to the performance of our peers. In U.S. equity funds, over the past five years, for example, our average ranking rose from the 41st percentile to the 28th, and international funds, from 68 to 54 (Chart 7). For balanced funds, from 29 to 21. (It gets harder to improve when a fund is already near the top quartile.) For taxable bonds, from 33 to 11; tax-exempt bonds, from 74 to 31. And for money market funds, our percentile soars from the 61st to the 4th. “Out of the commonplace into the rare” might be a fair description of the thrust that low cost delivers to our performance leadership. Given what we observe in most competitive industries—and the mutual fund industry is ferociously competitive in all respects save one, the setting of prices—we might expect our competitive edge in cost to be challenged. But it is not. No fund leader, as far as I can tell, has looked at the market share numbers, called a meeting of his senior officers, and said: “These guys are eating our lunch! Let’s take them on, toe to toe! Now!” That hasn’t happened.

Public Domain, Not Private Profit Vanguard provides at least one parallel with Franklin’s concept of placing his inventions in the public domain rather than seeking private profit. Vanguard’s innovative structure was designed to reduce the claims against investment returns by institutional managers and distributors to the bare minimum, the better to enhance the residual returns remaining for investors. Shortly after we began operations in May 1975, it occurred to me that the best way to bring our common sense principles of investing to their logical conclusion: Since an index of stock market prices provides a fine replication of the actual returns earned by the entire stock market, then investors could capture almost 100% of that annual return simply by owning the market at nominal cost. This obvious insight quickly led to the simple invention that has been the most powerful manifestation of Vanguard’s philosophy of mutuality—the world’s first index mutual fund. A Thesis in 1951, An Index Fund in 1975 But that was not the first time that the idea had occurred to me. Some 25 years earlier, in my Princeton University senior thesis on the mutual fund industry, I had written that mutual funds “could make no claim to superiority over the market averages,” and that mutual funds should, above all, serve their investors, and serve them “in the most honest, efficient, and economical way possible.” Those insights were based solely on anecdotal data.

The author also lauds Vanguard for having “a real and tangible sense of purpose.” However, he points out that my initial vision was a blurry one, and concludes that the public version of our founding is to a degree a myth—albeit “a good one.” But in all, I pass his first test: “Bogle has realized his dream.” “Second, the will to conquer, the impulse to fight, to succeed for the sake, not of the fruits of success, but of success itself.” The Schumpeterian phrase is used in the paper to discuss how I faced a bad situation, by dint, in the author’s words, of “sheer force of will.” But he notes, that without these external circumstances, there is a question as to whether that internal will would have had the opportunity to function. He concludes, doubtless correctly, that “were he not forced to act out of the ordinary, he would not have acted out of the ordinary. . . . because his conservative nature (I’m sure that’s accurate) ensured that his entrepreneurial passions would remain largely checked until circumstances called for their release.” He also believes that my motivations were “not so purely altruistic as the Vanguard myth would suggest.” Fair enough. He also describes me as a fighter, noting that “the fight first to secure Vanguard’s independence and then to see it triumph has been the story of Bogle’s life since 1974.” Further, he refers to the state of war that is said to exist between Vanguard and Fidelity.

11.1%1, and an investment of $1,000,000 made on August 30, 1976 would have grown to $14.1 million; the final value of the same investment in Index 500 would have grown to $22.7 million. Interestingly, the difference of $8.6 million was almost exactly the same as the $8.5 million index fund advantage reflected in the 30-year study of fund performance that I presented to the Vanguard directors when I proposed the first index mutual fund way back in 1975. Clearly, the index advantage has remained substantially intact over the years. If 55 years of experience constitutes a reasonable standard, stock indexing has met the test of time, and its wisdom now seems beyond reasonable challenges. The Wisdom of Bond Indexing While it is seldom acknowledged, bond indexing works every bit as well as stock indexing. Indeed, because the returns of individual bond funds have such a high cross- correlation, the index advantage is even more obvious. It took me until 1986 to get around to starting Vanguard’s Total Bond Market Index Fund, and it has been an unarguable investment success2, outpacing fully 170 of the 192 managed bond funds that survived the subsequent 15 years. Since the fund’s inception at the close of 1986, our bond index fund has delivered a return of 8.0% per year, vs. 7.

I’ve read lots of books and articles about business management and corporate strategy, but I’ve never seen the phrase “human beings” as representing the key to business leadership. But when I think of both our clients and crew, that phrase has been the key to everything we’ve accomplished. Maybe the theorists and strategists are right to ignore it, but it has worked for us. Simplicity and human beings. That’s about it. Where leadership comes into play, I’m not quite clear. But we’ve got lots of marvelous leaders at Vanguard. Not just the “big-shots,” but the crew—above and below decks, those who shoot the cannons and those who load them, those who take in the sails and man the sheets— those who make the ship sail and navigate the course. Above all, my goal was to have a crew of servant-leaders, the phrase Robert Greenleaf chose to apply to an institution in which everyone is part leader, part servant, all human beings who care, and who want to lift those whom they serve and those with whom they serve alike. Yet someone has to be the leader, and I’ve tried not only to set the values and shape the strategy, but to make them clear and unmistakable. To use the right words from the world’s most magnificent language.on

I’ve been talking about it, arguably, since 1951, when I mentioned the failure of mutual fund managers to beat the market (even then!) in my Princeton senior thesis. But it took me until 1975 to start the world’s first index mutual fund (Vanguard Index 500), and its tiny $11 million IPO was something of a failure (“Bogle’s folly”). But over the next quarter century, indexing took hold, and today the assets of index mutual funds now total more than $1 trillion, about 16 percent of the assets of all equity funds. But it is ironic that while mutual fund indexing continues to grow apace, the means by which investors index has taken a U-turn—a U-turn for the worse. Classic indexing has been overwhelmed by what I call indexing nouveau, represented by the exchange traded fund (ETF). The ETF is simply an index fund designed to facilitate trading in its shares, dressed in the guise of the traditional index fund. Think of the differences: First, if long-term investing was the original paradigm for the classic index fund of 30 years ago, surely using index funds as trading vehicles can only be described as short-term speculation.widely-diversified—

Why? Because taking on Vanguard would require aggressively challenging us with low-cost index funds, low-cost bond and money market funds, and low-cost conservative stock funds focused on long-term investing. The fact is that the returns of the clients of our rivals—their fund shareholders—would be markedly enhanced, but the returns of their own management firms would be slashed—no matter how much their market share improved. In the face of the competitive edge we have created, the industry’s silence has been, well, deafening. Their service- profit chain, simply put, is different from ours. For there’s no profit for fund managers, or so it seems, in giving their clients—the owners of their funds—a fair shake. Low Cost Fosters Service Leadership But what of our service leadership? The fact is that our service leadership in the mutual fund industry has been achieved, not despite our low costs, but because of our low costs. To explain this seeming contradiction, I must explain the basic economics that underlie our cost advantage. It will cost about $1.150 billion to operate Vanguard this year. With average assets in the $480 billion range, our ratio of expenses to assets will be 0.28%.operates

It can be as simple as a codicil in your will making a gift to your United Way Endowment Fund (this is what I have done), or in making an irrevocable gift of cash or securities to a collective charitable endowment fund, now broadly available through community donor- advised funds, and through leading mutual fund firms, including Vanguard. In such a program, your gift of $25,000 or more is invested in a balanced and diversified stock/bond account, and you get an immediate tax-deduction for the full market value of the gift. You can then make annual contributions—usually at least 5% of principal—to qualified charities such as the United Way. You can add tax deductible contributions of up to $5,000 at a time, gradually increasing what is in effect your own private foundation, which keeps on giving until the principal is exhausted. You can also use a collective endowment fund to establish a charitable remainder trust, offering an immediate tax-benefit and providing you with a lifetime stream of income, with the principal going to the United Way on your death.investment

I may have called it that, but I really look at it as a fair competition between two firms with approaches toward investors that are polar opposites—philosophically, conceptually, and strategically. He adds a word about my 35-year fight to conquer a failing heart, capped by the miracle of receiving a new one just one just eighteen months ago. I guess those three examples are a fair basis for him to affirm my fighting impulse. The Yale senior concludes this section by agreeing that I’ve enjoyed success for its own sake, not for its fruits, for I own none of a company worth (his guess, and fair enough) between five and ten billion dollars. When he says, in a neat term of phrase, “once a man has more than enough for himself, only the fool measures his success in terms of coin and treasure.” Entrepreneurs or not, we should all take heed of that thought. “Third, the joy of creating, getting things done, of simply exercising one’s energy and ingenuity.” These words, the author argues, are at the heart of the Schumpeterian understanding of the entrepreneur. He finds this evident in the innovative Vanguard structure and in the creation of the first index fund. This innovation, he points out, “was scorned by the investment community . . . but today is hailed as the hallmark of responsible investing.‘the

” “Oh, no,” the dog said, “they treated us royally when we were racing.” “Did you get crippled?” “No.” “Then why?”, Craddock pressed, “Why?” The dog answered, “I quit.” “You quit?” “Yes,” he said, “I quit.” “Why did you quit?” At last, the reason: “I just quit. Because after all that running and running and running, I found out that the rabbit I was chasing wasn’t even real.” While I’ve received more accolades than I could ever deserve during these later years of my own long career, I must confess that even I challenge myself as to whether the rabbit I’ve been chasing is real. I have little doubt, however, that our Vanguard crew and our clients believe that the rabbit I’ve been chasing in my career—essentially the mission to give investors a fair shake in their quest to accumulate assets for a secure future—is real. And of course it is. So what’s bothering me? Perhaps it comes down to how a friend, many years ago, defined “success”—a word that I don’t particularly care for—as consisting of wealth, power and fame.three

0% for the average bond mutual fund, that one percentage point difference is accounted for largely by the costs of investing (an expense ratio advantage of about 1 Actual survivor bias is probably considerably higher. Princeton’s Burton Malkiel estimates it at 4.1% per year during the 15 years ending in 1991, and it would doubtless be even larger over 25 years. 2 I apologize for using the Vanguard bond and balanced index funds in these comparisons, but our Total Bond Market Index Fund is the only publicly-available such fund with a long history; our three defined- maturity bond funds are still unique; and our Balanced Index Fund remained one of a kind until 2000. $0 $5 $10 $15 $20 $25 500 Index Fund Avg. General Equity Fund Millions The Wisdom of Stock Indexing Growth of $1,000,000: Aug. 1976 - Oct. 2001 $22.7 Avg. Ann. Return: 500 Index: 13.2% Avg. Fund: 11.1% $14.1

fund began operations with only $11 million in assets. While what quickly became known as “Bogle’s folly” had an infinitely modest beginning, however, it was a beginning. It took two decades of energy and persistence for us to bring that tiny original index fund to its present eminence. But today its assets of some $90 billion mark it as the largest mutual fund in the world. We made no attempt to patent the investment, and indeed “freely and generously,” in Franklin’s words, encouraged others to follow suit. And while some of our rivals copied it, however, their high cost structures precluded success. Even without a patent, the index fund has become our trademark, the backbone of the Vanguard book of business. Together the assets of our stock index funds, our bond index funds (another of our inventions, if an obvious one), and our other funds that are managed with index-like strategies total $410 billion, all because of that original invention of 1975. Opportunity and Motive Just as Franklin’s desire to enhance the public weal undergirded his invention of the Franklin stove and the lightning rod, so Vanguard’s investor-friendly mutual structure undergirded the invention of the index fund. While I was hardly the only person who understood the simple principles behind the index fund—there must have been hundreds of others—the traditional fund firm would have had little interest, regarding it with suspicion if not horror.

them with new traditions. To be persistent in pursing the mission. To look ahead as far as my vision can see, and to speak out on our goals with the zeal of a missionary, the stubbornness of an idealist, and the soul of a street fighter. To be as smart as my limited brain-power will allow. It is up to others—indeed to history—to evaluate what it is this one human being has accomplished, and the extent to which Vanguard shareholders—indeed all mutual fund shareholders—have been served by the voyage of the HMS Vanguard. But I know, as I hope you know after hearing these comments, that whatever the answer is, it would never have come to pass if I had not come here as a young man quite by accident of fate, and fortuitously discovered, indeed often at exactly the opportune moment, the Golconda that began with FORTUNE Magazine in 1949, and then Walter Morgan and Wellington Fund; then my family; and then Vanguard itself and the “Vanguard” name; and then the first index fund and the novel distribution strategy—one diamond after another right here in my own backyard, just as Russell Conwell’s words promised that I would. All that I had to do was dig for them. Oh, yes. I referred earlier to that one other diamond I found here. Paradoxically, it was a diamond in the form of a heart. (And as we all know, in games of cards, a heart beats a diamond every time.) It’s true in life, too.

entrepreneur must be able to give his creations—his gems of vision—the force of hard work so that they might last and be noticed.” In the context of Schumpeter’s three standards of entrepreneurship—the dream of a kingdom; the will to conquer and the impulse to fight for success, primarly for its own sake; the joy of creating and exercising energy and ingenuity—the paper concludes that I qualify. While I warned him that “I do not have a great mind,” he credits me with something that may be a good substitute: the gift of “making the obscure seem obvious and the opaque transparent.” He goes on to observe that a gift for spreading the word over the years in speeches to the Vanguard crew, to industry gatherings, to the press, and to the public, combined with a certain energy and determination, have served me well, in my passionate mission—my dream, my will, my joy (to whatever degree the myth is accurate)—to create a better world for mutual fund investors. A Slice of the World in Context In his one interview with me, I described Vanguard’s success as “importantly derived from an uncanny ability to recognize the obvious.” And I think, honestly, that’s all I’ve done. He credits that gift as arising from a naturally curious mind combined with a liberal education, facilitating an understanding of the nature and context of a business, and putting his own slice of the world in context.

How would such a firm make money on a fund that generated no advisory fees and no sales commissions, a fund in which virtually the entire investment return goes to its shareholders? While every firm in our industry had the opportunity to invent the index fund, like the prime suspect in a murder investigation, only Vanguard had both the opportunity and the motive. I cannot tell you exactly how many modern-day investors have enjoyed the warm comfort provided by the remarkably efficient index mutual fund, but it may well be far less than the proportion of homeowners who were warmed by the efficient Franklin stove all those years ago. Nor can I assure you that the widely-diversified index fund has protected more investors from losses from the lightning bolts that have struck some widely ballyhooed individual stocks, causing them to become, well, toast, than the proportion of the Colonial citizenry protected by Dr. Franklin’s lightning rod. But I can tell you that in the 25 years since the Vanguard 500 Index Fund was invented, it has outpaced the annual return of the average stock fund by an estimated two percentage points.million,

From its lowly beginning in 1948 with my struggle to absorb his Economics textbook, my association with Paul Samuelson had a wonderful turnaround. While I had hinted at the merit of an index fund in my Princeton thesis (mutual funds “can make no claim to superiority over the market averages”), I ignored that important finding for years. But in mid-1975, I decided that the time was ripe for the world’s first index fund, importantly because of Paul Samuelson’s inspiration. That inspiration came when I read his lead essay in the inaugural edition of The Journal of Portfolio Management (Fall 1974). In his essay, “Challenge to Judgment,” Dr. Samuelson explicitly called for those who disagreed that a passive index would outperform most active managers to produce “brute evidence to the contrary.” (None was forthcoming.) He pleaded “that, at the least, some large foundation set up an in-house portfolio that tracks the S&P 500 Index—for the purpose of setting up a naïve model against which their in-house gunslingers can measure their prowess.” Confronted with his express challenge for somebody, somewhere to start an index fund, I could no longer stand back. It now seemed clear that the newly-formed Vanguard Group (then only a few months old) ought to be “in the vanguard” of this new and logical concept, so strongly supported by the data on past fund performance, and so well accepted in academia but so little acknowledged by fund industry leaders.

” You now know enough about Vanguard, I hope, to decide for yourselves whether that’s accurate, and indeed to decide whether or not I am truly an entrepreneur as you understand the term. Given the writer’s challenge, let me conclude by putting this saga of my slice of the world in some sort of context. Times have changed since Vanguard began in 1974. A fairly consistent 30% annual growth rate has turned a tiny firm into a giant corporation. The original crew of 28 now totals 5800. The dream has become the reality. Clearly, if an entrepreneur is defined as a leader who turns an idea into an enterprise, the day of the entrepreneur at Vanguard has passed. The skills of the manager, not the leader, are—must be—in the driver’s seat. The creator, however, remains the spirit and the missionary, and the mission remains unchanged: a fair shake for fund shareholders. And that’s, I suppose, my story—so far.

We all know what quality is in this business: accuracy, timeliness, responsiveness, problem resolution, presentation, simplicity, courtesy, professionalism, empathy, are some of the words that come to mind. In this day and age, investor expectations of quality service are staggering, and the number of different ways that different individuals want different accounts in different funds handled is almost beyond belief. But in a shareholder-owned organization like Vanguard, our investors are entitled to have their expectations not merely met, but exceeded. In a world where the desideratum is “treat your customer like an owner,” an organization in which the client actually is the owner is king. “Penny Wise and Pound Foolish”?

Enter Vanguard Surely you can’t look at the array of numbers I’ve presented showing the shortfall of fund returns to the market without wondering why on earth the investing public doesn’t turn its back on mutual funds and simply buy the market. I wondered about that too. Indeed, a half-century ago, I wrote these words in my Princeton University senior thesis on The Economic Role of the Investment Company: Mutual funds “can make no claim to superiority over the market averages,” and mutual funds “should be managed in the most honest, efficient, and economical way possible.” Given those convictions, it was clear that efficiently buying the market averages at an economical cost would be a smart investment strategy. But how to do it? The idea festered in my mind over the ensuing 23 years. Suddenly the opportunity arose to take action. Here we move from the odyssey of the stock market and the odyssey of the mutual fund industry to the odyssey of Vanguard, an adventurous journey that has been fraught with challenges but punctuated by good fortune. After my graduation from Princeton, I joined fund pioneer Wellington Management Company, and was named to lead the firm in 1965. In 1966, I entered into an unwise merger with some star fund managers.market

It was the opportunity of a lifetime: to at once prove that the basic principles enunciated in Samuelson’s “Challenge to Judgment” could be put into practice and work effectively, and to mark this upstart of a firm as a pioneer in a new wave of industry development. With the inspiration of Keynes and Samuelson, and even a touch of foresight, luck, and hard work, the idea that had begun to germinate in my mind in my ancient senior thesis could finally become a reality. The initial press reception to the announcement of Vanguard’s filing of the groundbreaking index fund IPO had been reasonably good, but bereft of a single hint that the index fund represented the beginning of a new era for the mutual fund industry. In fact, the reaction was best illustrated by a cartoon of Uncle Sam stamping out index funds, captioned “Index Funds are un-American.Professor

these performance detractors.” Thus spaketh, I remind you, not Vanguard/BOGLE, but Merrill Lynch/BARRA. Perhaps surprisingly, the study presents no data whatsoever on the dimension of Embedded Alpha. So it won’t astonish you to learn that I’ve taken it upon myself to do exactly that, examining the mutual fund business and the costs that fund investors incur. The pictures: Average Equity Mutual Fund % of Average Assets 1. Advisory Fees 0.8% 2. Other Operating Expenses 0.5 Total Expense Ratio1 1.3% 3. Transaction Costs 0.7 4. Opportunity Cost 0.4 Total 2.4% You don’t need me to tell you that 240 basis points is a lot of Embedded Alpha. And I haven’t even taken into account the impact of fund sales charges and the heavy cost of taxes for non-retirement plan investors! Embedded alpha is admittedly lower for pension funds—its estimated at 1.3%—but it nonetheless takes a powerful toll there as well. Indeed, a recent study by a major pension consultant projected that even costs at the 1.3% level reduce the probability that a given active manager can beat the market over the long term at 5%—just one chance in twenty. The Long-Term Toll of Costs Now let’s look long-term. Despite today’s environment of frighteningly short-term investment horizons, most pension funds have seemingly perpetual lifetimes. And most individual investors now start their programs in an IRA or 401(k) at a young age, and will still be investing, not only 50, but even 70, years from now.

portfolio of Morningstar five-star funds, for example, has provided far lower returns than the stock market itself, all the while carrying significantly higher risk. So while technology has enriched investors by giving them better information, but investors have impoverished their potential returns by using the information to make worse decisions. They are acting as shoppers rather than long-term shareholders, and we in the industry haven’t fulfilled our responsibility to educate investors as to what information matters and what doesn’t. The Book of Proverbs had it right: “Get wisdom, get insight.” In addition to public networks that provide information on fund returns, risks, costs, and portfolios, nearly all of the major fund families have built proprietary networks that provide their shareholders with timely, accurate, and complete information about their investment accounts. If you go to Vanguard’s website, for example, and check the value of your fund accounts—all of your family accounts are at a single site, and one click will get you there after you identify yourself—and you’ll see the value of your account at the close of the previous day, any changes you’ve made in your holdings, and your balance among stock funds, bond funds, and money market funds. You can check your purchase dates and your tax basis. You can also quickly learn about pending distributions of realized capital gains, as well as each fund’s unrealized gains or losses.

So the trend that this tortuous methodology measures is hardly evidence of what is described as “vigorous price competition” in the fund industry. Indeed, since few, if any, fund groups have slashed their fees to take on the low-cost funds in the marketplace, price competition is hardly intense; it is barely alive. And the study has still more weaknesses. It completely ignores a huge cost of fund ownership, fund portfolio turnover. That would add 0.50% to 1.00%-plus to the putative 1.35% total. It amortizes sales loads based on 25-year old data, ignoring today’s infinitely shorter (and therefore far costlier) holding period. It ignores the opportunity cost that funds incur by their failure to be fully invested in stocks—another 0.60% cost. And it no longer even reports the fact, buried deep in the first of its two studies, that the average expense ratio of the lowest cost decile of funds has actually risen by 27% since 1980—from 0.71% to 0.90% in 1997—perhaps up 35- 40% if Vanguard were excluded. Even the lowest cost funds will not be denied their fee increases.two

If that 7 percent projection is correct, investors would be wise to do their best to capture it. That means low-cost, long-term investing—yes, just what an index fund does—that will guarantee you with your fair share of whatever returns our financial markets are generous enough to provide, the consummate winner’s game. And it means recognizing and accepting that high-cost, short-term speculation—with all of its trading costs, expensive management fees, and unnecessary taxes—is the consummate loser’s game. Despite the failure of our financial system, then, there is no reason you can’t avoid its myriad potholes, and by so doing be a winner. Wrapping Up As I look back over the institutions whose lives I’ve been privileged to touch, I confess to letting a little pride peep out—much as I’ve tried (in Benjamin Franklins pungent words) to “disguise it, beat it down, stifle it, mortify it as much as one pleases, pride will nonetheless every now and then peep out.” And so it does when I concede that I’ve likely left the National Constitution Center, Blair Academy, and Vanguard, to some degree at least, better than I found them. Alas, I cannot say that I’ve done the same in my against-all- odds fight to restore the mutual fund industry to its proud heritage, to build a better financial system for our nation, and to return capitalism to a more productive role in our society.

decline—which was to reach 50%—following the burst of the earlier Go-Go bubble in the market. They banded together to fire me, accomplishing the deed on January 24, 1974. I was devastated. But I promptly set out to recoup my job. In brief, I was able to persuade the directors of the mutual funds that were managed by Wellington to set off on a new course: Establishing a staff dedicated solely to the funds shareholders’ best interest; operating, not for a percentage fee but on an at-cost basis; and giving the funds complete independence from the managers who had fired me. I named the new company after Lord Nelson’s flagship HMS Vanguard—another lucky break—and described our unprecedented foray into running truly mutual mutual funds as The Vanguard Experiment, a test of whether our novel corporate structure and unprecedented form of fund governance that focused on profits to fund shareholders rather than profits to fund managers could succeed. In the words of author-economist Peter L. Bernstein: Jack Bogle’s goal was to build a business whose primary objective was to make money for his customers by minimizing the elements of the inherent conflict of interest (between seller and buyer), but at the same time be so successful that it would be able to grow and sustain itself. It has been no easy task. Strategy Follows Structure We were incorporated in September 1974, almost at the very bottom of the bear market. Our asset base was $1.

But if we had to spend, say, an extra $100 million on technology this year, it would raise our expense ratio by only two basis points, a change that the world would little note nor long remember. (But we would notice. So I assure you that our severe cost discipline remains intact.) The point is that our huge expense ratio advantage enables us to spend what is required to provide state-of-the-art financial services—services that meet and, ideally, exceed the ever-growing expectations of our clients. It also enables us to pay our crewmembers fairly, for our success depends on a terrific effort from each of the 10,000-plus human beings who serve on our crew. We offer competitive salaries, to which we add an extraordinary benefit program. On top of that, we provide the Vanguard Partnership Plan, affording each crewmember, from his or her first day on the job, ownership in units in a partnership. Earnings are based on a formula driven by the dimension of our cost advantage and the performance of our funds relative to their peers. By so doing, we share a small portion of our clients’ extra earnings with those who labor ceaselessly in their behalf. The Partnership Plan reemphasizes to our crew the low-cost mission that is central to all we do, focuses crewmembers on operational efficiency and cooperation, and drives home the message that providing more-than-competitive returns to our shareholders is essential to our growth, indeed to our survival.

fund advantage—expense ratios that are 70% lower on average and portfolio turnover that is reduced by some 50%—strongly suggest that bond indexing will continue to deliver superior returns in the future. While the wisdom of bond indexing, like the wisdom of stock indexing, seems beyond challenge, there is precious little bond indexing going on in the fund industry. Not a single fund sponsor has yet to challenge Vanguard’s monopoly in the three defined-maturity categories, and the total assets of all of the bond market index funds managed by our rivals has yet to reach $6 billion. By contrast, assets of the Vanguard bond index funds now themselves approach $26 billion and assets of our Total Bond Market Fund, at nearly $21 billion, mark it as the second largest bond mutual fund in the world. Clearly, we need more education, awareness, and development of bond indexing for those with the wisdom to invest for long-term returns in the bond market. The Wisdom of Balanced Indexing If both stock index funds and bond index funds are so demonstrably and explicably effective, why not a balanced index fund? That’s exactly what we created in 1992. The fund allocates 60% of its assets to the Wilshire 5000 Total Stock Market Index and 40% to the Lehman Brothers Aggregate Bond Index, rebalancing essentially on a daily basis. It has worked inordinately well. The Wisdom of Bond Series Indexing Avg. Annual Returns, Apr. 1994 - Oct. 2001 1% 3% 5% 7% 9% 11% Short-Term Int.

It wasn’t too many years ago when there were no consolidated fund statements (each fund was treated like an individual stock), and when information came by mail, usually a month or more after the quarter ended. Thanks to technology, we’ve come a long way in a short time, and fund investors now receive better information, better organized, and available in what amounts to real time. But, like the wealth of publicly-available fund information, this wealth of proprietary account information has only a tenuous relationship to improving the returns of investors. To whatever avail, it’s easy to see how important, timely, and comprehensive information is to investors who are moving money from one fund to another, to investors who are paranoid about performance, and to investors with short-term horizons. But to what avail is this plethora of comprehensive, up-to-the-minute information to true long-term investors—the kind of investors whom Vanguard has sought—who are putting their money to work in middle-of-the- road funds (even index funds!)that

Samuelson himself. Writing in his Newsweek column in August 1976, he expressed delight that there had finally been a response to his earlier challenge. Now such an index fund lay in prospect. “Sooner than I dared expect,” he wrote, “my explicit prayer has been answered. There is coming to market, I see from a crisp new prospectus, something called the First Index Investment Trust” (the original name of what is now Vanguard 500 Index Fund). He noted that the fund met five of his goals: (1) availability for investors of modest means; (2) proposing to match the broad-based S&P 500 Index; (3) carrying an extremely small annual expense charge, (4) offering extremely low portfolio turnover; and (5) “best of all, giving the broadest diversification needed to maximize mean return with minimum portfolio variance and volatility.” While our IPO almost failed (the goal was $150 million; the capital finally raised came to but $11 million), we began operating our tiny index fund in August 1976. Mutual Admiration Paul Samuelson and I met face-to-face only perhaps a half-dozen times during our (arguably) 61-year relationship. But he often sent me notes, and must have made at least a score of telephone calls to me in my office. But as time went on, I appreciated not only his brilliance,

Academic studies estimate that over fifteen years, the aggregate returns of mutual funds are overstated by as much as 1%, bringing the 11.8% after-tax return reported above to 10.8%, and raising the Index advantage to +4.3o/o-nearly a 50% increase (before compounding!) Adjusting the average mutual fund returns to correct for this bias, then, leads to even more dramatic fund underperformance than traditional comparisons show. That said, I must in fairness state that the returns of index funds are also lower than the returns of the Index, because they are reduced by portfolio turnover and operating costs. No matter how modest they may be, these costs exist in the real world. During the past 15 years, for example, the Vanguard Index Trust 500 Portfolio had returns of 16.4% before taxes and 14.3% after taxes (compared to 15.1 % for the Index itself), placing it in the 8151 and 86th percentiles, respectively among the surviving mutual funds.

they expect to call on, say, 30 years hence? Wouldn’t they be as well served—or better served— by buying right, holding tight, and checking on their account once a year or so? That kind of discipline will pay off in the long run. Knowledge may be power, but the fact that fund investors are receiving better information than ever before has been largely offset by their using that information for the wrong purposes. The bandwidth of the human mind, I fear, has been overwhelmed by the staggering bandwidth of information now presented to us—even thrust on us. What should make fund investing better may well be making it worse. The trick is to convey the vast array of information available to fund investors in a sensible but focused way, so as to provide perspective—not merely on a one-way information highway, but through a two-way communication network. (4) Better Communications with Owners? To better communicate with our Vanguard shareholders, in recent years we have begun to use technology to enhance the services we provide. Today, fully one-third of our individual assets are held by shareholders registered on our website. And nearly 50% of our client service interactions take place over the web. Our goal is to give our clients the closest thing to personal service that is possible without actual face-to-face, person-to-person interaction, which, truth told is, as a practical matter, impossible.

success, exercising his talents with a view not toward personal gain and private profit, but toward serving the community. “America’s first entrepreneur” may well be our finest one. The idea of a contributor—“one who bears a part in some common design,” according to a 1793 dictionary—seems archaic to our ear. But 250 years later, Franklin’s idea of contributionship—a shared mutuality of interest for a common purpose—is the defining characteristic of Vanguard. As Franklin’s stove and lightning rod and all of his other contributions to science and to mankind fostered the public good, so we have freely shared with others the fruition of our mutuality, the index fund. And both our structure and our invention arise almost entirely from our firm’s value system and the corporate character that we firmly established more than a quarter-century ago, which have undergirded all that we may be judged to have achieved thereafter. I hope you will forgive my boldness in comparing the peerless accomplishments of our nation’s first entrepreneur with my own humble enterpreneurship and inventiveness, my own joy in what providence has led me to create, my own energy and persistence, and my own attempts to improve the lot of the American investing public. Of course I’m proud, but I console myself with these words of Benjamin Franklin, written when he was 78 years of age: In reality, there is, perhaps, no one of our natural passions so hard to subdue as pride.

Human Beings For to build a successful firm, it takes more—yes, it does!—than killer apps like index funds, structured fixed-income funds, and low-cost actively-managed equity funds. And the second factor—in addition to our low cost structure that is essential to our investment strategies—that makes Vanguard attractive to long-term investors is the investment services we provide. Not just the services themselves, but the fact that they are focused on human beings. Please never forget that it takes a focus on human beings—as I’ve said 1000 times over, “honest-to-God, down-to-earth human beings with their own hopes and fears and objectives.”—to implement a winning corporate strategy. The first step is to recognize that each one of our clients is an individual human being. We may know much about our client’s investment goals, but we must never forget that investment success is as much based on human emotions as on economics. So, it is our responsibility to explain with complete candor what investing is about: investment returns, which we must acknowledge we cannot control; and asset allocation, risk, cost, and time, the control of each of which lies at our fingertips. A focus on human beings, furthermore, requires that we act with integrity, earning the confidence of our clients that we will place their interests ahead of our own.

Index. Result: Average annual fund return, 9.8%; S&P 500 return, +11.3%. To magnify that 1½ percentage point difference, I assumed a large initial investment, and compounded it. Thirty years later, the original $1,000,000 investment had grown to $16,500,000 in the average fund, but to $25,000,000 in the S&P 500 Index. Difference: $8.5 million. Our mutual low-cost structure gave us the ability to match the index at nominal cost, and quickly led to our formation of the world’s first index mutual fund. Our structure was also the linchpin of the strategy to abandon our funds’ half-century commitment to a seller-driven broker distribution channel and move to a buyer-driven no-sales- load channel in February 1977. We made that unprecedented decision just five months after the index fund initial public offering was completed. (It had raised a less-than-mind-boggling $11 million.) Ditto for our second major innovation in fund management just four months later, this time in the bond market. Casting tradition to the winds, we formed, not a single so-called managed bond fund, but a troika: Long-term, intermediate-term, and short-term. This simple innovation, while less recognized than our creation of the first index fund, changed the way investors regarded bond funds. It quickly became the industry modus operandi. So, in less than two years from our start as a tiny administrative company, Vanguard had been transformed into the full-line fund complex it is today.

folly of short-term speculation—are obliged to own (surprise!) stock and bond market index funds. As evidenced from the substantial shortfall in returns experienced by mutual fund investors in the example that I cited earlier, the investment merits of indexing—the broadest possible diversification, at the lowest reasonable cost, without sales loads or marketing fees, and with maximum tax efficiency—have proven themselves over and over again. Yes, I concede that owning such funds is as interesting as watching the grass grow, or perhaps as interesting as watching paint dry. But since less than 10 percent of investors or investment managers are apt to beat the market over the long-term, buying and holding a low-cost index fund and capturing nearly 100 percent of whatever annual returns the financial markets are generous enough to deliver to us seems a far better option than plunging headlong into a game rigged with such overpowering odds against success. Of course, since I started the first index mutual fund a little over three decades ago— Vanguard Index 500 is now the largest fund in the world—you would be wise to discount my passionate advocacy of indexing. So ignore me! But listen to Warren Buffett. Listen to Yale’s David Swensen. They both say exactly the same thing. Listen to Jack Meyer, the former—but equally sensational—manager of Harvard’s endowment fund. Listen to any Nobel Laureate in Economics, beginning with Paul Samuelson.

Add to that list fair-dealing, not only fair prices and fair limitations on how and when and in what portfolios clients may invest, but focusing our energies on activities that serve clients— management, investing, administration, financial controls—rather than those that do not, such as marketing and peripheral business ventures. If we truly respect the human beings who are our clients, they will come to entrust us with the stewardship—a word too seldom used in this industry today—of their hard-earned assets. Placing service to the human beings who are our clients at the top of our priority list is easily said. It may even seem obvious, although rare indeed does the phrase “human beings” appear in a book on corporate strategy, or on competitive advantage, or even “killer applications.” But I confess that back when Vanguard began a quarter-century ago, I never thought very deeply about human beings as the central focus of our corporate strategy. Nonetheless, for as long as I can remember, I’ve held high the ideal of respecting all of the souls one meets along the long and winding road of life—from the highest in rank to the humblest—with respect, decency, and kindness. This spirit must not encompass only clients, but crewmembers as well, and with equal fervor.

After all, the median holding of a mutual shareholder is less than $5,000 and an account of that size would generate about only $80 in annual revenues for the average fund manager, and, given our low costs, a minuscule $12.50 for Vanguard. Clearly, those revenues couldn’t possibly justify a substantial commitment to personal service for the typical investor. But we do make an effort to provide special services designed to expand and deepen our relationships with our investors, and technology has played a major role in accessing our account database. As in all businesses, a relatively small number of relatively large clients are responsible for a high portion of our business, and our most desirable clients are those with the largest investment balances and the longest and strongest relationships with us. While our objective is old-fashioned—using enhanced services to retain clients, all the while keeping costs under control—the technology used in this pursuit is new. Electronic wizardry has allowed us both to mine our shareholder database for those clients and then to more effectively manage those relationships.

Character Counts A lot has happened since the summer of 1977, but nothing has changed the stamp of character we placed on the firm during those formative years. It is the brute force of that character that drives us to this day: Simple funds designed to assure investors of their fair share of whatever returns the market is generous enough to provide, no more, no less; low cost and no sales commissions; a business strategy that departs from our structure at its peril; and serving our clients and our crewmembers with the respect and dignity that honest-to-God, down-to-earth human beings deserve. Here is where we now stand:  Vanguard’s assets total $565 billion. At the outset, we were the tenth largest fund firm; we now rank second, closing on the leader.  We had eight funds when we began; we now have 105, owned by 15 million investors largely in the U.S., but scattered all over the world.

 Our original index fund is now the world’s largest mutual fund, and our panoply of stock index funds total $180 billion. Our market share of no-load stock index fund assets is a dominant 82%.  Our original troika of tax-exempt bond funds, and the similarly-structured taxable bond funds that followed—all relying on index-like strategies—total $112 billion in assets, including $24 billion in bond index funds. Market share: Now 45%, vs. 18% in 1980.  Our money market funds, also capitalizing on the low-cost-equals-high- return equation have assets totaling $93 billion. Market share: 33%, vs. 4% two decades earlier.  And the assets of our traditional actively-managed equity funds total $144 billion. Market share: 15% down from 25%, the inevitable result of our focus on indexing. The magnificent returns in the financial markets—stock, bond, money market—through most of our history, really right up to the spring of 2000, have given HMS Vanguard a powerful wind at her back. Our assets have grown at a compound rate of 25% per year, and at a remarkably steady pace, carrying our asset base from $1 billion to $565 billion. But the overwhelming portion of that huge increase has come from our rising share of market. Had our share held steady, our assets today would be $110 billion. The remaining $455 billion is accounted for by the increase of our share of total industry assets from 1.7% in 1981 to 8.3% today—without a single year of decline.

When Vanguard’s maiden voyage began—almost from ground zero, with just 28 crewmembers—it occurred to me that, in a fiercely competitive field, there was only one way we would ever accomplish our novel and challenging mission: Together.

The special services we provide to our client households with $250,000 to $1,000,000 or more invested at Vanguard include a designated and experienced phone representative (or team) who provides continuity, account familiarity, and (in the words of The Economist article that I cited earlier) an ability to do “a little extra when they judge it right to do so.” While the 400,000 households that qualify represent only about 5% of our investor population, they hold nearly $200 billion of our shares—fully 60% of our $320 billion of shares held by individuals. (We categorize the remaining $230 billion as institutional, fund shares largely owned through retirement and thrift plans.) These Flagship and Voyager investors are among our most loyal and satisfied owners. We push technology as far as we can to personalize these services. We hold e-meetings, and send e-mail which discusses changing markets and changing investment expectations. We have begun a program of collaborative browsing, in which both client and Vanguard representative have the same data before them on the computer screen. They can readily discuss the status of the accounts, consider the implications of changing fund holdings, and provide some reassurance, when appropriate, about staying the course. Technology has also enabled us to create more favorable prices for our largest and most durable clients.

Looking Ahead—A Personal Note As we look back over the three adventurous voyages I’ve described this evening, it’s worth speculating about what may lie ahead. For the stock market, the odyssey is destined to continue, but the two easy golden decades we have reveled in are now history, and the voyage will be rougher and slower in the years ahead. For the mutual fund industry, the odyssey is already waning, and its course will—as it must—at last turn away from high-costs and fad- following, back toward our original roots of prudent management and stewardship. And for Vanguard, our fantastic odyssey, which has already helped to change the way people think about investing, will proceed with even greater alacrity in the years ahead. Unless I miss my guess, in the financial markets and the fund industry alike, we’re facing an extended climate of Vanguard weather. After 50 years in this business, the last 27 with the renegade firm I created all those years ago, I close with a few personal reflections. Peter Bernstein was right. It has been no easy task. The road has not always been smooth, and I’ve experienced headaches and heartaches, hopes and fears, delights and disappointments, even triumph and disaster. But, following Kipling’s advice, I’ve treated those two imposters just the same.

Mutual Funds as Proxy Voters A new development may well inspire mutual funds to join those investors to become more conscious of their responsibilities of corporate citizenship, and to take their voting responsibilities more seriously. Early in 2003, the Securities & Exchange Commission approved a requirement that funds (the “agents”) report to their owners (the “principals”) how their (the owners’) shares were voted in corporate proxies. While such disclosure would seem totally logical, the fund industry brought out its biggest guns to battle the proposal, and even long-time rivals Fidelity and Vanguard joined together in expressing their opposition in a Wall Street Journal op-ed piece signed by their chairmen. (“Politics makes strange bedfellows.”) Despite the opposition, the SEC stood its ground, and in August we’ll learn how each mutual fund voted each of its corporate proxies during the 2004 season. It’s about time, and it will matter. For I believe that the requirement to disclose proxy votes will begin the process of giving mutual funds the motivation to become better corporate citizens. For example, The Vanguard Group, which has traditionally regarded regular voting of proxies as a fiduciary duty, adopted more aggressive proxy voting guidelines in 2003. While the funds had previously endorsed 90% of director slates, last year they ratified all directors in only 29% of the slates, withholding votes from at least one nominee in a stunning 71% of the cases.

Our goal is both to retain the loyalty of our clients through appropriate pricing, and to bring personalized interactions as close to personal meetings as possible. The shareholders truly care about the personal touch, a point driven home to me last summer when a group of nearly 50 shareholders who knew each other only through the Internet—the Morningstar Vanguard Diehards website, where they call themselves “Bogleheads”—came at their own expense to visit us at our Valley Forge headquarters. In a wonderful interaction of Internet technology and human values, the message was clear: Even in this world of electronic communications, human contact remains the desideratum. Information technology will be for the better only as it provides better communication—communication that educates as well as informs, that reminds us of our obligation to serve the needs of honest-to-God, down-to-earth human beings, who have entrusted their hard-earned assets to our care, each with their own hopes, fears, and investment goals. (5) Better Services for Shareholders? There can be no question but that technology has brought to mutual fund shareholders a level of service that is not only better, but better almost beyond imagination. What began with the revolution in telecommunications more than a decade ago—imagine the financial service industry without the 800 number!

It requires not only interest and compassion and concern; it demands self-sacrifice, wisdom and tough-mindedness, and discipline. Every responsible person must care, and care deeply, about the institutions that touch his life.” So, if we ask those who work at Vanguard to treat their institution with care—the better to ensure that it meets the needs of the human beings we serve as clients—we must in turn treat our crew with care. The Human Organization and Service In our efforts to create a human organization, our compensation strategy, as I’ve noted, plays a key role.but,

The Vanguard funds also voted against auditors at 21% of the firms, and against 64% of stock option plans. I believe that active voting policies by mutual funds will become more evident with each passing year. Once owners become used to acting like owners, once corporate citizens understand their rights and responsibilities in a democracy, once institutions begin to cooperate with their peers for the common good, we can at last begin the process of replacing Managers Capitalism with Owners Capitalism. Some Mind-Expanding Wisdom But there is more that needs to be done. And some important ideas about radical reform have been put forth by Robert A.G. Monks. Few individuals have been as deeply involved in corporate governance issues—and even fewer have played as constructive a leadership role—as Mr. Monks, founder of ISS as well as the corporate activist firms Lens, Inc., and Lens Governance Advisors. His fact-filled 564-page tome Corporate Governance (with Nell Minow) is a must-read for those who seek to understand what went wrong in corporate America and what needs to be done.Maker’s

Truth told, I look with some bemusement about how far one can take an enterprise with common sense, a few simple ideas, a heavy dose of idealism, a focus on serving human beings, a fantastic crew, and a determination to press on regardless. It’s been a thrill to see a company that offers little more than simple investment philosophy and simple human values become a commercial success, but even more, an artistic $1 $10 $100 $1,000 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 Vanguard Assets, 1974 - 2001 (millions) Annual Growth Rate: 24.9% Year-end Assets 25% Trendline $1.4 b $565 b 4.2% 7.9% 8.3% 6.1% 1.2001

independent directors who have the responsibility for careful scrutiny that assures the primacy of those interests. The Ten Commandments You don’t have to tell me how tough a job it will be for this industry to reach that worthy goal. I’ve been doing my best, even in the years before “The Vanguard Experiment” began, but the tangible results are disappointingly few. Vanguard began its thousand mile journey with a single step in 1974, and lots more steps have followed. (Few of you know how arduous and demanding each of those steps have been, and continue to be.) But let me suggest some further steps along the way to meeting the clear—and wholly desirable—mandate of the ‘40 Act. While I wish we could take a giant step—establishing a federal standard of fiduciary for fund directors would be my choice—the fact is that a series of small but deliberate steps is more realistic. So I would propose that we begin by setting down these Ten Commandments for independent directors: 1) Thou Shalt Retain Thy Own Independent Counsel. Recommended by the Securities & Exchange Commission, this step seems so obvious and so essential that it is hard to imagine why it hasn’t been mandatory ever since this industry began in 1924. Just imagine, in any other business, the anomaly of a firm being represented, not by its own counsel, but by counsel for its largest supplier of services, who depends on it for its very existence.

equally important, it also generates a powerful sense of loyalty among the crewmembers by emphasizing that they are the human beings who are the key to our success. Similarly, our Award for Excellence program, now going into its 16th year, has had the same focus. In this increasingly impersonal era, an era in which bureaucracy and technology threaten to obscure the contribution of the individual human being, the Award for Excellence is a tribute to individual effort. Numerous tokens accompany the award—a pin, a check, theater tickets, a contribution to a favorite charity. But the most treasured symbol is a plaque, on which remains the saying that I placed there 15 years ago: “I believe that even one person can make a difference.” One person—now multiplied 10,000 times over—still can, and still does, make a difference at Vanguard. The simple fact of the matter is that unstinting service has, by driving client loyalty, driven Vanguard’s growth. Included in our service goals is providing mutual funds that satisfy the client’s need for, and right to, the highest possible investment value, the highest possible profits, if you will. While we’ve done all in our power to win the loyalty of our crewmembers as well, a sort of virtuous circle has emerged: The constant expression of client satisfaction about performance and service to our crewmembers has reinforced their satisfaction that they are working for the right kind of company. (And not only for those on the front-line.

success. I press on in the great cause of giving Vanguard shareholders—and all mutual fund investors—a fair shake, and I reflect on my own odyssey with the words Tennyson ascribed to Ulysees when that mythic warrior returned from his own odyssey and reflected on what might be next: So come, my friends ‘Tis not too late to seek a newer world. Push off, and sitting well in order smite The sounding furrows; for my purpose holds To sail beyond the sunset, ‘til I die. Tho’ much is taken, much abides; and tho’ We are not now that strength which in old days Moved earth and heaven, that which we are, We are; One equal temper of heroic hearts, Made weak by time and fate, but strong in will To strive, to seek, to find, and not to yield.

Let’s let narrow style benchmarking dictate neither our investment decision-making nor our standard for appraising long-term accomplishment. Variations on Long-Term, All-Market Indexing If the all-market index standard should—finally, must—be the long-term standard for equity accounts of all stripes, what use is served by the scores of index variations on this basic theme over the past decade-plus? I confess that, with the passage of time, I have become increasingly concerned about the utility of these variations, and I owe this audience the professional courtesy to tell you what bothers me and why it does so. First, confession being good for the soul, it was primarily because of my own drive and conviction that Vanguard became the pioneer in index funds. We formed the first S&P 500 Index fund in 1975, and then in 1987 pioneered the completion (“Extended Market”) index fund, tracking the small- and mid-cap stocks unrepresented in the S&P 500. The idea: To enable investors to make a commitment to the entire stock market, which I consider as the full fruition of the index fund concept.as

The recent market timing scandals in the fund industry, disgusting as they are, are fairly small change relative to the losses investors have incurred by the industry's excessive costs and by the industry's overwhelming focus on promotion and asset gathering. But the scandals have the entirely beneficial effect of shining the spotlight on the myriad conflicts that exist between the interests of mutual fund managers and mutual fund shareholders, and point the way toward reform, forcing this industry to focus not on the business of marketing, but on the profession of management—not salesmanship but stewardship—a change which I expect is at last on the way. Values and Idealism Let me close with a few words about values. I began these remarks by telling you of the idealism I held during my college days, and as I began my career. I want to close by telling you that even a long career in the competitive, dog-eat-dog, give-and-take of the mutual fund business hasn't dimmed my idealism one jot. Indeed, I believe that today there is even more idealism in my heart and soul than there was all those 54-plus years ago. At Vanguard, I did my best to create a company that would live up to those ideals. While the industry has yet to emulate them, I'm certain that moving in that direction is only a matter of time. The coming wave of reform in corporate America and in mutual fund America will help turn our nation’s capital development process away from speculation and toward enterprise.

In 1987, we developed a program under which virtually all crewmembers are trained to handle telephone inquiries from shareholders when call volumes soar. Mindful of European history, I named it “The Swiss Army.”) From my experience with our Vanguard crew, I’m shameless in my belief that innumerable numbers of America’s superb force of working men and women are, finally, idealists. They enjoy serving their fellow human beings; they revel in a sense of mission; they seek a career in an enterprise where integrity and candor are the watchwords; and when they interface with clients, and fellow crewmembers, and friends who know of our reputation, they feel proud of their life’s chosen work. No matter what the enterprise, please never underestimate the importance of pride as a driver of the commitment of the members of its crew. I’m an idealist too, and, shameless though it may be, I don’t apologize for it. It really seems to work. The Right Thing to Do As Vanguard’s founder, my leadership role has changed dramatically over the years.to

stocks moved in and out of the 500, creating portfolio turnover and potential tax-inefficiencies. So, in 1992 we created the all-in-one Total (U.S.) Stock Market Index Fund. That same year, when Standard & Poor’s/BARRA answered my public prayer and developed a growth index and a value index—each regularly adjusted to represent one-half of the weight of the 500—we started our Growth Index and Value Index Funds. I stated then—and reiterate now—my expectation that the long-term total returns were unlikely to differ significantly. The idea was to allow more aggressive long-term investors to hold the growth index fund for lower taxable income, higher tax-efficiency, and higher likely volatility. More conservative investors could hold the value index fund (for higher retirement income and lower volatility, at the cost of some tax-efficiency). Still earlier, in 1989, we converted a tiny actively-managed Vanguard small-cap fund into a passive Russell 2000 Index fund, creating the industry’s first small-cap index fund. And a few years ago, my successors at Vanguard added three more index funds—mid-cap (S&P 400), small- cap growth (half of the Standard & Poor’s 600), and a small-cap value fund (the other half). Over their histories, the segment funds formed before 1992 have done quite respectably—if largely unspectacularly. The newer funds, in even narrower market segments, have not been around long enough to fairly evaluate.

Simplicity, Stewardship and Character So, I’ll continue to have faith in the majesty of simplicity, helping investors to make uncertain but necessary judgments to determine their allocation between stocks—with all their capital opportunity and risk—and bonds—with all of their income productivity and stability—and then doing everything in our power to diversify these investments and minimize the costs—management fees, operating costs, marketing expenses, turnover impact—promising only to give them their fair share of financial market returns, no more, no less. And if index funds are the best way to assure the realization of these goals, so be it. The ultimate objective of every firm represented in this room, I think, is to build a company that stands for something. As one who has been at that task for 28 years this coming September, I can tell you that it’s a tough, demanding never-ending task. My own goal has been to build a company that stands for stewardship. Let me be clear, however, that this goal is not without a self-serving aspect. For only to the extent we adequately serve the human beings who have trusted us to help manage their wealth will Vanguard itself survive and prosper. However each of you chooses to define your own firm, I hope that stewardship will be at least part of your character, because it will pay off for you.

If the longer-run past results of our market-segment index funds are at least respectable— and given the survivor bias that significantly overstates the achievements of actively-managed small-cap and mid-cap mutual funds, they are doubtless far better than that—what’s my concern? First, my instinctive feeling is that the use of segment funds is unlikely to add long-run value to the total market return. Second, I believe too many investors are using these funds to shift among market segments based on past performance, a formula apt to result in failure. Given the market trends that have favored growth stocks during the past five years, for example, the assets of our Large-Cap Growth Index Fund currently total $14 billion, compared to $3½ billion for its Value Index counterpart. (Surprise!) Third, segment funds carry far higher portfolio turnover: Small- Cap Growth and Small-Cap Value, each about 80% last year; Small-Cap (total), 42%; Large Value, 41%; Large Growth, 33%; and even Extended Market, 26%. In fairness, the extraordinary index fund management strategies of Vanguard’s skilled director of Quantitative Management, Gus Sauter, have resulted in virtually zero net cost for all of these purchases and sales, and each fund has tracked its appointed index with extraordinary precision.(6%)

When I led Vanguard to offer the fund industry’s first small-cap index fund in 1989, and its first growth and value index funds in 1992, I found nothing in stock market history to suggest either such high turnover or such radical changes in the composition of style indexes. My idea was to offer particular funds that investors would buy and then hold for the long-term, either to diversify an actively-managed portfolio by adding market segments that were not included, or to do some intelligent portfolio allocation under special circumstances; i.e., a growth index fund for a young investor accumulating assets and seeking capital growth and tax-efficiency, a value index fund for the investor seeking higher dividend income and perhaps lower risk at retirement. Alas, to an important degree, those good intentions have been frustrated by investors who seem to use the growth and value index funds to make counterproductive investment decisions, just as they do even more spectacularly with actively-managed funds. At first our two index funds proved equally attractive. During 1992-96, investors placed approximately $700 million in both growth and in value. But as growth stocks soared, the temptation to jump on the bandwagon proved too strong to resist. During 1997 through the first quarter of 2000, investors poured $10.6 billion into the growth index fund, vs. $2 billion into value.

And our Partnership Plan served the purpose—and not a moment too soon—of making it clear to crewmembers that while low cost was crucial, it wasn’t antithetical to their own financial interests. The Plan provided a clear link between crew satisfaction and client satisfaction, with crewmembers earning incentives step-by-step with enhanced profits for our shareholders as our expense ratio declines and our asset base grows. Yes, the Plan built loyalty. But it was also the right thing to do for our crew. Today, I am still brimming with investment ideas. Most of them, as ever, are founded on skepticism about the existing financial canon. But the original ideas on which Vanguard has been built will remain at our core. For all their simplicity, these investment ideas and human values are not only enduring, but eternal. Today, my self-appointed role is to carry on the mission to give fund investors everywhere a fair shake, writing, speaking, teaching, and dreaming of ways to improve their lot. But, as I’ve done from Vanguard’s first day, I continue to do my share in forging key links in our “service-profit chain” by corresponding with shareholders, sitting down with them, exchanging ideas, encouraging them, and, increasingly, talking to them over the Internet. The “Bogleheads” web-site at Morningstar is hard to resist.

Tho much is taken, much abides, and ‘tho We are not now that strength which in old days Moved earth and heaven, that which we are, we are; One equal temper of heroic hearts, Made weak by time and fate but strong in will To strive, to seek, to find, and not to yield.* * Ulysses, by Alfred Lord Tennyson Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard's present management.

And, as our empire of crewmembers burgeons in number to 10,000 and beyond, I continue to spend time each day with individuals and small groups. What a joy! To meet and talk and get to know one another just a little better, to do my best to hold back the inevitable rush of bureaucracy, to keep the Vanguard character as close as possible to the human values that have, well, “made a difference” over the years. To this day, I eat virtually every luncheon in our “Galley”—no executive dining room there!— among our crewmembers. And I spend a full hour, one-on-one, with each Award for Excellence winner. It is my way of trying to be that “one person who can make a difference” to those I meet. My biggest thrill in recent years was providing each crewmember with a copy of “Common Sense on Mutual Funds” when it was published, and then offering to sign copies for any crewmember that wished. Well, “I” wrote “it,” and “they” came. Nearly 5,000 signatures, and 5,000 exchanges of a few kind words, and 5,000 handshakes later (plus more than a few hugs and kisses for the veteran women on the crew), the task, to my eternal regret, was complete. While my mission—at Vanguard and in this industry—is anything but complete, that single book-signing event encapsulates a great deal of what the human values at Vanguard’s core for a quarter century have meant to our success.

life. When the fund industry uses information technology to present investors with hypothetical information clothed in the mantle of precision, we mislead them. We would be giving better advice to long-term investors if, instead of offering complex advice that implicitly encourages investors to try to outguess the unguessable and to try to select winning stock funds based on their past returns, we offered a simple, basic asset allocation plan balanced between a stock index fund and a bond index fund. Despite its patent simplicity, such an investment strategy, it seems to me, is the ultimate killer app. (7) A Better Cost Structure? With all of the enhancements in mutual fund operations, communications, services, and infrastructure that have been made possible through technology, its important to ask whether it has made this industry more cost-effective. In short, has our technology initiative made our cost structure better or worse? There is no industry wide data on cost-effectiveness,1 so I can use only Vanguard as my model. The cost of information technology is our largest single cost, last year accounting for some $450 million of our $1.3 billion dollar operating budget—some 40% of the total, vs. 18% a decade earlier. Technology, obviously, doesn’t come cheap! Indeed, our tech expenditure is more than six times the $70 million we spend on marketing, and 15 times the $30 million we spend on the in-house portfolio management of our index, quantitative, and fixed-income funds.

We have become, perhaps more than any other firm in our field, a virtual company. The huge commitment to technology we’ve made over the past 15 years has given our shareholders many more services, much more information, greater speed and reliability, and enhanced record-keeping security. But there is no evidence that it has increased our productivity. In 1995, with our assets at $140 billion (after adjusting for market appreciation) we had over 3,900 crewmembers, or 27.2 per $1 billion of assets. With assets at $560 billion today—$400 billion if we adjust for market appreciation—and 11,000 crewmembers, we still have 27.6 crewmembers per $1 billion. In fairness, if we adjust for the improvement in our service 1 By offering its services on an at-cost basis, Vanguard is unique in the industry. Other fund complexes are operated by external management companies with their own shareholders, in return for a fee that averages about 1.2% per year, including money market, bond funds, and stock funds. The largest single portion of fund cost is the managers’ pre-tax profits, accounting for at least 40% of the fee they receive.

“Puritan Boston and Quaker Philadelphia” John C. Bogle, Remarks before the Society of Friends Philadelphia, PA November 9, 2017 As some of you know, an article in the December 1949 issue of FORTUNE magazine introduced me to an industry I had never heard of before: mutual funds. The article was entitled “Big Money in Boston.” It focused on Massachusetts Investors Trust (M.I.T.), with assets of $275 million, by far the largest mutual fund of its day. Down in Philadelphia, a much smaller fund named Wellington had just crossed the $100 million mark. That article inspired me to write my Princeton senior thesis on the fund industry. And that thesis, in turn, inspired mutual fund pioneer and Wellington Fund founder and president, Walter L. Morgan—my beloved mentor—to hire me. On July 9, 1951, I joined Wellington and the fund industry, the first “full time” job in my long career. In those days, Wellington Fund operated in the manner of the traditional mutual fund: a pool of investor assets, managed for a fee—usually ½ of 1% to 1% of fund assets—paid to an external, separately-owned investment adviser, Wellington Management Company. M.I.T. was run by its own trustees, a structure that bore a vague resemblance to the mutual (fund- shareholder-owned) structure that Vanguard, successor to Wellington, would institute almost a quarter- century later, in 1974. Back when I joined Wellington, Boston was indeed where the “Big Money” was.

“Surviving Defeat, Surviving Victory”1 By John C. Bogle When I was paid the high honor of being inducted into the FIASI Hall of Fame on November 10, 1999, I spoke about the triumph of indexing—the investment strategy based on passively-managed funds designed to track, at rock-bottom cost, the returns earned by broad market indexes of stocks and bonds, and to be held forever—a long-term investor’s entire investment lifetime. Then, I mentioned the struggle to survive the early defeat of the world’s first index mutual fund, founded in 1975. (Now known as Vanguard 500 Index Fund, tracking the returns of the S&P 500 Stock Index.) Before exploding upward in the late 1990s, our acceptance grew at a glacial pace. Similarly, our early municipal bond funds, first offered in 1977, were also slow to gain investor favor. But, defeated at the outset, both would survive, and then prosper. Patience! In my 1999 acceptance speech, I also expressed my concerns about the high growth rates and burgeoning assets that the Vanguard family of stock and bond funds were experiencing—then nearly $100 billion, now closing in on $5 trillion. Vanguard’s remarkable growth has been driven by our index funds, now numbering 59 stock funds, 18 bond funds, and 61 balanced funds (largely our target-date retirement funds-of-funds, a field in which our market share exceeds one-third). So I also wondered if we could survive victory.

Acceptance Remarks John C. Bogle 2017 CME Group Melamed-Arditti Innovation Award Naples, Florida November 14, 2017 I’m delighted to share this remarkable Innovation Award with my fellow Scotsman, the quantitative investment pioneer John “Mac” McQuown. I’m especially honored because the CME Group Melamed-Arditti Innovation Award is based, not only on the invention of a financial innovation that has “created significant change to markets, commerce, or trade,” but also on “the practical application of the idea . . . in improving the economic well-being of individuals, an industry, or a nation”—in the public interest. That’s always been the goal of my long career. Surely First Index Investment Trust (the original name of today’s Vanguard 500 Index Fund) was designed to do exactly that. I’m still sort of amazed that it fell to me to create this pioneering index mutual fund way back in 1975. How did it happen? But first, how did it not happen? First Index was not a product of complex algorithms, nor of Modern Portfolio Theory (MPT), nor of the Efficient Markets Hypothesis (EMH). For me, the uneven efficiency of the market makes the EMH an unreliable basis for indexing. Truth told, when I decided to start our index fund, I possessed neither the training nor the talent for applied statistics, and, embarrassingly, I had never even heard of the EMH. Nor was the first index mutual fund a product of the quantitative work done at the University of Chicago and at Wells Fargo.

The Modern Corporation and the Public Interest A Speech by John C. Bogle, Founder of the Vanguard Group Before The Public Company Accounting Oversight Board 2017 International Institute * * * Washington, D.C. December 7, 2017 If my title, “The Modern Corporation and the Public Interest” echoes “The Modern Corporation and Private Property,” the title of an influential 1932 monograph by Columbia professors Adolph A. Berle and Gardiner C. Means, please be clear that the similarity is intentional.1 The principal conclusions of their landmark review of the public corporations of the day:  The position of ownership has changed from an active to a passive agent. The typical owner has rights and expectations with respect to an enterprise, but is practically powerless to effect change.  The spiritual values that formerly went with ownership have been separated from it.  The value of an individual’s wealth is determined largely by the actions of the individuals in command of the enterprise—over whom the typical owner has no control. That value is also subject to the vagaries and manipulations characteristic of the marketplace.  Individual wealth has become extremely liquid, convertible into other forms of wealth at a moment’s notice. Note: Mr. Bogle’s comments do not necessarily represent the views of Vanguard’s present management. 1 As an Economics major at Princeton University in 1947-51, I studied their work.

__________________ Substantial portions of this essay were the basis for a speech delivered to the Morningstar Investment Conference in Chicago, Illinois on April 27, 2017. The opinions expressed in the essay do not necessarily represent the views of Vanguard’s present management. The Road Less Traveled An Essay by John C. Bogle Founder of The Vanguard Group (1974) and Vanguard 500 Index Fund (1975) April 26, 2017 I. The Prophesy Almost 43 years ago, in July 1974, one of the most memorable events of my long career took place. I was in Los Angeles at the headquarters of the American Funds, meeting some of the friends that I had gotten to know during my long service as a governor of the Investment Company Institute, and chairman during 1968-1970. During the day, the late Jon Lovelace, head of the firm, came into the conference room where we were gathered and asked me to meet with him privately. He had some important industry issues that he wanted to discuss. Jon, son of Jonathan Bell Lovelace, founder of the American Funds in 1931, had a high reputation for business integrity, independence of thought, and wisdom, and I was eager to meet with him. Following my visit to his firm, however, I had scheduled a dinner meeting before flying back to Philadelphia on the 7:30 a.m. flight the next morning. “That’s fine,” Jon said, “I’ll meet you at the LAX breakfast room counter at 6 a.m.” When I arrived, Jon was already seated at the counter.

Nearly 50% of mutual fund assets were managed by Boston-headquartered firms. Fund assets in the Greater Philadelphia area (largely Wellington Fund) ranked a distant fourth, with a mere 7% of all fund assets. That headquarters map looks very different today. Greater Philadelphia ranks first, with a share of 25% of industry assets (again, almost entirely Vanguard funds), more than triple its 1951 share of 7%. Boston’s share has dropped by more than half, from 50% to 19%, now ranking third.

funds have totaled a positive $1.3 trillion, while actively managed U.S. equity funds have suffered negative cash outflows of $1.1 trillion, a remarkable $2.4 trillion swing in investor preferences. Index funds garnered positive flows during every year of the decade, while active funds had negative flows in nine of the ten years. (Chart 2) That trend seems to be accelerating. During the first four months of 2017, investors have poured $115 billion into U.S. equity index mutual funds—on pace for the biggest year ever. Active funds are on pace for their second worst year on record. Yes, there’s a revolution underway. If you believe Paul Samuelson, Warren Buffett, and David Swensen (my “murderer’s row”), I’ve been a hero, the leader of this Index Revolution. They may even be right! Whatever the case, in 1975 I started the world’s first index mutual fund. That strategy was importantly motivated by my 1974 creation of Vanguard, with its mutual (fund-shareholder-owned) structure, driven by its charter and its spirit to minimize the costs of investing.

To put it mildly, Jon did not like my idea. I still remember his exact words, “If you create a mutual structure, you will destroy this industry.” Viewed in the light of what would follow decades later, if Jon Lovelace only had added (which he surely implied), “you will destroy this industry as we now know it,” his reputation for wisdom and foresight would have been even further enhanced. II. The Upstart and the Revolution This compelling anecdote begins my story of how an upstart firm, founded at the bottom of a vicious bear market in 1974 (down 50%), overcame the high odds against its survival, let alone its success. The firm had an unprecedented mutual structure. It was compelled to use an external investment adviser with a previous record of failure. It was limited in its ambit to fund administration, and barred from engaging either in portfolio management or share distribution. It would soon stake its future on an unprecedented strategy—a stock portfolio that would require no investment adviser. And, as if those liabilities were not enough of a burden, the firm had a brand-new name. As you now must know, that name was Vanguard; that unprecedented structure was mutual; and that strategy began with the creation of the world’s first index mutual fund. Whether you applaud this novel approach to mutual fund structure and strategy—or maybe even wish that it had failed—that structure and that strategy have changed the nature of the mutual fund industry “as we then knew it.

Indexing, Costs, and Consumerism It is this combination of strategy and structure that has paved the way to Vanguard’s leadership: 80% of the assets of traditional index funds (TIFs)—largely based on buying and holding broad market, low-cost stock and bond indexes such as the S&P 500—and 30% of the assets of ETFs—largely based on active trading of both broad market indexes and narrow market segments, and often appealing to investors who wish to speculate. Combining both TIFs and ETFs, Vanguard holds a dominant 50% share of the U.S. index fund market.

original crew members of our tiny, shiny new firm named Vanguard. I’ll let Jan tell the story of what happened in mid-1975: “One day you surprised me by asking if I could run an index fund and after a couple days research I said yes . . . I wrote the index fund programs in APL on a time-sharing system, using simple cap-weighting algorithms and public databases. It was, frankly, easy, although I was quite nervous when you sold the idea to underwriters and the road show began. Actual money was going to be managed based on my little set of APL programs!” There was, of course, much more to the story than that simple anecdote.1 So let me take you through a brief time line of the confluence of events and circumstances that made my timing and my 1975 decision almost inevitable: 1. March 1951. The Thesis. I handed in my Princeton thesis focused on the then-tiny ($2 ½ billion) mutual fund industry, which was entitled “The Economic Role of the Investment Company.” After a skimpy statistical analysis, largely anecdotal, I concluded that mutual funds “could make no claim to superiority over the market indexes.” In mid-1975, as I prepared to recommend the formation of the first index fund to the Vanguard directors, I recalled those words. 2. 1960-January 1974. The Learning Experience. Through my experience on the Wellington Fund Investment Committee, I learned first-hand how tough it is to find portfolio managers who could consistently distinguish themselves.

He would have been unaware, too, that most Boston funds were in the process of changing their structure from largely privately-owned managers serving as trustees to ownership by financial conglomerates focused on building their own profits by amassing assets. Their primary focus was changing from prudent management to aggressive marketing. For Massachusetts Investors Trust, that structural change began in 1969, when its trustees created a new corporation (Massachusetts Financial Services—owned by themselves . . . ahem, that’s Puritan?) to manage M.I.T. and its sister funds. In 1976, the trustees sold their holdings to Canadian conglomerate Sun Life. By remarkable coincidence, almost simultaneously, Vanguard—successor to Wellington—did almost exactly the opposite. I founded the new firm in 1974, structured as a truly mutual mutual fund group, without precedent in industry history, owned not by outsiders but by its own fund shareholders, and thus able to operate at rock-bottom cost. Dr. Baltzell also had to have been unaware that a sea change in investment management was in its beginning stages, one that would revolutionize the field of finance.the

Strategy and structure have also made Vanguard a hero to Main Street. The letters I get from shareholders almost every day say exactly that. But Vanguard is an anti-hero—dare I say “villain”? —to Wall Street. Our distinction—focusing on serving clients, rather than supplying “products” to intermediaries—is the foundation upon which Vanguard has been built. For investors as a group, lower costs lead to higher capture of whatever returns the stock market gives us, or—let us not forget—takes away from us. There is no rational argument against this tautology. Therein lies the reason that the low-cost, buy-and-hold index revolution is here to stay. Indexing is not a fad; it is not a fashion; it is a fact of life, indeed of elemental arithmetic. Placing the interests of Main Street investors ahead of the interests of Wall Street intermediaries is simply a reflection of the fundamental economic principle enunciated by Adam Smith in the Wealth of Nations in 1776. Paraphrasing: “The producer’s sole duty is to serve the consumer.” Of course it is! That principle is universal; investing other people’s money is no exception. Past Returns, Future Returns The failure of active fund managers in the strong bull market we have enjoyed (on balance!) since 1982 was well concealed by the fact that few fund investors seemed disappointed in their returns. Of course!

” Call it creative destruction. Call it disruptive innovation. Call it luck. (Good luck for Vanguard; not such good luck for our peers.) But more than anything else, call it good karma. For surely fate would have eventually awakened the investment world to this fundamental truth: before intermediation costs are deducted, the returns earned by equity investors as a group precisely equal the returns of the stock market itself. After those costs, therefore, investors earn lower-than-market returns. Fact: The only way to maximize the share of the financial market returns earned by the 100 million families whom the fund industry serves is by minimizing the costs borne by fund shareholders. I’ll soon celebrate my 66th anniversary in this wonderful business, beginning when I joined Wellington Fund in July 1951. I decided to mark the occasion of my (I think) unprecedented record of service in the fund industry by offering a brief history of how I came to found Vanguard and First Index Investment Trust (now Vanguard 500 Index Fund). The world of investing knows too little of this history and of the revolution that, decades later, would follow.

administrative, investment management, and share distribution services, basically terminating the funds’ relationship with Wellington Management. That was a bridge too far for the Board, but they authorized me to provide a study of the options available to them.2 5. September 24, 1974. Vanguard Is Founded. The options that I presented to the Board ranged from the Funds’ acquisition of Wellington Management (my first choice) to having the Funds assume responsibilities for their own administration but retain Wellington Management for their investment management and share distribution (my last choice). They voted for that last choice. But it was better than nothing, and 43 years ago Vanguard—the name that I had chosen— was founded as a truly mutual mutual fund organization, designed to serve its shareholders. Part of our strategy focused on minimizing the management fees paid to our advisers. Now, an index fund would give me the opportunity to start a fund with no management fees. This confluence of opportunity and motive may well be the most powerful single force undergirding innovation. 6. October 10, 1974. “Challenge to Judgement.” That’s when I read Paul Samuelson’s article in the very first issue of the Journal of Portfolio Management. What a coincidence! I felt as if he had written it directly to me. Dr. Samuelson sought “brute evidence” that any mutual fund manager could consistently outpace the S&P 500 Index, but found none.

S&P 500 Index). Indexing would prove to be the apotheosis of that “democratic ideal” of which Baltzell spoke earlier, the democratization of investing for our nation’s average citizen investor. But it didn’t happen in Boston. It would make Vanguard the dominant firm in the fund industry by an unprecedented margin. Vanguard’s novel structure (mutuality and low cost) and pioneering strategy (indexing) were essentially the tools that moved the mutual fund industry’s “Big Money” from Puritan Boston to Quaker Philadelphia. In retrospect, I have come to realize that my design for Vanguard reflects many of the basic Quaker values that William Penn fostered—simplicity, economy thrift, efficiency, service to others, and the conviction, in the words of George Fox, that “the truth is the way.” (I confess that I’m not so strong on some of the other Quaker values, in particular, consensus, patience, silence, and humility.) I take comfort in the fact that Benjamin Franklin too, struggled to balance his pride with humility. Here’s what he wrote in his autobiography: In reality, there is, perhaps, no one of our natural passions so hard to subdue as pride. Disguise it, struggle with it, beat it down, stifle it, mortify it as much as one pleases, it is still alive, and will every now and then peep out and show itself. . . . Even if I could conceive that I had completely overcome it, I should probably be proud of my humility.

He demanded, in effect, that someone, somewhere start an index fund based on the S&P 500. That bolt from the blue set my 1951 idea on the road to reality. 7. September 27, 1975, Morning. Friendly Persuasion. Given Paul Samuelson’s unquestioned credibility, I marked his essay “Exhibit A” in my presentation to the board. The next presentation was my own statistical study showing the average annual return of equity mutual funds compared to the S&P 500 over the previous 30 years ending in mid-1975, which I calculated on a Monroe mechanical calculator. Result: S&P 500 annual edge, 1.6%.3 8. September 27, 1975, Afternoon. The Index Fund Is Born. To resolve that unpleasant political struggle, the newly formed Vanguard was barred by its Board from providing investment management services to our mutual funds. That door was closed to us. But the index fund allowed me to open a window: “This fund is not managed,” I told the Board. Result: the unanimous approval of the Vanguard Board to form the world’s first index mutual fund. (Again, “you can’t make this stuff up.”) 2 The Board was closely divided, and the directors were anything but aligned in their views. Were it not for the leadership of the late Charles D. Root, Jr., chairman of the independent director group, the events that followed would never have taken place. 3 Factoid: I repeated the study for my paper published in the January/February 2016 issue of The Financial Analysts Journal for the 30 years ending 2015: S&P edge, 1.6%.

The Opportunity to Speak Now is the time that I’ve chosen to speak out on the fund industry today. But this is not a victory lap. I‘ve been around too long to take victory laps before the game is over. Nor is it a valedictory. I’ve got much more to accomplish in my life and in my career. It begins with the saga of the improbable creation of Vanguard, the firm I founded almost by accident, and the even less probable creation of the index fund. I’ll then describe how Vanguard became a colossus, the most dominant firm in the history of the mutual fund industry—$4 trillion in assets, 23% market share of assets, an incredible $304 billion in 2016 cash flows (an unprecedented 171% of industry cash flows), and of course in costs. Asset-weighted, an expense ratio of just 12 basis points—the industry’s lowest-cost provider. As Psalm 118 tells us: The stone that the builders rejected has become the chief cornerstone. Next I’ll discuss two business strategies that today’s active fund managers might adopt to respond to the new environment, now dominated by index funds.starkly

era—equity funds laced with speculative issues, “story stocks,” and phony accounting. (Shares were bought from corporate insiders by funds at discounts of some 50% from market value, then quickly marked up to market value, creating an immediate, if illusory, 100% return.) In that short-lived era when these speculative “aggressive growth” mutual funds were in the industry’s driver’s seat, both stupidly (from an investment standpoint) and brilliantly (from a marketing standpoint), I merged Wellington Management with Boston’s tiny Thorndike, Doran, Paine, and Lewis, adding a hot “Go-Go” fund to our menu. (Ivest Fund, meteor-like, lit-up the skies for a few years, and then burned out and crashed, its ashes finally deposited in the dustbin of history in 1980.) My new partners at Ivest hated bonds. When I proposed forming a bond fund in 1970, one of them quickly put the kibosh on the idea: “Don’t you realize that bonds are yesterday? Stocks are tomorrow.” But I finally persuaded my colleagues to form an income fund, 60% bonds and 40% dividend-paying stocks. (Today, the assets of Vanguard Wellesley Income Fund total $54 billion.) Then times changed (a little!) and we formed our first “pure” bond fund in July 1973—now Vanguard Long- Term Investment Grade Bond Fund—the first step in our gradual rise to dominance in the bond fund sector of our industry.

contrasting strategy designed to serve fund investors. Finally, I’d like to give you a few personal reflections about my long career in this industry. Strange as it may seem, during my career began with my 1951 Princeton senior thesis on “The Economic Role of the Investment Company,” calling out values that have been reaffirmed all through my career.  Mutual funds’ “prime responsibility must always be to their shareholders.”  Funds must operate in “the most efficient, economical, and honest way possible.”  Funds “can make no claim to the superiority over the market [indexes].”  Funds should represent “the great number of inarticulate and ineffective individual clients” in corporate governance. Foresight? I doubt it. Callow? Sure. The new paradigm I created for mutual funds may well have found their genesis 66 years ago in the callow idealism of a prototypical college student. Truth told, I hoped to present the story of Vanguard and its implications for the mutual fund industry at the coming General Membership Meeting of the Investment Company Institute. My credentials: former chairman of the ICI board; a leader who brought three of ICI’s future chairmen into the fund industry (and helped to groom a fourth); founder and long-time CEO of the ICI’s largest member and largest dues payer; a voice that ought to be heard, discussing the new and disruptive trends that those fund executives gathering in Washington D.C.

An Industry-Changing Event The ill-begotten merger finally collapsed, and in January 1974, my new partners mustered the votes to fire me. (It’s not fun to be fired!) A painful struggle followed, resolved only when I persuaded the directors of the then-Wellington Funds to retain me as their chief executive, and to operate the funds at cost, on a truly mutual basis. I named the new firm Vanguard—“leader in a new trend.” It was founded on September 24, 1974. The fund directors barred Vanguard from engaging in the investment management of our funds and in the marketing and distribution of fund shares. (They retained Wellington Management to continue to perform those two duties. Given the abject failure of those managers in advising Ivest Fund and Wellington Fund, a truly incredible decision.) We were on our own now. Fortunately, a door opened that gave the new firm an unexpected opportunity. In 1976, Congress passed legislation that allowed mutual funds to “pass through” municipal bond interest income to their shareholders. Municipal bond funds quickly came into being as a new investment category, a permanent factor in our industry. Almost immediately, a score or more fund sponsors answered the call. All were “managed” municipal bond funds, presumably meaning that their managers would shorten maturities just before interest rates rose (and prices fell), and lengthen maturities just before rates fell (and prices rose).

It was not until the early 1990s that it started to grow, and grow it did. Today, assets of the Vanguard 500 Index funds total $581 billion. With their sister fund, Vanguard Total Stock Market Index (with 83% of its assets in S&P 500 Index stocks), another $662 billion—in all, $1.24 trillion invested in these TIFs (traditional index funds) at Vanguard alone. Today, all told, the assets of all Vanguard index funds total $3.6 trillion, 74% of Vanguard’s present asset base of $4.7 trillion. During the past quarter-century, index funds have come into their own. More broadly, assets of all U.S. index mutual funds have risen from that pathetic $11 million in 1976 to $93 billion in 1996, a 55% compound annual growth rate—to $6.1 trillion in late-2017, still a respectable 22% annual growth rate. In the past decade alone, U.S. investors have added $2.1 trillion of net cash flow to their holdings of U.S. equity index funds and withdrawn more than $900 billion from their holdings of actively managed equity funds. Such a huge $3 trillion swing in investor preferences surely represents no less than an Index Revolution.

I believed—as any champion of the index fund must believe—that such a flawed premise was nonsense. Where were these experts who could successfully time the bond market? So Vanguard took a different approach. We formed a series of three separate “defined maturity” bond funds—long-term, intermediate-term, and short-term. Each would hold to their particular mandate. With each series focused, not on shifting maturities but on credit quality, investors could decide for themselves what combination of risk and yield would best meet their financial goals.those

and who care deeply, about the future of this industry—the industry that I have loved for two-thirds of a century. Rejected by ICI, I asked Morningstar for an opportunity to speak at their annual Investment Conference. They immediately opened a slot for me. Thank you, gracious Morningstar leaders! And since my overriding theme today is providing a better, fairer investment experience for mutual fund investors, any audience that includes so many investment advisers to fund investors is far better-suited to hear my story than the audience at the ICI meeting. (I hope that doesn’t sound like sour grapes!) My central message: a call for a better deal for fund shareholders, for Vanguard’s clients and for the clients of the nation’s registered investment advisers. IV. The Background Six months prior to my meeting with Jon Lovelace at the airport in 1974, I had been both the CEO of Wellington Management Company and Wellington Fund, the industry’s dominant balanced fund. But I had been fired from my position at Wellington Management Company, adviser to Wellington Fund and its associated funds, mostly as a result of a disastrous merger with a manager of highly aggressive growth funds. Yet I remained CEO of the Wellington funds. Such a split—retained as head of the mutual funds, fired as head of the funds’ adviser—was unprecedented in our industry’s history.

The idea of splitting the two jobs—the fund role, traditionally titular in nature; the management company job, holding the implicit power to control the funds—seemed sort of, well, weird. But to me, the concept of putting the fund directors—and thus the shareholders to whom they are responsible—in the driver’s seat was a far more rational structure for mutual fund governance than the traditional convoluted structure. We called it “the Vanguard Experiment” in mutual fund governance. By eliminating the profits to an outside firm, Vanguard would quickly become the low-cost provider in an industry where costs are (almost) everything, and where—except for the highly cost- competitive index fund segment—our peers have little interest in competing on costs. (It’s bad for management company profits!) The mutual “at cost” structure would put the fund clients first. A declaration of independence of the funds from their investment adviser. This solution appealed to my logic, my contrarian streak, my determination, and my idealism. But in addition to those (I think) noble motives, I had a less noble motive: I wanted to survive. I wanted to continue my then 23-year career in this wonderful industry.may

who were seeking a higher yield and were willing to assume the higher price volatility that inevitably accompanies it, the long portfolio, and so on. Changing the Standard for Bond Funds This solution gave Vanguard a large competitive edge. For sorting the funds into three maturities muted much of the “noise” in the performance of “managed” municipal bonds. With comparative performance of the funds sorted by maturities, the lowest-cost funds would be almost sure to win, and Vanguard was already the fund industry’s lowest-cost provider of bond funds. Over time, investors’ perceptions of bond funds changed. The three-tier (or more!) approach became the industry standard—not only in municipal bond funds, but in taxable bond funds as well. Today, with $150 billion of assets, Vanguard’s tax-exempt and taxable bond funds are the collection of bond funds largest in the industry. (Exhibit 6) Six Vanguard muni funds are ranked among the industry’s ten largest. Our taxable bond funds also adopted a similar defined maturity strategy, with assets that now total $836 billion. Three Vanguard funds made the list of the top ten taxable bond funds. Our Total Bond Market Index Fund, with assets of $328 billion, is a mere $229 billion larger than the #2 fund with assets of $99 billion. In all, bond investments under the Vanguard mantle now total just short of $1.1 trillion (See Appendix I), including some $260 billion our balanced funds, LifeStrategy Funds, and Target Retirement Funds.

well have been my only chance to do so, and I appealed to the board of directors of the Wellington funds depart from their normal presentism mindset and take this drastic step. It would not be easy. The structure that I proposed quickly led to a bitter fight—the fired CEO vs. those who had fired him. The outcome was in doubt until the battle ended, six months after it began. The new firm had perhaps one chance out of ten to survive. But finally, Vanguard was born. In 1975, we made our first strategic move—to create an index fund. While all of our peers had the opportunity to create the first index fund, only Vanguard, with our unique mutual structure, had not only the opportunity, but the motive. The seed of the idea of the index fund was planted in my 1951 senior thesis (remember, funds “can make no claim to superiority over the market [indexes]”). The foundation of our philosophy was my first-hand experience in trying but failing to select winning managers. And a timely and fortuitous inspiration from Nobel Laureate Paul Samuelson then precipitated the creation of the first index mutual fund. Dr. Samuelson’s essay, “Challenge to Judgment,” was published in the first edition of the Journal of Portfolio Management in the fall of 1974. It struck me like a bolt of lightning. By happy coincidence, I read his essay just as the stock market hit bottom and moments after Vanguard was founded.

We also manage more than $220 billion in money market fund assets. Together, these funds represent by far the largest aggregation of fixed-income assets in the fund industry. Managing Vanguard’s Fixed-Income Funds If the simple decision to create defined-maturity bond funds could be described as “brilliant,” my choice of an external manager to run the new mutual funds was quite the opposite.giant

His credibility was a vital factor in my ability to persuade Vanguard’s board to approve of the creation of the world’s first index mutual fund. Once considered unthinkable, indexing has triumphed, and active managers will have to either join the index revolution and/or expand their range of investment options by developing new active investment strategies. Or do nothing. Whatever the case, active fund management is not going to vanish from the earth. But to think that change stops here would seem like rank presentism. Recent data from Standard & Poor’s reaffirms the tough job facing active managers. For the first time, S&P SPIVA (“Index Versus Active”) produced comparative data for the past 15 years on a broad matrix of funds. S&P calculated the percentage of funds in each category that were outperformed by their relevant market index.funds:

Citibank, N.A., as the adviser to the funds. Alas, the bank was simply not up to the task. As 1980 began, Vanguard determined to terminate the relationship. At the same time, our large ($420 million) money market funds were paying high fees to their then-manager, Wellington Management Company. This was the moment, I thought, to recommend a giant step: having Vanguard replace Citi as manager of our municipal bond funds,2 and simultaneously have Vanguard build its own in-house management staff to replace Wellington as manager of our money market funds, in part to reduce fees, and in part to obtain “critical mass” for providing economies of scale. The Board meeting, held in September 1980, was contentious. On the one hand, replacing Citibank as adviser to the muni funds was a non-issue. Replacing Wellington with Vanguard as adviser to the money funds would generate substantial savings, largely the result of Vanguard’s “at-cost” structure. But the retention of a new staff of bond professionals at Vanguard carried its own risk. In the end, my recommendation carried, another important step in the expansion of Vanguard’s responsibilities. We also determined to apply the defined maturity concept to our new taxable bond funds, and have our in-house staff manage them. With the board’s approval, we began to build the Vanguard staff to manage our bond assets.

The leader of our new Fixed Income Group was Ian MacKinnon, who put together a team of about six professionals plus a small administrative staff. When we began to manage our municipal bond and money market funds, then combined assets came to about $1.75 billion. As our assets have grown, so has our staff, both in number and in professional skill. Greg Davis led the Fixed Income Group for 3 years until he was named Vanguard’s Chief Investment Officer in July 2017. He was succeeded by John Hollyer, a 28-year Vanguard veteran and a solid bond professional, formerly in charge of Vanguard’s risk management efforts. At present, our Fixed Income Group includes more than 140 professionals, including 62 CFA charterholers, with global offices in Valley Forge, PA; Scottsdale, AZ; London; and Melbourne, Australia. Dare I say that the sun never sets on the Vanguard bond empire? An Index Fund for Bonds The internalization of fixed income asset management in 1981set the stage for Vanguard’s rise to dominance among bond fund managers. But the climactic change was still to come: the creation of the bond index fund. As 1986 came to a close, given the decade-long success of our stock index fund in tracking the returns of the S&P 500 Index, I decided to create a bond index fund, Vanguard Total Bond Market Index Fund. (The SEC staff objected to the name, “Vanguard Bond Index Fund.”) The new bond fund opened its doors to investors on December 11, 1986.

Since then, Wellington has been a remarkably consistent performance leader over its balanced fund peers, largely because of its consistent one-to-two-percentage-point expense ratio advantage and its low portfolio turnover. Vanguard Wellington Fund has regained its rank as one of the nation’s two largest balanced funds. I also selected the managers for the new active funds that we would form. Vanguard’s success in active management continues to this day. With a strong tailwind of low costs, in 2016 Vanguard ranked #1 in cash flow among actively-managed stock and bond mutual funds.

Slow to grow at first, its assets topped the $100 million mark in 1989 and the $1 billion mark in 1995. With current assets of $380 billion, Total Bond Market is now, far and away, the world’s largest bond fund.3 2 We had arguably “broken the ice” in acting as an investment adviser to mutual funds in 1975 when we created Vanguard S&P 500 Index Fund in 1975. Or not. 3 There are actually two such Vanguard funds, with substantially identical portfolios.

The addition of the bond index fund to Vanguard’s internally-managed asset base was followed by our creation of major additions to our menu of bond funds: three Admiral (lowest-cost) U.S. Treasury funds in 1991; the Intermediate-Term Investment-Grade (taxable) Bond fund in 1993; and Short-Term, Intermediate-Term, and Long-Term Bond Index Funds in 1994. This new wave of funds grew slowly but surely, with aggregate assets of $140 billion in October 2017. Industry Leadership Together, the combination of the bond market index fund and its defined-maturity cousins (and, of course, our rock-bottom costs) brought Vanguard to its leadership in the bond fund arena. (Exhibit 7) From a mere 4% of bond mutual fund assets three decades ago to 13% in 2005, to 23% today. Today, industry leadership is highly concentrated. The six largest bond fund sponsors (Exhibit 8) oversee a dominant 50% share of total assets of bond funds of all types. Vanguard’s bond fund assets are more than two-and-one-half times the $390 billion of our next largest peer.

funds, on the way to topping 50%. Indexing is an idea whose time has finally come, a disruptive innovation that places the interests of investors ahead of the interests of fund managers. Early Signs of Progress We have a long way to go before corporate governance participation by active money managers and passive index funds reaches full fruition. But the tide is moving strongly in that direction. One encouraging sign is the “Commonsense Corporate Governance Principles,” an open letter from a group of major institutional managers that calls for a focus on “long-term value creation.” Its set of governance principles was developed by a group of giant index fund managers (Vanguard, BlackRock, and State Street) and active money managers with a strong tendency to invest for the long term (including American Funds and T. Rowe Price). Another encouraging sign of greater participation in corporate governance (especially to yours truly!) is the evolution of Vanguard, now the world’s largest index fund manager ($3 trillion) and second largest money manager ($4.5 trillion). The turnaround in the firm’s philosophy has been dramatic. In 2003, Vanguard joined Fidelity in a major public statement opposing even the disclosure of its proxy votes at corporate annual meetings. But by 2012, Vanguard was actively engaging with the managers of its portfolio holdings. Then in 2017, Vanguard came full circle, providing its first formal annual report on “Investment Stewardship.

Our huge expense ratio advantage accounts for much of Vanguard’s success. (Exhibit 9) The expense ratios of Vanguard’s bond funds are some 40% below our closest competitor (0.27%) and 80%(!) below the industry norm of 0.87%. Bond index funds account for 61% of Vanguard’s bond assets, and some 72% of Vanguard’s taxable bond fund assets, with our actively managed bond funds accounting for but 28%. In reality, “actively-managed” is somewhat of a misnomer, since the firm’s defined-maturity municipal funds, held to rather precise maturity standards and closely tracking comparable muni indexes, represent about one- third of the “active” total. Perhaps “virtual index funds” would be the more appropriate term form them.

” This 36-page document disclosed Vanguard’s voting policies, and categorized in detail how the Vanguard funds voted their 2017 proxies on 38 types of propositions. Yes, most of these votes were cast as “for” votes, consistent with the recommendations of corporate managements. Nonetheless, as it is said, “a journey of 1,000 miles begins with a single step.” A Framework for Reform The power of entrenched managements operating in their own self-interest remains pretty much as it was described by Berle and Means in 1932.abundant

Vanguard’s dominant share of bond fund assets—and the concentration of assets in bond index funds—tells us what has happened in the bond fund marketplace, but it doesn’t tell us exactly why it has happened. Two reasons stand out: One, our remarkably higher yields, so critical for bond investors today, driven largely by our huge expense ratio advantage. Two, the absence of sales loads on our funds, making them far more attractive to individual bond fund buyers and corporate thrift plans, whose administrators have no interest in incurring the unnecessary drag of sales loads. Small wonder, then, that index funds are gradually winning the battle for investor assets in the bond fund arena. While the $1 trillion invested in bond index funds represents a 23% share of all bond fund assets—lower than the 41% presently in stock index funds—that figure seems destined to grow. Since 2011, cash flows into bond index funds have totaled $802 billion, fully 38% of the total flows of $2.1 trillion into bond funds. High Fees, High Loads, and “Compromises” Given the critical advantage of rock-bottom expenses, (relatively) low portfolio turnover, and superior expected risk-adjusted returns, it’s a small wonder that bond index funds are becoming a significant and growing factor in the bond fund marketplace. First, consider fund expense ratios (annual expenses as percentage of fund assets) for bond index funds vs. actively-managed bond funds.

4 Not merely the yield differential itself, but the huge percentage of portfolio yields that is confiscated by the expenses borne by investors in actively managed funds. Let’s examine these differences in three bond categories. In active corporate bond funds (Exhibit 10), the average fund’s gross yield of 3.05% comes with expenses of 0.78%, consuming 26% of the yield and leaving an actual net yield of 2.26%. Compare that outcome with the corporate bond index fund: gross yield 3.22%, expense ratio 0.07%, income consumed just 2%. Net yield 3.15%, 35%(!) higher than the active fund. Similarly, actively managed government bond funds consume 32% of income vs. 3% for the low-cost funds. For active munis, 37% consumed vs. 5% for the low-cost funds. 4 Vanguard’s actively managed bond funds carry expense ratios much lower than the industry average—even those that are managed by outside managers. For example, the GNMA Fund, with $25 billion in assets, is managed by Wellington Management Company for an advisory fee of a mere 0.01%. Its asset-weighted expense ratio is only 0.14%.

these conglomerates will have a perfectly good business rationale, but I’m guessing that many of their mutual fund subsidiaries will ultimately be sold at bargain prices or merged with other similarly-situated firms. As we consider today’s index fund tsunami, it’s critical to understand its two distinct components, a distinction largely ignored by the industry and the media. One component is the ETF—the exchange traded fund—enabling investors to trade a seemingly infinite variety of index funds using almost 2000 different indexes, often tailor-made by their sponsors. As the original ETF advertisements said, “now you can trade the S&P 500 Index all day long, in real time.” (I’m compelled to point out that broad market ETFs are fine, as long as you don’t trade them.) ETFs are also a key ingredient in the growth of robo- advisors, which are bringing down the costs of advice for investors. The other component is the TIF, the acronym that I’m struggling to establish (so far without much success) for the traditional index fund, essentially a low-cost, broad market index fund designed to be bought and then held forever. That first S&P 500 Index fund that I created way back in 1975 was (and is) a TIF. When the late Nathan Most, creator of the ETF, offered Vanguard the opportunity to join forces with him by making our TIF available in ETF form, I declined his offer without hesitation.

Note that the confiscation of income is as high as 60% for the 529 C class. Also note that some of the convoluted mathematics involved in deciding which of the 16(!) classes the broker will offer clients from a single sponsor of the same fund with such different costs. Some classes have front-end loads, some have deferred loads, 11(!) have hidden loads paid by the investor in the form of 12b-1 fees for fund distribution. As a result, the net dividend yields received by investors in the 16 classes vary—in this case, from a low of 1% for the 529 C class to high of 2.16% for R6 class of this intermediate-term bond fund. Since the gross (pre-expense) yield of this fund was 2.4%—43% of the yield has been effectively confiscated. If that table tells us anything, it is that the salesmen must be paid. That’s fine for a particular firm, I guess, but investors should make sure that they receive commensurate value in return. The Metamorphosis of an Index Let me close with a few broad thoughts about how the world of bonds might change in the years ahead. As the driver of Vanguard’s dominant 23% share of bond fund assets, Vanguard Total Bond Market Index Fund offers an interesting case study of how bond market indexing works. In 1986, when I first considered the creation of a bond index fund, the sole broad bond index was the Salomon Brothers Investment Grade Bond Index. Then, U.S. Treasury bonds accounted for 50% of its weight, government agency obligations 32%, and corporate bonds 18%.

income—I believe that the index share of bond fund cash flow and assets will not only continue its historical rise, but even accelerate. And, given the remarkable cost advantages based on its simple mutual, investor-first structure and the staggering economies of scale the firm has achieved for its shareholders, I see no reason that Vanguard cannot continue to build on our present base, lead the field in the bond fund industry, and be an active participant in the issues of the day affecting the bond market. As I look ahead, I’m no Pollyanna. Times will change. Believing that the future will closely resemble the past (“presentism”) and ignoring the inevitable uncertainty of investing—and of life—is to forget the lessons of history. * * * In November 1998, almost exactly 19 years ago—you conferred on me the honor of admission to the FIASI Hall of Fame. Here’s part of what you said: In the mid-1970s, Jack helped pioneer the differentiation of bond funds by maturity, a simple, but important concept which connects investor risk and objectives with fund structure [and helps] investors define and measure risk. Intellectual curiosity, innovation and an independent spirit have all been hallmarks of a long and extremely successful career. And Jack has become one of the most articulate and thoughtful spokesmen for the investment management business today. All of us look forward to many more years of Jack’s ideas and opinions.

Presenting some ideas and opinions is what I’ve tried to do today. Good luck to all of you bond professionals (including you active bond managers), and to the entire fixed-income community. Yes, having survived defeat, I’m confident that Vanguard and indexing will continue to survive victory.

Caring about the millions of honest-to-God, down-to-earth human beings who have trusted Vanguard, and whom we’ve done our best to serve. Caring about the thousands of wonderful, loyal, crew members who are committed to our values, not only of serving our investors, but caring about them. As I often remind Vanguard’s crew, “ideas are a dime a dozen, but implementation is everything.” Caring about those wonderful Bogleheads, whose website is the leading financial forum on the internet. Let me be clear: It was never my intention to build a colossus . . .lowest

cost and at the highest level of service. Truth told, very early in our history I worried more about the challenge of managing huge assets than about survival. When Vanguard assets crossed the $4 trillion mark earlier this year, my first thought was the title of an early speech to our crew in which I warned about the perils of giant size. I asked, “Which Axiom?” would prevail: Will it be, “Nothing succeeds like success?” Or will it be, “Nothing fails like success?” So far in Vanguard’s history, it is the first axiom that has prevailed. My worry was, dare I say, premature. For the year was 1984, and our assets had then just crossed the $8 billion mark. While I never sought to build a colossus, I was too stupid to realize that if we merely gave investors their fair share of the returns we’ve enjoyed in the stock and bond markets, we’d become a colossus. By creating the mutual structure and the index strategy, we’ve been the first mover, a huge advantage in fostering our growth. But I’ve also been the most prolific public advocate about these inseparable elements of our growth. In my 2005 book The Battle for the Soul of Capitalism, I cited St. Paul: “If the sound of the trumpet shall be uncertain, who shall prepare himself for the battle?

So that’s it. To sum up my long career (so far!): My enthusiasm for life and for this industry, ever changing, remains; caring about our investors, making them the primary focus of our efforts; earning— and, I believe, deserving—their trust; helping to build a fiduciary society with a noble purpose; making a difference in an industry that I’m proud to have joined almost 66 years ago; and still striving to measure up to Paul Samuelson’s 1993 appraisal of me as a man who “changed a basic industry in the optimal direction.” Whatever the case proves to be, whatever the future may hold, the mutual fund industry has changed, in part because I took the road less traveled—indeed, never traveled before—all those years ago. What better way to close these remarks than with these words by Robert Frost? “I shall be telling this with a sigh Somewhere ages and ages hence: Two roads diverged in a wood, and I— I took the one less travelled by, And that has made all the difference.” * * * On the very day that I completed this final draft of this essay, I received a neatly handwritten note from a young and appreciative shareholder who had read my book Common Sense on Mutual Funds. He then invested in the Vanguard Total Stock Market Index Fund, and intends to hold it forever. In one more of the happy coincidences that have marked my long career; his closing words were, “And that has made all the difference.”

5/4/2015 The Mutual Fund Industry Today: “Conflicts, Conflicts Everywhere”* John C. Bogle United States Securities And Exchange Commission Asset Management Unit April 28, 2015 *Title of a speech by Julie Riewe, Co-Chief of Asset Management Unit, Division of Enforcement NOTE: The views I express in this speech and the visuals that follow are my own and do not necessarily reflect the views of Vanguard’s present management. 2. 740B 1,000 10,000 1951 1960 1970 1980 1990 2000 2015 Equity Bond Money Market Balanced $ A Tiny Industry Grows into a Behemoth TOTAL ASSETS March 2015 $9.9T 3.7T 2.5T $16.9T TOTAL TOTAL ASSETS December 1951 Equity $2.45B Balanced 680M TOTAL $3.13B Annual Growth Rate 1951-2015: 15% 3. Mutual Fund Industry Leaders: Then and Now Rank 1951 Fund Name Total Assets* (Millions) 2015 Manage r Name Total Assets (Billions) 1 M.I.T. $472 Vanguard $2,988 2 Inve stors Mutual 365 Fide lity 1,615 3 Keystone Funds 213 BlackRock 1,230 4 Tri-Continental 209 American Funds 1,216 5 Affiliate d Funds 209 JPMorgan Funds 519 6 Wellington Fund 194 State Stree t 497 7 Dividend Shares 186 T Rowe Price 493 8 Fundamental Investors 179 Franklin Templeton 480 9 State Street Investment 106 PIMCO 375 10 Boston Fund 106 Fede rated 272 Total $2,239 Total $9,686 Percentage of Industry 72% Percentage of Industry 57% Total industry assets: $3.1 billion. Total industry assets: $16.9 trillion *Includes associated funds. 4.

“Putting Investors First” Remarks by John C. Bogle Founder and former Chairman, The Vanguard Group before the CFA Society of Philadelphia Endowment & Foundation Event Philadelphia, PA June 4, 2015 I love the theme of the CFA Institute campaign for May 2015: “Putting Investors First.” But I believe that such a campaign should be, well, eternal. For it is in those three little words—putting investors first—that we find the fundamental justification for our profession of investment management, our investment strategies, our securities analysis, and our financial planning. And yes, “putting investors first” is at last gaining momentum in the evolution of our nation’s financial system. That phrase is simply another way of stating the core principle of my own campaign to establish a federal standard of fiduciary duty, the duty of everyone who touches “other people’s money” (OPM) to place the interests of our clients above our own interests. The idea of fiduciary duty is simple enough, and, I think unarguable. (How many members of our profession would want to operate under the mantra: “We put our clients’ interests second, but it’s close.”?) But the implementation of this simple idea has proven fraught with challenges. Ferocious opposition exists. Even worse, to the extent that reluctant acceptance exists, it pays little more than lip service to the fiduciary principle. The reality of the U.S. investment system is that it has rarely been dominated by this principle.

Kiplinger’s journalist Daren Fonda asked: “Why would all those Bogleheads come all the way to Valley Forge when they must know exactly what you’ll tell them?” My Response: When Pope Francis made his resent visit to the United States, everyone also knew what he would speak about: the importance of faith; keeping families strong; caring for those less fortunate; religious liberty; environmental issues. And yet wherever he went, tens of thousands— even hundreds of thousands—came to hear him speak. Perhaps we don’t expect our leaders to say something new whenever they speak. We want them to reinforce the truth—to speak from the heart about the things they care about. We do not seek novelty in our leaders, but knowledge, conviction, passion, integrity, common sense, and some fun. These are the things that I will try to deliver during these next few days. *** Of course, I’m no Pope, even though one of our veteran crew members thought that the analogy was fair: Note from a Veteran Vanguard Crew Member: YOU are Vanguard’s Pope. Your heart and soul has always been with Vanguard. No one knows what the future holds, but as long as you stay the course we here at Vanguard will strive to follow in your footsteps to keep Vanguard the best in the world. YOU are Vanguard’s Shepherd—past, present, and future—and may you always feel the presence of God with you! WHATEVER THE CASE, I’M STILL HERE . . .

But today, it has become a matter of enlightened self-interest to fully honor this lofty standard. ________________ The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Despite the Empty Chair. Ouch! Bloomberg Markets, April 2015 Forbes, June 2015 LET’S FIX THIS IMPRESSION . . . Still in the Empty Chair. Yes! Photoshopped by a Vanguard client, September 2015 NOW LET’S GET TO THE PAST YEAR . . . A Year in My Life … I. Books and Papers • Wiley Investment Classics: Two more books with new introductions – Bogle on Mutual Funds: New Perspectives for the Intelligent Investor – John Bogle on Investing: The First 50 Years • A Book Chapter: Adam Smith: His Life, Thought, and Legacy (Princeton University Press, forthcoming) • Articles in Professional Journals – Journal of Portfolio Management – Financial Analysts Journal START WITH THE CLASSICS . . .

5/4/2015 13. Actively Managed Fund Index Fund Expense Ratio 1.12% 0.06% Transaction Costs 0.50 0.00 Cash Drag 0.15 0.00 Sales Charges/Fees 0.50 0.00 All-In Expenses 2.27% 0.06% Tax Inefficiency 0.75 0.30 Total Costs 3.02% 0.36% Gross Return (assumed) 7.00% 7.00% Net Return 3.98% 6.64% Loss in Annual Return -2.66% “The Arithmetic of All-In Investment Expenses” Financial Analysts Journal Note: Counterproductive investor behavior (buying high and selling low) has historically reduced returns to active fund investors by another 1.5-2.0% annually according to Morningstar. 14. $248,890 $70,387 100,000 200,000 300,000 0 10 20 30 40 50 Index Fund (6.64%) Actively Managed Fund (3.98%) Years $ Growth of $10,000 over a 50-year investment lifetime The Miracle of Compounding Long-Term Returns Without the Tyranny of Compounding Long-Term Costs Impact of Compounding Costs on Wealth: Loss in Capital Accumulation: 75% 15. 0.8 1.9 2.5 2.1 1.1 1.8 1.3 0.05 1.0 0.07 1.3 0.09 Active Index Active Index Active Index Expense Ratio Net Yield to Investors U.S. Stock Funds Bond Funds Balanced Funds % 2.2% 1.9% 3.5% 2.1% 2.4% 1.9% Dividend Yields and Expense Ratios Source: Morningstar. Note: Index fund yields and expenses for Vanguard Admiral share classes. Percent of Income Consumed: Active Funds vs. Index Funds 62% 3% 29% 3% 54% 5% 16. Better than the Morningstar Rating System? “Investors should make expense ratios a primary test in fund selection.

5/4/2015 17. Large Blend Large Growth Large Value Mid-Cap Blend Mid-Cap Growth Mid-Cap Value Small Blend Small Growth Small Value Percentage of Active Funds Outpeforming Their Benchmarks 15 Years through 2014 Result: Underperformance 80% of Active Funds Underperform Over the Long Term Average: 20% Outperform Source: Vanguard, Morningstar. % 30% 14% 18. Rankings for the 5 years ending 2009 Where they ranked in the subsequent 5 years Quintile 5-Year Return* Number of Funds Highest Quintile Lowest Quintile Merged/ Closed 1 Highest 1,091 14% 24% 10% 2 High 1,083 12 16 22 3 Medium 1,084 15 13 26 4 Low 1,085 14 10 38 5 Lowest 1,032 14 9 45 Total 5,375 14% 14% 28% Lack of Persistence in Performance of Active Mutual Funds *Excess return vs. benchmark. Note: Number of failed funds—1,499 19. It’s Not Just Me… Fama French, 2010 “The 3% Solution” “…[G]oing forward we expect that a portfolio of low cost index funds will perform about as well as a portfolio of the top three percentiles of past active winners, and better than the rest of the active fund universe.” Source: “Luck versus Skill in the Cross-Section of Mutual Fund Returns,” The Journal of Finance, October 2010 20. Aren’t There Mutual Funds That Avoid These Problems? Yes, but not very many. Typical characteristics these funds share: 1. Managers, not marketers. 2. Reasonable expense ratios. 3. Low portfolio turnover. 4. Self-imposed stern limits on size. 5. Interim returns that may vary sharply from the market’s return. 6.

5/4/2015 21. “The Colossal Failure” “[T]he colossal failure of the mutual fund industry; resulting from [its] systematic exploitation of individual investors . . . extract[ing] enormous sums from investors in exchange for providing a shocking disservice. … Thievery, even when dressed in the cloak of SEC-approved governance, remains thievery . . . as the powerful financial services industry exploits vulnerable individual investors.” David Swensen, manager of Yale University’s endowment fund 22. “The vast majority of American families are sentenced to a lifetime of investing in the existing mutual fund penal system. But if they’re smart, they’ll do their time in an index fund.” John Bogle Grant’s “Great Debate” April 7, 2015 Mutual Funds Are the Only Practical Option for Individual Investors 23. Enter Vanguard “The Vanguard plan actually furthers the objectives [of the Investment Company Act of 1940] by ensuring that the Funds’ directors … are better able to evaluate the quality of services rendered to the funds … improved disclosure to shareholders … promotes savings from economies of scale … clearly enhances the Funds’ independence … provides them with conflict-free control over distribution … and promotes a healthy and viable fund complex within which each fund can better prosper.” (Unanimous decision, 1981) 24.

5/4/2015 29. 82% 56% 18% 72% 15% 21% 56% 19% 3% 23% 26% 9% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Equity Bond Balanced Total Active Virtual Index Index Note: “Virtual Index Fund” – R-Squared of 0.96 or higher relative to its best-fit index. Index Funds Dominate Vanguard’s Assets Percentage of Assets Under Management 30. -800 -600 -400 -200 1,000 2006 2010 2014 Index Active U.S. Equity Fund Cumulative Net Cash Flow, 2006-2014 Passive Index Funds versus Actively Managed Funds $ Billions of Dollars +$917 Billion -$597 Billion Source: Strategic Insight Simfund Cumulative Net Cash Flow into Index and Active Mutual Funds and ETFs 31. 2004 2009 2014 Mutual Funds Pension Funds 18% Indexing Market Share % 37% 26% 31% Source: Strategic Insight Simfund, Empirical Research Partners Index Strategies as a Percentage of Total U.S. Institutional Equity Assets Total Indexing Assets and Market Share 2004: 24% 2014: 32% 32. 1,000 10,000 100,000 1,000,000 10,000,000 1975 1985 1995 2005 2014 Active Index $6.4 Trillion $3.2 Trillion $10.6 Trillion $49B $1.1T $1.5T Millions of Dollars $ Growth of Equity Index Fund Assets Total Index Fund Assets 1995 2015 Annual Increase TIFs* $48B $1.63T +19% ETFs $1B $1.68T +45% Total $49B $3.31T +23% $4.5T

5/4/2015 33. Convergence! The Great Paradox: Just as Active Fund Management Becomes More and More Like Passive Indexing, So Passive Indexing Becomes More and More like Active Fund Management John C. Bogle “The Art of Indexing” Conference Washington, DC September 30, 2004 A Speech Title Sums It Up 34. First Index Mutual Fund (1974)—Principles • Own the U.S. stock market • Diversify to the Nth degree • Minimize transaction costs • Tiny expense ratio—500 Index: 0.05% (Admiral) • Bought to be held “forever” (redemption rate 10%) Exchange-Traded Index Funds (1993)—Principles • Pick your own index (1,100 now available) • Diversify within sector you chose • Lower expenses … but not too low (0.50%) • Bought to be traded (average annual turnover of large ETFs: 1244%) “What Have They Done to My Song, Ma?” Enter the Exchange-Traded Fund (ETF) 35. 725% 274% 319% 144% 524% 337% SPDR Gold Shares iShares Russell 2000 Vanguard S&P 500 ETF Vanguard FTSE Emerging Markets ETF Vanguard Total Stock Market ETF iShares MSCI EAFE iShares Core S&P 500 SPDR S&P 500 ETF 200 400 800 0 2600 4200% 2014 Dollar Turnover as a Percentage of Average Annual Assets Asset-Weighted Turnover, 20 Largest ETFs: 1244% 4274% 2724% ETF Turnover 36. ETFs—The New Way to Speculate 2014 Trading Volume 100 Largest Stocks: $18.6 Trillion 100 Largest ETFs: $15.7 Trillion 2014 Turnover Rate 100 Largest Stocks: 179% 100 Largest ETFs: 1428%

5/4/2015 37. Costs and Indexing— More Important than Ever -3% 4.5% 5% 4.5% 2% -4% -2% 0% 2% 4% 6% 8% 10% Historical Next 10 Years Dividend Yield Earnings Growth Speculative Return ? Gross Return 9% Gross Return 4% Historical Returns 9% -1 8% Active 4% -2 2% Index 4% -0.05 3.95% Prospective Gross Return Costs Net Return 38. What’s a Competitor to Vanguard to Do? What’s a race car driver to do when he’s in last position? • Increase speed—i.e., improve performance, more aggressive marketing, more money to distributors (a la life insurance) • Reduce friction—i.e., cut fees, cut staff, cut research • Copy the car in front—i.e., more indexing, less innovation • Get a new car—i.e., focus on other lines of business, recordkeeping, benefit plans, venture capital, limousine services, etc. 39. The “Golden Rule” of the ‘40 Act Put the Shareholder First! “… the national public interest and the interest of investors are adversely affected … when investment companies are organized, operated [and] managed … in the interest of directors, officers, investment advisers … [or] underwriters … rather than in the interest of … such companies’ security holders …” Investment Company Act of 1940, Section 1.B.2. 40.

A Year in My Life . . . II. Vanguard 2014 September 16 Washington, D.C.—Lead Witness, US Senate Finance Committee Hearing on Retirement System 18 PrimeCap 30th Anniversary Meeting with Principals. 22 NYC Bloomberg “Most Admired Investor” Forum (with AQR’s Cliff Asness). October 17 Speech, Easttown (PA) Library. 22-24 BOGLEHEADS XIII! 31 Speech, Georgetown Law School (D.C.). November 4 Visit from Georgetown Law Students. 13 Princeton/Federal Reserve Economics conference, with Paul Volcker. 14 Interview Session with Wharton Executive MBA Students. 20 Princeton—Business Ethics Seminar. December 16 Full day’s visit from Stanford MBA Class. 30 White House Staff Re: DOL Fiduciary Standards. 2015 January 16 Skype Interview, Durham Bogleheads. 26 Phone Meeting with White House Staff Re: Fiduciary Duty. 28 Phone Meeting with White House Staff Re: Fiduciary Duty. 29 Presentation: Committee for Fiduciary Responsibility. March 12 Jon Stein, Betterment (Robo Advisor) 17 Quarry Ridge (Vanguard) talk with Crew. Major Presentations and Events

that a 1966 fund merger, the catastrophic failure of one man’s career, would, in a matter of months, lead to the creation of Vanguard, or that during the 40-plus years that followed, this uniquely structured, fund- shareholder-owned firm would become the unquestioned leader of the mutual fund industry—now managing over $3 trillion of OPM. Or that the embodiment of its principal investment strategy—the index fund—would, simply by buying and holding the stocks of the largest companies in America, begin to change the very nature of finance? And on a far larger scale, who could have imagined the enormous consequences of the creation of IRAs (1974) and corporate thrift plans (1978)? The federal government’s loss of trillions of dollars in federal tax revenues by making these tax-deferred plans available to investors? The gradual displacement of defined benefit (DB) retirement plans by defined contribution (DC) plans? (Assets of DB plans now total $6 trillion; DC Plans and IRAs, $12 trillion or twice as large.) In the aggregate, the assets of these two distinct retirement systems alone come to $18 trillion—six times, for example, the assets of the Social Security Trust Fund. And who could have imagined that the ownership of stocks by institutional investors would rise from 10% in 1950 to 70% in 2015? Well, Peter Drucker did.

A Year in My Life . . . II. Vanguard April 7 NYC – “Great Debate” on Indexing, at publisher James Grant’s Forum. 16 Lecture, Aspen Institute, D.C. 20 Blair Academy—Speech to student assembly. 28 Lecture, SEC Enforcement Staff, D.C. May 6-7 ICI General Membership Meeting. June 4 Speech to the CFA Society of Philadelphia, “Putting Investors First.” July/August “Working Vacation” in Adirondacks. Editing book chapter on Adam Smith, AQR extended interview, and JPM papers, correspondence; DOL and Labor Secretary Perez on fiduciary duty rule; and more. September 24 Skype Interview, iMoney 29 SEC-Lead Presenter at 1940 Act 75th Anniversary Forum. October 2 Princeton Humanities Seminar. 7 Princeton Lecture on “Business Ethics and Modern Religious Thought.” 14-16 Bogleheads XIV! . . . . And the “Day-to-Day” Events: Awards for Excellence 21 TV Appearances 11 Client Visits 18 Crew/Team Meetings 84 PR Interviews 45 Speeches 32 TOTAL 211* *Oh, yeah. Also 17 appointments with doctors. And 40 physical therapy sessions. NOW LET’S TURN TO THE INDUSTRY . . .

5/4/2015 49. What’s All This about “Basis Points?” Jones v. Harris Associates Brief for John C. Bogle as Amicus Curiae in Support of Petitioners It is important to distinguish between the already-high rates (as a percentage of assets) that advisers charge and the even more excessive dollar amounts that are produced by those fee rates. It was the huge increase in mutual fund assets and, therefore, the amount of mutual fund fees, that concerned the SEC in 1966, since the cost of providing advisory services (essentially, managing an investment portfolio) rises far more slowly than the fees generated by taking a percentage of the increase in assets . Yet courts have generally acceded to the advisers’ desire to frame any debate about fees in percentage—not dollar—terms, thereby giving advisers a license to charge fees that are unjustifiable by any standard. 50. High-Priced Index Funds and Fiduciary Duty Fund Assets Expense Ratio Principal Large Cap S&P 500 Index $4.7 B 0.74% Voya US Stock Index 4.6 B 0.66 Columbia Large Cap Index 3.7 B 0.83 MM S&P 500 Index 3.6 B 0.68 Dreyfus S&P 500 Index 2.9 B 0.50 JP Morgan Equity Index* 1.9 B 1.20 Total (87 Funds) $19.3 B 0.85% Vanguard 500 Index-Admiral Shares $143 B 0.05% -Institutional Plus Shares $85 B 0.02% What were directors of these funds thinking? S&P 500 Index Funds with Expense Ratios of 0.40% or More * “A” series shares carry an expense ratio of 0.45% and a sales load of 5.25% 51.

Focus on appropriate asset allocations relative to each client’s investment goals. Focus on portfolio risk, for the day will come—indeed, I believe it is here now—when avoiding excessive risk is every bit as important as seeking high rewards. And whether you are an investment professional or a portfolio manager; an investment adviser to a large pool of capital or to the retirement plan of a beginning investor; a client or a trustee of a pension fund, endowment fund, or a philanthropy, mind your investment behavior! By which I mean, take the long view. Hold hope, greed, and fear—the three classic enemies of investment success—at bay. It is ever thus. Wrapping Up Yes, I’ve been saying these things for four-plus decades at Vanguard and for almost a quarter- century before that at Wellington Management Company, under the tutelage of my great mentor Walter Morgan. Indeed, these ideas appear in that idealistic thesis on the fund industry I wrote at Princeton University during 1949-51. Dare I say that they have stood the test of time.

Changes in Mutual Fund Leadership: Then and Now Rank 1951 Fund Name Total Assets* (Millions) 2015 Manager Name Total Assets (Billions) 1 M.I.T. $472 Vanguard $2,988 2 Investors Mutual 365 Fidelity 1,615 3 Keystone Funds 213 BlackRock 1,230 4 Tri-Continental 209 American Funds 1,216 5 Affiliated Funds 209 JPMorgan Funds 519 6 Wellington Fund 194 State Street Global 497 7 Dividend Shares 186 T Rowe Price 493 8 Fundamental Investors 179 Franklin Templeton 480 9 State Street Investment 106 PIMCO 375 10 Boston Fund 106 Federated 272 Total $2,239 Total $9,686 Percentage of Industry 72% Percentage of Industry 57% Total industry assets: $3.1 billion. Total industry assets: $16.9 trillion *Includes associated funds. ** ** ** ** No longer in business. ***New leaders. *** *** *** *** *** THE NUMBER OF FUNDS EXPLODES . . .

Number of Funds—1951 & Today Original Name Total Assets (Millions) No. of Funds Managed Current Name Total Assets (Billions) No. of Funds Managed M.I.T. $472 2 MFS $180 78 Investors Mutual 365 3 Columbia 165 116 Affiliated 209 3 Lord Abbett 108 37 Wellington 194 1 Vanguard 2,988 140 Eaton & Howard 90 2 Eaton Vance 101 130 Fidelity 64 1 Fidelity 1,615 321 Putnam 52 1 Putnam 81 77 American 27 2 American 1216 35 T. Rowe Price 1 1 T. Rowe Price 493 116 Dreyfus 0.8 1 Dreyfus 248 151 Total/Average $1,475 1.7 Total/Average $7,195 120 2014 1951 Major Mutual Fund Groups

Large Blend Large Growth Large Value Mid-Cap Blend Mid-Cap Growth Mid-Cap Value Small Blend Small Growth Small Value Percentage of Active Funds Outpeforming Their Benchmarks 15 Years through 2014 Do You Like These Odds? Average: 20% Outperform Source: Vanguard, Morningstar. % 30% 14% AND SO, THE TRIUMPH OF INDEXING . . . -100 -50 Series2 Series1 $ Vanguard Dominates Industry Cash Flow Mutual Fund Industry Net Cash Flow YTD Through August 2015 Vanguard +$168 Billion All Other Firms -$48 Billion Vanguard accounted for 141% of the mutual fund industry’s year-to-date net cash flow through August 2015 Industry Total $119 Billion OUR CASH FLOW EXPLODES . . .

-50 1988 1995 2000 2005 2010 2015* Index Stock and Bond Funds Active Stock and Bond Funds Money Market Funds Vanguard Cash Flow, 1988 – 2015 Annually, in billions $ Billions of Dollars *Annualized based on actual data through 8/2015. $251B $4B $18B $57B $46B $58B $100B DRIVEN BY INDEX FUNDS . . . -500 1,000 1,500 2,000 2000 2005 2010 2015 "The Indexers" Vanguard, BlackRock, and State Street The Rest of the Industry The Triumph of Indexing: Rolling 3-Year Net Cash Flow $ Billions of dollars Net Cash Flow 2009-2015 $1.3 T -$4.5 B RESULT: COMPETITION’S LEFT IN THE DUST . . . SO FAR . . .

Largest Total Institutional Annualized Annualized ETF Sponsors Assets Ownership Turnover Turnover % BlackRock $809 B 62% $4,910 B 606% Vanguard 469 43 908 193 State Street Global 409 63 8,692 2,122 Total $1,687 B 56% $14,510 B 859% Most Active ETF Sponsors PowerShares $97 B 40% $928 B 953% ProShares 25 12 873 3,444 Direxion 9 5 506 5,551 VelocityShares 3 7 299 10,308 Total $134 B 16% $2,606 B 1,936% All ETFs Are Not the Same Assets, Institutional Ownership, and Turnover TIFs MAY HAVE CLOSE “ACTIVE” COUNTERPARTS . . .

Vanguard Fund Correlations The Triumph of Indexing (and Virtual Indexing) R2: The percentage of a fund’s return explained by the return of its best-fit index. Fund Name R2 (10-Year) R2 (3-Year)* Index Funds Total Stock Market Index 1.00 1.00 Total Bond Market Index 0.99 0.99 Active Funds STAR Fund 0.99 0.99 Explorer Fund 0.99 0.97 Wellington Fund 0.97 0.97 Intermediate-Term Tax-Exempt 0.97 0.99 Windsor Fund 0.95 0.94 PRIMECAP Fund 0.93 0.88 Health Care Fund 0.92 0.90 Average Vanguard Active Equity Fund 0.95 0.93 Average Industry Active Equity Fund 0.88 0.79 In 1974, “Relative Predictability.” Now, “High R2.”

Note: “Virtual Index Fund” – R-Squared of 0.96 or higher relative to best-fit index. “Relative Predictability” Dominates Vanguard’s Asset Base 91% of Vanguard’s Assets Have High Relative Predictability (Average pre-cost returns . . . superior post-cost returns) Index Funds Virtual Index Funds 19% Active Funds 9% NOW LET’S LOOK AHEAD AT FUTURE RETURNS ON STOCKS AND BONDS . . .

Financial Reform: Investment Standards and Ethical Values By John C. Bogle, founder of Vanguard before The Community Forum Distinguished Lecture Series of The Bryn Mawr Presbyterian Church Bryn Mawr, PA April 28, 2014 I last addressed this Forum eleven years ago. Since then, we’ve all seen remarkable changes in business, commerce, and finance in our nation . . . too many of them, alas, leading us in the wrong direction. Even worse, I think, is our failure to take significant steps to deal with the challenges that I outlined in those earlier remarks, entitled “What Went Wrong in Corporate America?” Then, my primary theme was the ascendance of a “bottom-line society” in our nation—measuring America’s success by our national output, our stock market, the earnings of our corporations, the strength of our businesses, our high standard of living, and the wealth—however unevenly divided—of our citizenry. I concluded that we were measuring “the wrong bottom line—form over substance, prestige over virtue, money over achievement, charisma over character, the ephemeral over the enduring.” While that flawed “bottom-line society” remains dominant, tonight I’ll focus on how it has affected our nation’s financial sector, and distorted the interplay between the investment standards and the ethical values that now prevail in our world of finance. Both these standards and these values have deteriorated even further since last I spoke in this sanctuary.

Values, Ethics, and Structure in Finance Remarks by John C. Bogle, Vanguard Founder Keynote Speech The Public-Private Partnership Symposium Georgetown School of Law Washington, D.C. October 31, 2014 I’m delighted to have this opportunity to address this symposium on “Structuring Public-Private Partnerships for Asset Management and Co-Investment,” focused on values and ethics. As I review the impressive backgrounds of each of you participants, I’m honored by your presence here today. I’m familiar with—and I applaud—the incipient development of P3s, but have little first-hand experience in that area. But I have more than 63 years of experience in our nation’s financial sector, and have a strong foundation of beliefs about its values, ethics, and structure that are also applicable to public- private partnerships. As some of you may know, much of my recent work has focused on the flaws that have developed in the American financial system in general, and specifically in the field of institutional money management. No mean problem, since our institutional managers collectively hold some $13 trillion of U.S. stocks—65% of the shares of virtually every publicly held corporation. These managers—largely mutual funds (the major holder), public and private defined benefit (DB) pension plans, and private defined contribution (DC) thrift and savings plans—have the power to change corporate behavior for the better. So far, however, their massive collective power remains largely unexercised.

consumers (“Main Street”).1 Asset managers such as Vanguard ought to be, not in the business of selling products, but in the profession of managing other people’s money. Today, the goals and values of those powerful institutional asset managers are shaped by a structure in which their owners—private and public stockholders, now, regrettably, dominated by financial conglomerates—seek to earn returns on their own capital, rather than the capital that has been entrusted to their care by their clients. In such a structure, conflicts of interest abound. Stewardship is too often trumped by salesmanship, and management is trumped by marketing. In the mutual fund field, the interests of the managers’ stockholders conflict with the interests of the managers’ fund shareholders, and it is the manager who is the master that wins. As it is said in the Bible, “no man can serve two masters.” Today, our financial sector wantonly ignores that ancient precept. Going Back in History Speaking out against such an obvious structural flaw is hardly new territory for me. Way back in 1971,2 almost a half-century ago, in remarks before Wellington Management’s partners, I despaired over the trend toward public ownership of investment institutions: It is hard to see what unique contribution public investors bring to the enterprise. They do not, as a rule, add capital; they do not add expertise; they do not contribute to the well-being of our clients.

Indeed, it is possible to envision circumstances in which the pressure for earnings and earnings growth engendered by public ownership is antithetical to the responsible operation of a professional organization. Honestly, I could hardly say it better today. In his foreword to the first edition of my book Common Sense on Mutual Funds (1999), now 15 years ago, legendary financial economist Peter L. Bernstein shared my concern: 1 When I was running Vanguard, I banned the use of the word “product.” In my view, it is businesses such as toothpaste, beer, and cars that are in business to sell their products. 2 Wellington Management had itself “gone public” in 1960.

When our proudest professions shift their balance away from trustworthy service to the community and toward becoming commercial enterprises that seek competitive advantage and aimed at making money, the human beings in our society who rely on those services are the losers. Vanguard – The Story of a New Structure Ironically, while my concerns about our financial system began early in my career, I was able to resolve my dilemma by departing from the flawed structure that developed in the mutual fund industry. It all began in the mid-1960s, now a half-century ago. Then, the public ownership structure of institutional money managers that would come to overwhelm the earlier private ownership structure was just beginning. At the same time, the so-called “Go-Go Era” in the stock market was also just beginning. That dynamic (in the worst sense) combination changed the once-sound character of the mutual fund industry—then largely composed of middle-of-the- road equity funds investing for the long-term, holding portfolios of “blue chip” stocks. (Total fund assets in 1965 were but $35 billion.) Those near-contemporaneous changes in fund management structure and in fund investment strategy combined to seriously erode the industry’s founding values and traditional ethics of trusteeship.

” Flash Boys But no, the temptation to speculate will never be stamped out. During the second century B.C.(!) the Roman orator Cato warned about speculation by investors, but it remains with us to this day . . . only far more widespread. You’re doubtless familiar with the most recent and surely the most prominent example of the problem, presented in Michael Lewis’s new best-seller Flash Boys, with its powerful public- relations onslaught. The book’s remarkable success reaffirms that well-written polemics by proven authors fly off the shelves, while balanced studies of controversial subjects rarely sell books. Despite Flash Boy’s scathing (and partially accurate) criticisms, high frequency trading (HFT) of stocks is not going away. To be sure, much is required to ensure that HFT operates fairly and in the public interest—timely and full reporting of all stock trades; regular financial statements from those new HFT exchanges; regulatory enforcement against insider trading and front-running, new rules against playing games by entering transaction orders and quickly cancelling them. But HFT is not all bad. It has helped shrink 4 Please forgive my mixing of the sacred and the profane. In this talk, I’ll cite the Bible three more times. 5 Here I exclude the Vanguard funds, whose expense ratios plummeted from 0.55% to 0.17%, down almost 70%.

Yes, events—perhaps even wisdom—were soon to reinforce my view of the appropriate structure for the fund industry, and to do something about it. First, I jumped on the Go-Go bandwagon, merging Philadelphia’s Wellington Management with a hot new fund manager from Boston. That horrible misjudgment was a monument to my sheer stupidity; to my naiveté; to my eagerness, even willingness, to ignore the lessons of financial history; to my (now-long-gone) focus on marketing; and in candor, to my interest in increasing the earnings and market value of then publicly held Wellington Management Company—largely owned by founder Walter Morgan, who had named me his successor in 1967. I was the Fund’s chief executive, and I had made an awful mistake . . . and paid for it. On January 23, 1974, I was fired by my new Go-Go partners of Wellington Management Company, adviser to the mutual funds we had ostensibly controlled. Strategy Follows Structure But the separate and largely independent boards of the Wellington mutual funds decided to keep me on as their chief. After a bitter struggle that lasted for eight months, the funds declared their independence from Wellington Management, and Vanguard was created. As I’ve often said, “strategy follows structure.” Vanguard’s unique, client-owned, truly mutual structure naturally led to—even demanded—a strategy that held the costs of investing to the bare minimum and allowed investors to keep their fair share of the market’s return.

transaction costs to a bare minimum; produced greater liquidity, and improved (perhaps only slightly) price discovery and greater market efficiency for professional investors. That’s all to the good. But the huge risks of a technology breakdown in our increasingly computerized stock market remains hidden out there, beyond the horizon. In our data-intensive, speed-driven society, yes, HFT is here to stay. ETF Toys I find it both astonishing and deeply discouraging that index funds have become one more example of the apparently irresistible impulse of investors to speculate. Imagine! In 1975, Vanguard created the world’s first index mutual fund, following this elemental strategy: (1) buy and hold all of the stocks in the Standard & Poor’s 500 Index; (2) operate at rock-bottom cost; and (3) attract long-term investors who wish to hold the stock market portfolio, well, forever. Those original sensible strategies of indexing have reshaped investing in a highly positive way for long-term investors. But the exchange-traded index fund (ETF) is the antithesis of that third key to index success—holding the market forever. Formed in 1991,6 the first ETF was also based on the S&P 500, but with the added “feature”—embodied in its advertising slogan—that its shares could be “traded all day long, in real time.” (I’m not making this up!) With $160 billion of assets, the so-called “SPY” is now the world’s largest ETF.

Here, of course, I’m speaking of the world’s first index mutual fund—Vanguard’s disruptive innovation that would ultimately reshape the mutual fund industry. We had tough going at first. Vanguard suffered huge net cash outflows in each of our first four years of existence, and the IPO of that first index fund was virtually ignored—not even raising enough money to buy round lots of each stock in the S&P 500. But investors eventually took notice and came around to the Vanguard way of investing. Today, our asset base is dominated by index funds (71% ,but another 25% is composed of virtual index funds) which, while “actively managed,” are designed to deliver returns that are closely linked to their relevant market sectors. (Together, that’s 96% of our asset base.) When Vanguard was founded in 1974, we supervised just $1.4 billion of OPM. Today, we manage over $3 trillion worldwide.in

the U.S. was less than 6% at the outset. It has now grown to over 18% today—a dominant level, one without precedent in the industry. Introspection, the Crucial Ingredient I lack many of the talents (and resources!) of today’s financial leaders. They are often sharp businessmen, focused, laser-like, to produce ever higher revenues and profits; driven to achieve dominant market shares in the products and services that they offer; stereotypically desperate to be rewarded with higher compensation than their peer chief executives; too often imperious and demanding; extroverted and self-confident. (I’m sure that most of you here have observed this paradigmatic model of the “CEO.”) That just isn’t me. Pity! Yes, when I led Vanguard, I led with an iron hand (sometimes with, sometimes without, a velvet glove). But I knew that I had “ENOUGH!” (the title of my sixth book). I don’t like to spend money (especially our shareholders’ money!) I revel in being with our crew (up from 28 in 1974 to 16,000 forty years later), and find no greater reward then when we roll up our sleeves together, work like blazes, and celebrate our achievements with joy. But I have—or believe that I have—one quality that my peers may lack, or at least keep deeply hidden: Introspection.

It is also the most widely traded stock in the world, averaging more than $20 billion of trading volume every day! Compared to 290 traditional index funds (TIFs),7 there are now 1,500 ETF index funds. With $2.1 trillion of assets, U.S. ETFs are now actually a tad larger than their TIF progenitors, and more of these new toys for investor speculation are created every week. The lesson: Never underestimate the power of a hot new marketing innovation (or, here, one-half an innovation). Paraphrasing H. L. Mencken, “no fund marketer ever went broke by underestimating the intelligence of the American investor.” You will hardly be surprised to know that when index funds are designed and used for short-term speculation, I am not amused. 6 The late Nathan Most was the creator of the first ETF. In 1991, he came to my office with an offer to partner with Vanguard in implementing his new concept. I declined the offer. Despite the SPY’s remarkable growth, I have zero regrets about that decision. 7 I created this acronym to simplify the distinction between the two types of index funds.

According to the definition in Volume VIII of the Oxford English Dictionary—all 18 volumes of which repose a few steps from my office—introspection is “the action of looking into, or under the surface of things, especially with the mind . . . self-examination . . .” In my view, introspection is looking at a business structure and thinking, shouldn’t the structure fit the business? Shouldn’t the strategy follow the structure? Shouldn’t the firm serve its clients? Shouldn’t it serve society? Isn’t there a better way to accomplish the mission? Those were among many questions that I asked myself, and Vanguard was my answer. Few have described these issues better than Philipp Hildebrand, vice-chairman of BlackRock and former head of the Swiss National Bank. As a speaker on a distinguished panel at the “Future of Finance” conference held by the International Monetary Fund on October 12, 2014,5 he faulted “our collective 5 In addition to Philipp Hildebrand, the distinguished panel included Mark Carney, Governor of the Bank of England; Christine Lagarde, Managing Director of the IMF; Kok-Song Ng, Chair of Global Investments for the Government of Singapore Investment Corporation; and Reverend Justin Welby, Archbishop of Canterbury.

political favoritism and contractors who submit low bids knowing full well that the inevitable changes in specifications leave the door wide open for huge increases in costs.6 It also means that states and local governments must develop the technical capacity and expertise to enter the P3 arena, and to protect the public interest. “Hell hath no fury like a taxpayer whose interests are not placed front-and-center.” What is the optimal structure for implementing these contractual agreements between governments and the private sector to design, build, operate, maintain, and finance the coming tsunami of essential improvements in infrastructure? As I have often said about Vanguard’s structure and strategy, “ideas are a dime a dozen; implementation is everything.” And so it is with public-private partnerships. I would go far beyond my own experience and expertise in a field distinctly different ffrom my own to speculate on the optimal means of implementing the complex arrangements that characterize P3s, while at the same time fully protecting the public interest. But in my earlier remarks, I’ve done my best to set forth the issues surrounding the professional ethics and values that are essential to my own area of expertise, the financial sector in which I have spent my entire career.

Further, for the long-term investor who wakes up and smells the roses, there are options among mutual funds that have themselves defied these baneful trends toward excessive portfolio turnover and investment advisory fees and other mutual fund marketing and operating costs that have reached confiscatory levels. A Few Words About Vanguard Vanguard was created way back in 1974 —long before the ascendance of the trends I have described—and decried—this evening. Vanguard was designed to serve the consumer, just as Adam Smith demanded. Now, with some reluctance on my part, I’ll now “talk my own book,” as the saying goes, with a few comments on Vanguard’s role in our financial system. In every line of endeavor, I believe, we need at least one firm that says, in effect, “we see what you’re doing, and we think that we can do it better, and serve the customer with better products and better services, at lower prices, and with greater efficiency.” The net result is that our shockingly disruptive innovations—Quaker-like in their Thrift and Simplicity—revolutionized the field of finance, to the benefit of investors.

We became the first client-owned, truly mutual mutual fund firm, with our non-traditional structure—a structure yet to be copied by our rivals. Why mutual? While I didn’t come across this biblical message in John 10 until many years after we began, it sets forth our defining principle: the shepherd takes better care of the sheep that he owns than the hired hand. Paraphrasing John: “when the hired hand sees the wolf coming and flees, the wolf snatches the sheep, for he cares nothing for them.” Similarly, Vanguard’s shareholders actually own their fund management company, rather than hiring an outside firm and ceding control of their assets. Therein lies a world of difference. (No, the Vanguard structure is not perfect—just the best I could do at the time.) Quaker Values Our very structure led to the obvious: a primary focus on the principles of thrift and simplicity, designed to reduce to the practical minimum the costs of investing for our shareholders. As to thrift, we soon became the low-cost provider in an industry in which cost is everything. (Our 1977 decision to eliminate all sales loads and brokerage commissions—which allowed those who sought “a better mousetrap” to beat a path to our doors—was a product of that same thrift-oriented attitude.) As to simplicity, our creation of the world’s first stock-market-index mutual fund in 1975, and the first defined-maturity series of bond mutual funds in 1977 (long-term, short-term, intermediate-term . . .

to meet our nation’s compelling infrastructure needs, and the optimal means to finance them, let’s keep the relationship between structure and strategy on the one hand, and ethics and values on the other, at the forefront of our thinking. Yes, the structure and values of our financial sector have set a bad example. But the cheapest way to learn is to learn from the mistakes of others. We must embrace the illuminating glow of sunlight that will inspire us to realize a brighter future, rather than the flicker of light from the fire in the cave that until now has transfixed us and dominated our values and perspectives.7 Build your own bank of information. Form your own opinions. Stress test all models. Calculate all risks. Challenge, well, everything. As I say at Vanguard, “for God’s sake, give judgment at least a fighting chance to triumph over process.” Think through your work with the deepest introspection that you can command. 7 Those of you who are familiar with Plato’s “Allegory of the Cave” will know exactly what I’m talking about.

investors choose whichever meets their needs) reflect not only Thrift, but Simplicity. We built into our structure the priceless value of Thoreau-like simplicity: the broadest possible diversification, the lowest possible portfolio turnover, and (of course) a minimum of financial complexity. We recognized even then, well before its time, the reality that in the mutual fund industry, investors as a group do not get what they pay for; they get precisely what they don’t pay for. Therefore, if they pay (almost) nothing, they get (almost) everything. Despite that obvious (and winning) strategy, it took a decade of disappointments, setbacks, and failures to fully engage the trust—and attract the assets—of investors. Not until the late 1980s did the turn finally come. The increasing momentum that followed would, by 2009, make Vanguard the largest firm in our field. (That is hardly bragging on my part. I remain nervous about our giant size and the challenges of managing $2 ½ trillion of Other People’s Money.) Driven largely by our index funds and funds with index-like investment strategies, our growth still leads the field. While about 20 percent of mutual fund investors hold Vanguard fund shares, in recent years we have accounted for some 40 percent of the total net cash flows into the entire mutual fund industry.

The U.S. Financial System: Look Out! Change Is Coming. The G.S. Beckwith Gilbert ’63 Lecture by John C. Bogle, ’51, Founder of The Vanguard Group Princeton University February 21, 2013 I’m honored to be invited to present the 2013 Gilbert Lecture, whose sponsor, Beckwith Gilbert, Princeton Class of 1963, sought “to bring innovative leaders in business, government, and the professions to discuss their ventures and the insights gained in their careers.” About two-thirds of my remarks deal with the pros and cons of innovation in the financial services field and the new values of our market system, with the remaining one-third directed—primarily to Princeton undergraduates—to some lessons I’ve learned and insights I’ve gained over my sixty-one year career. As I’ll momentarily note, I have tried to do my best, not only to develop innovations designed to serve investors, but to have the temerity to challenge the fundamental tenets that my industry holds dear. As Nobel Laureate Paul Samuelson wrote in his introduction to my first book (Bogle on Mutual Funds, 1994), I had “changed a basic industry in the optimal direction. Of very few can this be said.” Time, as you will soon learn, has proved that Dr. Samuelson’s insight was well founded, and the five major innovations that I’ve been responsible for developing have set the stage for radical changes in our industry and in our financial system. The impact of those changes is now accelerating, and more change is coming.

“BIG MONEY IN BOSTON” . . . The Commercialization of the “Mutual” Fund Industry Remarks by John C. Bogle, Founder and Former Chairman, The Vanguard Group1 Before The Boston Security Analysts Society, Inc. May 17, 2013 You could say, with accuracy, that I’ve been preparing to tell this story for more than 63 years, and I thought it only proper to tell it here in Boston. My preparation began in December, 1949, a long, long time ago. Then, almost halfway through my junior year at Princeton University, I was in the reading room of the newly built Firestone Library, trying to keep up with current developments in Economics, my major study. I was reading the December issue of FORTUNE magazine. When I turned to page 116, there was an article entitled “Big Money in Boston.” Exhibit 1. That serendipitous moment would shape my entire career and life. 1. 1 The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

So, as my title warns, Look Out! Change Is Coming. Five Innovations The creation of Vanguard in 1974 was, most importantly, an experiment in the search for an organizational structure that would focus on placing the interests of fund investors ahead of the interests ____________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

of their money managers. To accomplish that goal, this tiny new organization—managing but $1-billion- plus and with only 28 employees (we call them crewmembers)—employed a mutual structure, in which the (truly) mutual funds and their shareholders would own and control their own management company, which would operate at cost. The Vanguard Experiment in fund governance, then, began with a unique structure that had never before been tested or tried. 1974. Innovation # 1. Next, our investment strategy would be focused on the fact—confirmed by volumes of independent data, again and again—that beating the market is a zero-sum game for investors. Why? Simply because the average manager must, by elementary arithmetic, be average. Money managers, as a group, must provide the market return, for after all, they are the market. But that return comes only before their exorbitant fees, operating expenses, and portfolio turnover costs are deducted. So, after absorbing the burden of those costs, the average manager must—and will—lose to the market. The zero-sum game before costs becomes a loser’s game after costs. For the cognoscenti, fund managers in aggregate produce zero Alpha before those costs, but negative Alpha after the costs of financial intermediation are deducted. So, the first decision of the newly-formed Vanguard Group was to create the world’s first market index mutual fund, an idea that I had hinted at in my Princeton senior thesis of a quarter-century earlier.

By owning the entire stock market (or almost all of it) and eliminating about 95 percent of the frictional costs of investing, Vanguard 500 Index Fund would be guaranteed to beat the returns earned by financial managers in the aggregate. Our Index Fund was formed in 1975 and, after a pathetically small IPO—$11 million—was offered to investors a year later. 1975 and 1976. Innovation # 2. At the outset, our mutual funds, like almost all others, carried substantial sales loads. Like their peers, they were offered to investors via our wholesale distributor through a network of stockbrokers. Now that the fund industry had begun to mature, it seemed obvious that the U.S. investing public— growing older and better-educated, and hence more cost-conscious—would someday easily support a no- load framework, with funds directly offered to investors. So we eliminated those pesky sales loads and abandoned our distribution system—the first firm to take this daring step. We did it only after much consideration of the huge risks involved, and without prior notice. February 1977. Innovation # 3.

During the 1975-1985 era, following the devastating 50 percent stock market crash of 1973-1974, the prime focus of the industry shifted from stock funds to money market and bond funds. To carve out a competitive niche—with the realization that the “costs matter” principle applies in all asset categories— we established the first municipal bond mutual funds holding portfolios with strictly defined-maturities. Our long-term, intermediate-term, and short-term offerings (unique, but hardly the triumph of amazing brilliance!) quickly changed the structure of the entire bond fund sector. A new framework for bond management had emerged. August 1977. Innovation # 4. One of the crushing failures that preceded Vanguard’s formation was the abject failure of Wellington Fund. New managers had turned this classic conservative balanced fund, founded by Walter L. Morgan, Princeton Class of 1925, into a type of aggressive stock fund. In the1974 market crash— which was wholly predictable—Wellington flamed out, its hard-earned reputation shattered. By 1978, with the substantial demands of implementing those first four innovations behind us, it was time to turn to the task of restoring Wellington Fund to its earlier eminence. Not only returning it to its traditional balanced portfolio (65/35 stocks/bonds), but giving it a new focus—a focus on a specific and clear dividend objective.

The new, higher dividend would be earned by emphasis on more stable, income- producing value stocks, rather than on volatile, low-yielding growth stocks. It has worked splendidly, and shareholders have rejoined the fund in droves. Taking Wellington back to its roots but adding a specific dividend objective led to its renaissance. 1978. Innovation #5.1 How Have Our Innovations Worked Out? So, innovation has been the key to Vanguard’s remarkable growth. Let’s measure the results of each of those innovations: 1. Our mutual at-cost structure (combined with our extraordinary growth) has enabled us to slash our complex-wide expense ratio (expenses as a percent of assets) to less than 20/100 of 1 percent, fully 80 percent below the 1 percent industry norm, now saving our investors a cool $17 billion annually. 2. Our index innovation has changed the world of finance. Index funds now constitute fully 28 percent of equity fund assets, and assets of that original Vanguard 500 Index Fund have grown to $250 billion. Its sister fund, Vanguard Total Stock Market Index Fund also totals $250 billion, and assets of all of our index funds combined now total $1.3 trillion. 3. Our no-load (non-distribution) system last year produced a net cash inflow from investors of $142 billion, the largest inflow in the fund industry’s 1 Really a reverse innovation. But it saved the day.

history. 4. Our bond fund asset base—some $550 billion—is the industry’s largest. And 5. Wellington Fund’s assets, which had tumbled by some 75 percent—from $2.1 billion to $475 million—in the early 1970’s market crash, have soared to $68 billion. Together, these innovations remain at the heart of Vanguard today. Combining the impact of these five major innovations along with other smaller innovations, Vanguard’s mutual fund assets under management now total $2.1 trillion, the largest fund complex in the world.2 (Please forgive the bragging, but the data are the data.) Our market share has risen to about 17 percent of the assets of all stock and bond funds, a commanding market share, the largest in industry history. The Vanguard Experiment that began in 1974 has become the Vanguard triumph of 2013. Why? Simply because it has served investors well. Interestingly enough, I’ve been preaching that message of reform for mutual funds for my entire 61-year career beginning with the idealistic principles that I articulated in my 1951 Princeton senior thesis on the mutual fund industry, entitled “The Economic Role of the Investment Company.” Here are some brief excerpts: [Mutual funds] should be operated in the most efficient, honest, and economical way possible . . . Future growth can be maximized by reducing sales charges and management fees . . . Funds can make no claim to superiority over the market averages (indexes) . . .

the principal function of investment companies is the management of [their]investment portfolios. Everything else is incidental . . . The principal role of the mutual fund should be to serve its shareholders. What should one make of these words? An intelligent design for the new structure of fund management that was created when I founded Vanguard in 1974? The idealistic ruminations of an immature and inexperienced college senior? Something in between? I’ll let you decide. But all through my career I have talked that talk, and through Vanguard, walked that walk, focusing on serving all of those honest-to-God, down-to-earth, individual human beings who have entrusted us to manage their 2 A sort-of catty aside. (Sorry ‘bout that!) Our tacit rival, Fidelity, has felt the pain. Some 50 percent larger than Vanguard at the turn of the century—by $250 billion—Fidelity now lags Vanguard by $650 billion. (Despite all of those intrusive and expensive “green path” commercials.)

assets, each with his or her own hopes and fears and financial goals. Isn’t that what managing other people’s money—a fiduciary duty—should be all about? “The Optimal Direction” Although the remarkable growth of this organization has earned us our position as first in the industry in investor trust and respect, Vanguard has become the firm that our competitors love to hate. Despite moving the industry in “the optimal direction” for investors—Dr. Samuelson’s words—not a single one of our competitors has changed its conflict-ridden structure to a mutual structure. Doing so, of course, would be ruinous to the wealth of their managers and their public shareholders, to say nothing of the detriment of the financial conglomerates that own them. (40 of the 50 largest fund complexes are publicly held; only 10 remain private.) But if the Vanguard example has so far failed to change the self-serving structure of the mutual fund industry, we have surely changed the industry at the margin. Those who have copied our strategies of indexing and bond fund management have had to at least pay lip service to cost-control, for the essential difference between funds tracking the same index is simply the difference in costs. (Obviously, low costs serve the fund investor; high costs serve the fund manager.) But a dramatic change is underway. Investors have begun to look after their own interests, as if by an invisible hand, they are improving the interests of society. Adam Smith strikes again!

Further, many commentators credit Vanguard for keeping downward pressure on excessive fees and other fund costs—the so-called “Vanguard effect”—staring down those who would make a bad situation worse. Exchange-traded funds (ETFs)—now itself a trillion dollar business—owe their very existence to Vanguard’s innovations in the burgeoning index fund field. Yes, ETFs are, in fact, index funds, with the “bonus” (to what avail?) of providing investors the ability to “trade the S&P 500 Index all day long, in real time” (as their early promotional ads said). But ETFs have in fact provided another no-load alternative for fund owners, a trend that is only now accelerating. The fact is that ETF portfolios have tiny turnover (a big plus, despite the huge turnover of their own shares among those aggressive, largely institutional investors who trade them).costs,

(Fidelity once managed just a single fund; the firm now manages 294 funds. Similarly, Vanguard also began the period with a single fund, and is now responsible for 140 funds. One can only trust that each member of the board of directors—in both cases—takes seriously his or her fiduciary duty to know and to understand each one of the scores of funds under the board’s aegis.)

Number of Funds—1951 & Today 8. Original Name Total Assets (million) No. of Funds Managed Current Name Total Assets (billion) No. of Funds Managed M.I.T. $472 2 MFS $128 80 Investors Mutual 365 3 Columbia 162 116 Affiliated 209 3 Lord Abbett 97 38 Wellington 194 1 Vanguard 2,136 140 Eaton & Howard 90 2 Eaton Vance 107 139 Fidelity 64 1 Fidelity 1,372 294 Putnam 52 1 Putnam 59 76 American 27 2 American 994 33 T. Rowe Price 1 1 T. Rowe Price 375 106 Dreyfus 0.8 1 Dreyfus 228 152 Total/Average $1,475 1.7 Total/Average $5,658 117 2013 1951 Major Mutual Fund Groups Note: 12 of today’s 20 largest firms did not exist (or did not manage mutual funds) in 1951, including BlackRock, PIMCO, State Street Global, and JP Morgan With the rise of all of that product proliferation, the fund industry has come to suffer a rate of fund failures without precedent. Back in the 1960s, about 1 percent of funds disappeared each year, about 10 percent over the decade. By 2001-2012, however, the failure rate of funds had soared seven-fold, to 7 percent per year, during that entire period, 90 percent. With about 6,500 mutual funds, 5,500 have been liquidated or merged in other funds, almost always into members of the same fund family (with more imposing past records!) Assuming (as I do) that such a failure rate will persist over the coming decade, some 3,500 of today’s 5,000 equity funds will no longer exist—the death of more than one fund on every business day.

While the mutual fund industry proudly posits that its mutual funds are designed for long-term investors, how can one invest for the long term in funds that may exist only for the short term? Another implication of proliferation is the extraordinary (and, again, truly absurd) rise in expense ratios. Just consider eight of the major fund managers of 1951 that survive today. Exhibit 9. Despite the quantum growth in the assets they manage, the expense ratios of their funds have soared—from an average of 0.62 percent of assets to 1.15 percent, or by 84 percent. (Note that four of the largest fee increases came in firms that were publicly-owned.) By contrast, the only mutually-owned firm (of course, Vanguard) actually drove expenses down from 0.55 percent to 0.17 percent, a drop in unit costs of fully 69 percent. Look.of

funds that operate under the original industry model rise by 84 percent, and the expense ratio of one fund group that operates under a new business model falls by 69 percent, it is at least possible that there’s a message there. Mutual Fund Expense Ratios 1951 & 2013 Percent of Assets Percent Change +220% +121% +108% +98% +65% +62% +53% +17% +84% -69% 0.42 0.56 0.64 0.66 0.63 0.50 0.75 0.84 0.62 0.55 1.33 1.23 1.32 1.31 1.04 0.81 1.14 0.98 1.15 0.17 0.00 0.20 0.40 0.60 0.80 1.00 1.20 1.40 MIT/MFS (c) Investors Mutual/Columbia (c) Eaton Howard/Eaton Vance (sh) Putnam (c) Fidelity (p) T. Rowe Price (sh) Affiliated/Lord Abbett (p) American (p) Average (ex. Vanguard) Wellington/Vanguard (m) Ownership Type: (c) conglomerate; (sh) public shareholders; (p) private; (m) mutual 9. The data in the chart are comprised of fund expense ratios unweighted by assets. While weighted ratios can only be approximated, one can conclude that the aggregate fees paid to these eight firms rose from $58 million in 1951 (measured in 2012 dollars) to $26 billion in 2013— more than a four-hundred fold jump in the cost of fund management. One might have hoped that all those dollars available to improve the quality of stock selection and investment strategy would have improved the returns earned by fund shareholders. Alas, there is no “brute evidence” whatsoever that such is the case. None. 4. The Conglomeratization of the Fund Industry April 7, 1958—A Date that will Live in Infamy.

But that high return came at the expense of the return on the capital entrusted to them by the mutual fund investors that they were duty bound to serve. The dimension of that change has been extraordinary. Exhibit 10. Among today’s 50 largest mutual fund complexes, only nine remain private. 40 are publicly held, including 30 owned by financial conglomerates. The only different ownership model is the single mutual mutual fund structure—Vanguard’s— in which the fund management company is owned by the fund shareholders. All of the public fund management companies have external owners, and obviously face a potential conflict of interest. As I spoke to Wellington’s officers in 1971 (when our firm had public shareholders): I reveal an ancient prejudice of mine: All things considered . . . it is undesirable for professional enterprises to have public stockholders . . . The pressure for earnings and earnings growth engendered by public ownership is antithetical to the responsible operation of a professional organization.

Ownership of 50 Largest Mutual Fund Management Companies, 2012 Manager Owned (9) plus Mutual (1) Publicly Owned Conglomerate Total Firms with Public Ownership: 40 10. Despite the far-reaching consequences of its unfortunate birth, “conglomeratization” has been the least recognized of all of the changes that have beset the mutual fund industry. Financial conglomerates now own about two-thirds of the major fund management companies, and with the publicly-traded firms, more than 80 percent. However, for whatever one wants to make of it, each of today’s three largest fund complexes—Vanguard, Fidelity, and American Funds—has remained independent. These three firms alone manage $4 trillion, or some 30 percent of all mutual fund assets. While the private firms largely have grown organically, many of the public firms have grown by acquisition, a pattern hardly unfamiliar to the business behemoths of Corporate America. For example, The Amerprise/Columbia Funds have acquired fully a dozen previously independent fund managers. BlackRock obtained substantially all of its fund asset base through its acquisition of Barclays Global Investors in 2009, acquiring Merrill Lynch Asset Management in 2006, and its even earlier acquisition of State Street Management and Research Corporation previously owned by Met Life. (That acquisition was followed by the demise of industry pioneer State Street Investment Corporation, from my perspective a “death in the family.

without Persistence and Passion (PQ), and unrelenting Curiosity (CQ), brains won’t be enough.9 6. Above all, never lose your idealism. Most young collegians are idealistic, and during my four years at Princeton, I was surely no exception. But in all that followed, my idealism helped me through so many setbacks, and more times of sadness, disappointment, and frustration than you could ever imagine. But that idealism has never faltered, and is stronger than ever today. There’s still plenty of work to be done by all of us to build a better world. But a caution: Don’t give too much credence to my insights. You’re not me, and I’m not you. The really amazing concatenation of luck, ideas, events, great mentors, and timing (always!) that resulted in Vanguard will never be repeated in any other context. Since you are you—and that’s good!—what’s to be said? To find your role in life, you must “come to yourself,” which happens to be the subject of a lengthy 1901 essay by Woodrow Wilson, Princeton Class of 1879, President of Princeton University, Governor of the state of New Jersey, and President of the United States of America. Bear with me as I close with these compelling excerpts from When a Man Comes to Himself10: . . . It is in real truth that common life of mutual helpfulness, stimulation, and contest which gives leave and opportunity to the individual life makes coming to yourself possible, makes it full and complete . . .

figure out. In the first edition of the newspaper on March 14, 1967, the Times reported that this “ex-Fund Chief” would “fight his way back.” But in the next edition, it added a question mark. Exhibit 11. In essence, what finally happened six months later was that the fund board, in a King-Solomon-like decision, decided to cut the baby in half (more or less). “Boston” would continue as investment adviser to and distributor of the funds. “Philadelphia,” under my direction, took on the responsibility of running the funds’ administrative, accounting, record- keeping, and compliance activities, as well as the responsibility for evaluating the performance of our adviser and distributor (then, of course, Wellington Management Company). 11. For the first time in industry history, mutual funds would be independent of their management company, free to operate solely in the interests of their own shareholders. The fund board accepted my recommendation to operate as a truly “mutual” organization, with the new firm owned by the funds themselves and providing its services to shareholders on an “at-cost” basis. In yet another contentious vote during the long process in making our decision, the board also approved my choice of a name for the new firm: Vanguard. “The Vanguard Group of

Investment Companies” was born on September 24, 1974.9 As I took on my new job, I was once again, “fired with enthusiasm.” (Again! Think about that!) Recalling the analysis of the fund industry that I had presented in my senior thesis, and buttressed by my research data (in those days, using a hand calculator and a slide rule), I documented the failure of mutual fund managers generally to gain “superiority over the market averages” (using the Standard & Poor’s 500 Index) during the previous three decades. Equally important, I was inspired by powerful encouragement from Nobel Laureate Paul Samuelson. Result: We formed the world’s first index mutual fund. Our board was skeptical, for its mandate to the warring partners precluded Vanguard from providing investment advisory services to the funds. But when I explained that an index fund required no adviser, the board reluctantly acceded to my recommendation. That day of infamy for mutual fund managers “changed a basic industry in the optimal direction,” as Dr. Samuelson wrote in his 1993 foreword to my first book.10 It was the beginning of a far better direction, one aimed at placing front and center the interests of the mutual fund shareholders. The IPO for our index fund took place on August 28, 1976. It was a flop. The underwriters raised only $11 million of initial assets. It barely grew for years, and industry leaders scorned it publicly.

(“You wouldn’t settle for an ‘average’ brain surgeon, so why would you settle for an ‘average’ mutual fund?”)11 A midwest brokerage firm flooded Wall Street with posters screaming “INDEX FUNDS ARE UN-AMERICAN. Help Stamp Out Index Funds!” Exhibit 12. 9 One could easily argue that “the date that will live in infamy” for fund managers was Vanguard’s precedent- breaking formation on September 24, 1974. For it replaced the industry’s business model with a truly mutual model that was virtually essential to the creation of our index fund. More about that later. 10 Bogle on Mutual Funds, John Wiley & Sons, 1993. 11 Fidelity’s Chairman Edward C. Johnson III doubted Fidelity would follow Vanguard’s lead. “I can’t believe,” he told the press, “that the great mass of investors are [sic] going to be satisfied with just receiving average returns. The name of the game is to be the best.” Fidelity now oversees $126 billion of index fund assets.

12. To make matters worse, during the index fund’s early years it appeared to lag the returns of the average fund manager (largely because of flaws in the data). The fund attracted few additional assets. Even with the acquisition of a $40 million actively-managed Vanguard fund, First Index didn’t cross the $100 million mark until 1982.12 Indeed, it wasn’t until 1984 that a second index mutual fund joined the industry. By 1990, total assets of, by then, five index funds reached $4.5 billion, only about 2 percent of equity fund assets. Exhibit 13. The experiment in indexing was stumbling. Growth in Assets of Equity Funds— Active vs. Index 13. 1,000 10,000 100,000 1,000,000 10,000,000 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012 Active Index $39 billion $14 million $1.9 trillion $167 billion $590 million $1.5 trillion $84 billion $4.8 trillion $900 billion $ millions $5.1 trillion Annual Growth Rate Active Funds: 14.4% Index Funds: 38.4% Net Cash Flow, 2008-April 2013 Active Funds: -$386 billion Index Funds: +$667 billion 12 In 1980, the Trust’s name was changed to Vanguard 500 Index Fund.

Boston Still Huge, But No Longer Dominant* Boston 46% Other 7% Minneapolis 13% Philadelphia 7% New York 27% Boston 18% New York 21% Philadelphia 18% Other 23% Los Angeles 14% San Francisco 6% 1951 2013 15. *Percentage of mutual fund assets by location of firm headquarters. Similarly, staunch old Putnam Management Company was bought from its manager/trustees by U.S. insurance giant Marsh and McLennan in 1970, and resold in 2008, for almost $4 billion, to yet another Canadian conglomerate. Its fund assets have stumbled from $250 billion in 1999 to $60 billion today. You decide whether or not the SEC conclusion about the onset of trafficking in management contracts was justified! The change in the business model of M.I.T.—that old exemplar of Puritan Boston—left a void that was filled by Vanguard—in Quaker Philadelphia. The vaguely accidental creation of Vanguard’s index fund has been the prime force in its rise to industry’s largest firm. Now overseeing $2.2 trillion of assets, the firm’s remarkable growth is a reflection of the triumph of indexing and of the pervasive realization that lower fund costs lead to higher fund returns. Vanguard’s share of industry assets has set an all time industry high of 15 percent. Since 2010 the firm has accounted for more than 70 percent of industry cash flows. (Don’t worry, that share will surely decline.) But it seems only a matter of time until a serious challenger emerges.

The Lessons of History – Endowment and Foundation Investing Today Remarks by John C. Bogle, Founder, The Vanguard Group Before The NMS Investment Management Forum Washington, DC September 12, 2011 I’m honored to have the opportunity to address you this morning, during these troubled days for our nation and our financial markets. Perhaps I can bring a certain perspective, focused on history and reality, to you who hold such solemn responsibilities for the financial health of the vital institutions you represent. Shortly after I agreed to join you, I recalled that it was exactly fifteen years earlier when I had written an essay for the Common Fund entitled “If I Managed My Alma Mater’s Money.” With the help of the man who invited me to write that essay, John Griswold, now Executive Director of the Commonfund Institute, I located a copy. This morning, as I discuss “The Lessons of History,” I thought it would be fun, interesting, and provocative to examine what’s happened over the exciting era since I made my policy recommendations. Now fifteen years of history have rolled by—a history replete with waves of greed, fear, and hope in the stock market. What an era it’s been! An era that began with a market boom, followed by a 50 percent bust, a solid recovery, yet another 50 percent bust, and another nice recovery, albeit one that seemed to fall apart after the June 30, 2011, fiscal year ended.

So it seems a perfect moment to look back and see how the investment strategies that I recommended to “my alma mater” worked out, and how they compared with the actual results of the average endowment fund tracked by The National Association of College and University Business Officers (NACUBO). ____________________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Looking Back So there you have it. Lots of opinions; lots of common themes too. So let’s cut to the chase, look back, and now see how the portfolio I recommended worked out in hindsight, compared to the returns achieved and risks assumed by the average college and university endowment fund over the subsequent era, the fifteen fiscal years ended in June of this year. During that period, the average endowment fund earned a return of 7.3 percent compounded, a return far lower, I suspect, than most, if not all, of the commentators that I just cited would have anticipated. My principal recommendation would obviously have been best implemented with the lowest cost stock and bond index funds, so I had no choice but to rely on Vanguard Total Stock Market Index Fund and Vanguard Total Bond Market Index Fund, rebalanced each quarter to 50/50. Our institutional shares—net of all fund expenses—provided an annual rate of return of 7.1 percent—6.2 percent for the bond fund and 6.0 percent for the stock fund, itself a surprising outcome. (That the total portfolio provided a higher return than either of its components is explained by the quarterly rebalancing.) While that 7.1 percent return was not quite equal to the 7.3 percent return of the average endowment, it was at least competitive, and—taking into account other important measures of

Past returns tell us absolutely nothing about the return that a Treasury note purchased at the end of any period would earn during the subsequent decade. For example, the returns on the 10-year Treasury note. During 1926-1981, its return averaged 3.8 percent. But with the entry yield in 1981 at 13.7 percent (!), the return over the 1981-1991 decade turned out to be 13.1 percent. So both our arithmetic and our logic confirm that the current yield of a bond has been—and should almost certainly continue to be—a highly reliable guide to its future return. (The correlation between year-end yield and subsequent ten-year return for Vanguard Total Bond Market Index Fund is a still impressive 0.80.) Stock Returns The methodology for stock returns is similar but more complex. Keynes focused on the two broad sources that explain the returns on stocks. The first was what he called enterprise—“forecasting the prospective yield of an asset over its entire life.”3 The second was speculation—“forecasting the psychology of the market.” While Keynes made no attempt to quantify the relationship between enterprise and speculation in shaping stock market returns, however, it occurred to me, decades later, to do exactly that. What Keynes had described as “enterprise,” I defined as investment return—the initial dividend yield on stocks plus the subsequent annual rate of earnings growth.

eight heart attacks, I fought my way through the four decades that followed. (Take that, you predictors of my early demise!) But by then, half of my heart had stopped pumping. The only hope was a heart transplant. After 128 days waiting in the hospital, suffused with life-sustaining intravenous drugs, the strong spirit and the frail body never gave up, and the new heart arrived on February 21, 1996. Such a second chance in life is something of a miracle, and though the last few years have presented their own health challenges. (After all, I’m now almost as old as Churchill was when he delivered that powerful peroration at Harrow.) But my reaction is simple: “If you’ve been given fourteen additional years of life, it doesn’t seem to be a good idea to go around bitching.” (Forgive me, please for my crude choice of words, but “complaining” simply doesn’t do the job!) During all those decades of health challenges, I faced major challenges in my career. It’s no fun to be fired—some of you, I’m sorry to say, will also have to learn that—but that’s exactly what happened to me in January 1974, eight years after I made a foolish—even stupid—decision to merge the firm I then headed. Corporate power politics, alas, trumped common sense; the merger blew up, and I found myself out of work. But—as you may now suspect—I wasn’t the giving-up type. By September 1974, I’d started a new firm, named it Vanguard, and went back to work.

I tell people that I took on my new job just the way I left my old one . . . fired with enthusiasm. (Think about that one!) Most of the ideas and values that I invested in Vanguard were themselves greeted with skepticism, opprobrium, and even antagonism. But the “never give up” attitude carried the day. Our unique mutual structure, in which we operate our funds at cost, is now saving our investor/owners billions of dollars each year. We created the world’s first index mutual fund, (simply holding all of the stocks in the Standard & Poor’s 500 Stock Index); pioneered the marketing of funds directly to investors (eliminating those hefty 8 percent sales commissions); and designed revolutionary new investment strategies for bond fund management and for tax- efficient investing. Like all radical new ideas, these concepts endured the usual responses: First, “It’ll never work.” Second, “Yes, it works, but it’s all luck, and it won’t meet the test of time.” And third, “Of course it works; I always knew it would.” But together, these ideas have, for better or worse, enabled our firm to become the largest mutual fund manager in the world.most

A New Order of Things – Bringing Mutuality to the “Mutual” Fund The 27th Annual Manuel F. Cohen Memorial Lecture By John C. Bogle Founder and former Chief Executive, The Vanguard Group At the George Washington University Law School Washington, D.C. February 19, 2008 I’m profoundly honored by the privilege of delivering the Manuel F. Cohen Memorial Lecture for 2008 here at the National Law Center of the George Washington University. Part of my pleasure comes from the fact that, during the later time of his 27-year tenure at the Securities and Exchange Commission, I came to know Chairman Cohen (universally known as “Manny”). He had served on the staff from 1942 until 1961 and as a member of the Commission from 1961 until 1969, serving as its Chairman during the final five years of his tenure. I remember him as being wise, smart, blunt, tough, intolerant of beating around the bush, and a pillar of personal rectitude and professional integrity. It should go without saying that I had the highest admiration for this consummate public servant. He left the Commission in 1969 to enter the private practice of law at Wilmer, Cutler and Pickering, but continued to speak out on issues affecting the securities field, lecturing here at the George Washington School of Law. One of his speeches, given when he was SEC Chairman, sets the theme for my own lecture this afternoon. That speech, delivered at the 1968 Federal Bar Conference on Mutual Funds, was entitled simply “The ‘Mutual’ Fund.

”1 And, yes, he put quotation marks around the word mutual. The title—and the theme—of my remarks today follows that same formulation: “A New Order of Things—Bringing Mutuality to the ‘Mutual’ Fund.” Please note that the word mutual is again bracketed by quotation marks. 1 “The ‘Mutual’ Fund,” an address by Manuel F. Cohen before the 1968 Conference on Mutual Funds, Palm Springs, California, March 1, 1968. Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Is there something improper, or wrong, or unethical about having funds operated with this purpose? Perhaps not. But if this structure is not illegal per se, there seems to be something about the way in which the industry has evolved that flies directly in the face of the provisions in the Investment Company Act of 1940 that require that investment companies be “organized, operated, and managed” 2 in the interests of their shareholders, “rather than in the interest of their managers and distributors.”3 (Interestingly, the phrase mutual funds does not appear in the statute.) A Lone Exception to the Conventional Structure Now, when I said that virtually all funds operate under this external management structure, please note that I did not say all. The creation of Vanguard in 1974 marked my attempt to create a family of 2 Investment Company Act of 1940, 15 U.S.C. § 80a- 1(b)(2) (2000), available at http//www.sec.gov/about laws/ica40.pdf. 3 In re: The Vanguard Group, Inc., Investment Company Act Release No. 11,645, 22 SEC Docket 238 (Feb. 25, 1981).

mutual funds that was truly mutual, doing away with the conflict of interest that exists between funds and their advisers; by returning the enormous profits that accrue to external managers directly to the fund shareholders themselves. The now-150 funds in our group actually own our manager, The Vanguard Group, Inc., roughly in proportion to their share of the Group’s aggregate assets, and share in the total expenses incurred by the funds in their operations in approximately the same proportion. (That is, if a given Vanguard fund represents one percent of our assets, it would own one percent of Vanguard’s shares and assume one percent of Vanguard’s operating expenses.) The directors of the funds and their management company are identical. Eight of our nine directors are otherwise unaffiliated with the company, and only one (the chief executive) serves as an officer. No director is permitted to be affiliated with any of the funds’ external advisors.4 Our funds essentially operate and manage themselves on an “at-cost” basis, enabling our shareowners to garner the extraordinary economies of scale that characterize investment management (i.e., the costs of managing $10 billion of assets is nowhere near ten times the cost of managing $1 billion). It is fair to describe Vanguard as the only truly “mutual” mutual fund complex. This shareholder-first structure has produced enormous savings for investors in the Vanguard funds. For example, in 2007, our composite expense ratio of 0.

21 percent (21 “basis points”) was 76 basis points below the 0.97 percent (97-basis-point) composite weighted average expense ratio of our largest competitors. That saving, applied to our average assets of $1.2 trillion during the year came to almost $10 billion for 2007 alone. By 2009, cumulative savings for our mutual fund owners will have crossed the $100 billion mark. Whence “Mutual”? The Vanguard structure is unique in industry annals. While the first mutual fund (Massachusetts Investors Trust, formed in 1924) was managed by its own trustees rather than by an external company—a structure it abandoned in favor of the external structure in 1969—its shares were marketed and financed by a separately-owned distribution company. And while the funds in the Tri-Continental (now Seligman) group were for many years operated at cost by their management company, the manager reaped 4 The investment advice for approximately 70 percent of Vanguard’s fund assets—largely index, bond, and money market funds—is provided internally by Vanguard itself. The remaining 30 percent is advised under contracts held by a score of external advisors.

For example, “the primary concern of the State Street (Research and Management Company) partners was that they not be distracted by the sales effort. As they wrote to investors in 1933, ‘it is our intention to turn over the active selling and the commissions to dealers . . . thereby leaving us free to devote . . . our entire time and effort to research and the study of the problems of investment.” 7 (The partners were even better than their word; in 1944 the fund entirely ceased the sale of its shares.) The same spirit was echoed by Judge Robert F. Healy, the SEC Commissioner primarily responsible for the development of the legislation leading to the Investment Company Act of 1940. Here’s how he opened his testimony at the hearings for the Act in 1939: “The solution (to the industry’s) shocking record of malfeasance . . . was a group of expert trust managers who do not make their profits . . . distributing trust securities, styled principally for their sales appeal, but from wise, careful management 5 While the funds operated by TIAA-CREF and USAA have a shareholder-oriented structure that is similar in philosophy to Vanguard’s, they differ by being managed, in effect, by insurance/annuity providers that are themselves mutual, owned by their policy holders. While the funds pay fees to the manager in the same way as in the conventional external model, those fees are far below industry norms. 6 Michael R. Yogg, Passion for Reality, Xlibris, 2006, page 77.78

50 largest mutual fund management complexes, only eight have maintained their original private structure—including Fidelity, Capital Group (American Funds), Dodge & Cox, and TIAA-CREF, plus Vanguard, owned by its fund shareholders. Of the remaining 41 firms on the list, nine are publicly-held (including T. Rowe Price, Eaton Vance, Franklin, and Janus) and 32 are owned by banks, giant brokerage firms, and U.S. and international conglomerates. As we shall soon see, this seemingly irresistible tide of public—largely conglomerate—ownership has ill-served mutual fund shareholders. Vanguard Goes the Other Way Only a single firm resisted this epic tide. In the context of my theme this evening, the story of its creation is a story worth telling. As you may recall, in 1960, my employer, Wellington Management Company was among the firms to ride that early wave of industry IPOs. In 1965, when I was given the responsibility of leading the firm, I recognized the challenge involved in serving those two demanding masters whose interests were so often in direct conflict. To state the obvious, we had a fiduciary duty both to our fund shareholders and to our management company shareholders as well. However, when a privately-held management company becomes publicly-held, this conflict is exacerbated. In September 1971, I went public with my concerns.

affairs . . . This structure has been the accepted norm for the mutual fund industry for more than fifty years.” On June 11, 1974, perhaps unsurprisingly, the board rejected my proposal to have the funds acquire the manager, and chose a different option, the least disruptive of the seven options that I had offered. We established the funds’ own administrative staff under the direction of its operating officers, with my continuing as their chairman and president. We would also be responsible, as the board’s counsel, former SEC Commissioner Richard B. Smith wrote, “for monitoring and evaluating the external (investment advisory and distribution) services provided” by Wellington Management. The decision, the counselor added, “was not envisaged as a ‘first step’ to internalize additional functions, but as a structure that . . . can be expected to be continued into the future.” Since the Board agreed that Wellington Management Company would retain its name (and Wellington Fund would also retain its name), a new name would have to be found for the administrative company. I proposed to name the new company “Vanguard” and the Board approved, albeit somewhat reluctantly. The Vanguard Group, Inc. was incorporated on September 24, 1974. Without apparent difficulty, the SEC soon cleared the funds’ proxy statements proposing the change, which the fund shareholders promptly approved. Vanguard began operations on May 1, 1975.

No sooner than the ink was dry on the various agreements, the situation began to change. The creation of Vanguard, as I’ve written, “ . . . was a victory of sorts, but, I feared, a Pyrrhic victory . . . and the narrow mandate that precluded our engaging in portfolio management and distribution services would give Vanguard insufficient power to control its destiny. Why? Because success in the fund field was not then, and is not now, driven by how well the funds are administered. Though their affairs must be supervised and controlled with dedication, skill, and precision, success (will be) determined by what kinds of funds are created, by how they are managed, by whether superior investment returns are attained, and by how—and how effectively—the funds are marketed and distributed.” We first determined to start a new fund that we would manage internally. Paradoxically (if not disingenuously), it would be a fund that arguably didn’t conflict with our limited mandate, for, technically speaking, it wasn’t managed. It was the world’s first index mutual fund, modeled on the Standard & Poor’s 500 Stock Index. Incorporated late in 1975, its initial public offering was completed in August 1976. While the offering raised a puny $11 million, despite that unhappy start, Vanguard 500 Index Fund is now among the largest mutual funds in the world.

Our control over fund marketing came only shortly thereafter. On February 9, 1977, after yet another contentious debate, the fund board accepted my recommendation that the funds terminate their distribution agreements with Wellington Management, eliminate all sales charges, and abandon the broker-dealer network that had distributed Wellington shares since its inception in 1929. (I argued that we weren’t violating the memorandum of understanding by internalizing distribution. Rather we were eliminating distribution.) While the board approval was by the narrowest of margins, Vanguard moved, literally overnight, from a seller-driven, load-fund channel we had relied upon for almost a half-century to the buyer-driven, no-load channel we maintain to this day. Only 21 months after Vanguard began operations, the fledgling organization had become a fully-functioning fund complex. What we called “the Vanguard Experiment” in fund governance was about to begin in earnest. Let’s See How it All Worked Out It will soon be 34 years since Vanguard began operating under its unique mutual structure, and almost exactly fifty years since that ghastly Ninth Circuit decision opened the door of public ownership to fund managers and led to the age of conglomeration that has now overwhelmed the industry. Surely it must occur to you that the philosophies underlying these two events are diametrically opposite.

Outside ownership, in effect, demands that investment funds be viewed as products of their management companies, manufactured (in the current grotesque parlance) and distributed to earn a profit for the company. Mutual ownership, on the other hand views mutual funds, yes, mutual funds, as trust accounts, managed under the direction of prudent fiduciaries.16 It’s high time to look at the record, and compare the results achieved by the firms following these opposing philosophies. As I’m fond of saying, over our three-plus decades of our existence, Vanguard has proven to be both a commercial success and an artistic success. A commercial success, because our structure has been proven to be a superb business model. The assets we manage for investors have grown from $1.4 billion at our 1974 founding to some $1.2 trillion today. At this moment, in fact, we may well be the largest firm in our industry. (In fairness, Vanguard, American Funds, and Fidelity have gone back and forth in the lead position for several years now. Each of these giants manages about three times the fund assets of the next largest firms, Franklin Templeton and Barclays Global.) 16 I intensely dislike the use of the word “product” to describe an investment company, and, early in Vanguard’s history, banned its use at the firm.

Of course, the stock market boomed during that period (at least through early 2000), and the fund industry could hardly help but flourish. Nonetheless, Vanguard’s market share of industry assets has soared from a mere 1.8 percent in 1980 to 10.6 percent currently, without a single year of decline. Let me illustrate the impact of that rise in share: if it had remained at 1.8 percent, assets of the Vanguard funds today would be $220 billion. Thus, fully $1 trillion of our growth—80 percent of it—has come from our increased market share; that is, out of the pockets of our competitors. (Not bad, dare I say, for a firm in which I consistently drummed home this philosophy: “market share is a measure, not an objective; market share must be earned, not bought.”) How did we earn that commercial success? By our artistic success, which I define as providing superior investment returns to our shareholders. The data indicate that the performance of the Vanguard funds was indeed superior. To the contrary, the financial conglomerates that now dominate this industry generally produced performance returns that were distinctly inferior. There are, of course, lots of ways to measure fund performance. I’ll use one of the more sensible methodologies, relying largely on the Morningstar system, in which the risk-adjusted returns of each fund are compared with the risk-adjusted returns of its peers over a full decade (albeit with a heavier weighting on the recent years of the decade).

We measured the returns achieved by the 50 largest fund complexes, defined as the firms managing at least 40 individual funds, excluding money market funds. (The complex with the largest number of funds, Fidelity, includes 471 long-term funds.) Only one of these firms managed less than about $25 billion. This remarkably representative list includes more than 8,800 funds with some $7 trillion in fund assets, 80 percent of the industry’s long-term asset base. The full study is clearly too extensive to inflict on this audience, but I’ve presented it in Appendix I as an attachment to the published version of this lecture. What I’ll now present to you (Chart 1) is a summary showing the scores of six of the top firms, the bottom six firms, and six fairly well-known firms that achieved roughly average performance records for their funds. The top-ranking fund complex, in terms of providing superior returns to its investors, was Vanguard. With 59 percent of our funds in the top group and less than 5 percent in the bottom group, the firm’s performance rating is +54.18 Joining Vanguard among the top three are DFA and TIAA-CREF, both at +50. (More than coincidentally, all three firms are focused largely on index-like strategies). At number four is T. Rowe Price (+44), followed by Janus (+38) and American Funds (+26).

Honestly, I think most objective observers would agree that over the past decade, at least five of these six firms have been conspicuous in delivering superior risk-adjusted returns, a judgment that confirms the methodology. Again more than coincidently, this six-firm list is dominated by four management companies that are not publicly- owned—Vanguard, DFA, TIAA-CREF, and American—and none are controlled by conglomerates. On the other hand, each of the bottom six firms are units of giant brokerage firms or financial conglomerates. Their ratings range from -40 for Goldman Sachs to an astonishing -58 for Putnam, with only 4 percent of its funds in the top category and 62 percent rank in the bottom category. Strikingly, every one of the 17 lowest-ranking firms on the 50-firm list is conglomerate-held, while only one of the firms among the top ten can be similarly characterized.19 In the middle group—all producing more or less average scores (mostly less) for their funds— include one publicly-held firm (Franklin, +9), one owned by a giant investment banker (Morgan Stanley, 18 Full disclosure: two much smaller firms have higher ratings; Dodge & Cox, with 4 funds, at +100; Royce and Associates, with 31 funds, has a score of +65. 19 The success of Neuberger Berman, ranking #8 with a score of +19, was largely achieved before its 2003 sale to Lehman Brothers.

Chart 1. Major Mutual Fund Managers: Fund Performance * *Morningstar ratings as of 12/2007. (Long-term funds only) Returns Highest Returns Average Returns Lowest American Funds 6 Janus 5 T Rowe Price 4 TIAA-CREF 3 DFA 2 Vanguard 1 Columbia Funds 12 AIM Inv. 11 Barclays Global 10 Fidelity 9 Morgan Stanley 8 Franklin Temp. 7 Putnam 18 ING Investments 17 John Hancock 16 MainStay Funds 15 Dreyfus 14 Goldman Sachs 13 Manager 59% 4 or 5 Stars Highest 5% 1 or 2 Stars Lowest % of Funds Ranked Major Mutual Fund Managers: Fund Performance* 54% -14 -14 -4 -3 -58 -55 -43 -40 -40 -40 Highest minus Lowest

The Cogent study, reported by The Wall Street Journal,20 measured client loyalty, presenting investors with a scale representing the extent of their trust in their managers—10 the highest rating (“definitely recommend” to other investors), 1 the lowest (“definitely not recommended”). Each firm was scored by subtracting the percentage of shareholders who rated the firms at five or below (“detractors”) from the percentage who rated the firms at nine or ten (“supporters”). Only 11 of the 38 firms evaluated had positive loyalty scores. The average score was -12, a message about investor confidence in the fund industry that would not seem to be much of a tribute. Simply put, fund shareholders seem to “get it.” When we juxtapose these loyalty scores for each firm with its performance scores, we see a remarkable, if by no means exact, correlation. (Chart 2) In fact, Vanguard’s performance score (+54) and its loyalty score (+44), both the highest in the field, were quite similar. Putnam’s scores, also similar (-58 and -54, respectively), were the lowest in the field. Of course there is a relationship between how well one has served investors and how loyal they are! 20 The Journal published the ratings for only eight of the firms in the survey. The other ratings were made available for this paper. Many of the firms in the performance survey were not included in the loyalty survey.

Chart 2. Major Mutual Fund Managers: Fund Performance and Shareholder Loyalty 54% -14 -14 -4 -3 -58 -55 -43 -40 -40 -40 Highest minus Lowest 54% -14 -14 -4 -3 -58 -55 -43 -40 -40 -40 Highest minus Lowest Returns Highest Returns Average Returns Lowest American Funds 6 Janus 5 T Rowe Price 4 TIAA-CREF 3 DFA 2 Vanguard 1 Columbia Funds 12 AIM Inv. 11 Barclays Global 10 Fidelity 9 Morgan Stanley 8 Franklin Temp. 7 Putnam 18 ING Investments 17 John Hancock 16 MainStay Funds 15 Dreyfus 14 Goldman Sachs 13 Manager American Funds 6 Janus 5 T Rowe Price 4 TIAA-CREF 3 DFA 2 Vanguard 1 Columbia Funds 12 AIM Inv. 11 Barclays Global 10 Fidelity 9 Morgan Stanley 8 Franklin Temp. 7 Putnam 18 ING Investments 17 John Hancock 16 MainStay Funds 15 Dreyfus 14 Goldman Sachs 13 Manager -30 n/a n/a 44% -47 -48 n/a -18 -54 -11 -10 n/a -45 -32 Client Loyalty Score % of Funds Ranked

5 percent per year, five times as high? (Yes, along with Vanguard, T. Rowe Price, American Funds, and Fidelity—with costs that average 1.1 percent, somewhat below industry norms, but many times Vanguard’s costs—accounted for about one-third of all industry cash flow last year. But that still leaves two-thirds of the cash flowing largely into high-cost funds.) The fact is that there are many “signs the mutual fund marketplace may not be performing in a way one would expect in a satisfactorily functioning competitive market.” That is the opinion of the general counsel of the U.S. Securities and Exchange Commission.25 One sign, he adds, is “the law of one price,” the principle that, in an efficient, competitive market, nearly identical goods will sell at nearly identical prices. That’s obviously because with full information . . . “no rational buyer would pay more.” Yet without such price convergence in the fund field, “American investors may be being deprived of the long-term returns they deserve.” 23 “Mutual Fund Performance,” Journal of Business, January 1966, page 119. 24 “In the Vanguard,” Summer 1996. 25 Speech by Brian G. Cartwright, before the 2006 Securities Development Conference, December 4, 2006.

Yes, money flows (as I have noted) are increasingly directed toward the lower-cost funds, and Vanguard has been a beneficiary of, indeed a creator of, that structure. But other fund complexes are not following the lead.27 In short, if price competition is defined, not by the action of consumers, but by the actions of producers, then price competition is conspicuous by its absence in the mutual fund industry. Why don’t fund managers compete on costs? Because to do so would be antithetical to their vested financial interests. The fund industry, of course, argues that it is characterized by vigorous competition. To a point that is true: there is competition in the marketplace. Witness the incentives offered to brokers to sell shares and the hundreds of millions of spent each year on print and television advertising. There is performance competition. Witness the ongoing advertising of funds that have had superior past records, or are investing in hot market sectors. But there is little evidence to suggest that there is price competition. Dr. Yoran Barzel, “Replacing the Law of One Price with the Price Convergence Law,” March 28, 2005. 27 I’m often told that Vanguard’s demonstrably low costs—increasingly recognized in the marketplace—are responsible for setting an upper limit on prices among our competitors. But that level is still far too high for my taste.

While the most vigorous industry advocates find “evidence of price competition clear,”28 the data presented by these advocates show that while there were 1,240 fee decreases during 1998-2004, there were even more fee increases—1480 in all. Even these advocates do not dispute “the empirical fact that mutual fund boards of directors rarely ‘fire’ advisers and do not put advisory contracts up for bids among advisers.” Without such competition, mutual fund managers are hardly likely to reduce their fees, and hence their own profitability. Recap of the Issues Let me summarize here the arguments I’ve made so far: In its early years, the investment company industry had many characteristics that well-served fund investors. The focus was largely on private trusteeship; prudence and diversification were the watchwords of investment policy; fund trustees often were a step removed from fund distribution; expense ratios were moderate, and far below today’s levels. Today public ownership—largely by giant conglomerates—overwhelmingly dominates the fund industry, and it has ill-served fund investors. By way of contrast, the results of that “Vanguard Experiment” in mutual fund governance are now clear. It has been both a remarkable commercial success for the firm itself, and an artistic success for its shareholder/owners. Our central idea was to create a firm honoring the industry’s original values.

I expected that becoming the low-cost provider in any industry where low cost (by definition) is the key to superior returns, would force our competitors to emulate our structure. Indeed, I chose the name “vanguard” in part because of its meaning: “leadership in a new trend.” But I was wrong. After more than three decades—during which at least one of our industry peers has described us as “the organization against which others must measure themselves”—we have yet to find our first follower.29 We remain unique. Of course, not everyone shares my view of the positive power of the mutual structure. Hear the American Enterprise Institute (AEI), in a recent book entitled Competitive Equity–A Better Way to 28 “Competition in the Mutual Fund Industry,” by John C. Coates IV and R. Glenn Hubbard, The Journal of Corporation Law, University of Iowa, Volume 33, Number 1, Autumn 2007, page 173-4. 29 I had hoped that when Marsh & McClennan decided to sell its Putnam Management Company subsidiary— obviously a deeply troubled firm whose previous management ill-served its investors in so many ways—it would mutualize and internalize its organization. However, my attempts to persuade three directors of the funds (including its then independent chairman) fell on deaf ears. The fund board approved the sale of the management to a Canadian conglomerate for $4.9 billion.

Organize Mutual Funds30 (Hint: it doesn’t consider the Vanguard way “a better way.”) The authors are skeptical of our claim that we operate on an “at cost basis,” albeit without identifying the basis of that skepticism. They allege that our managers do not accept compensation substantially lower than that paid to other fund advisers, apparently unaware that we fully disclose the rates and fees we pay to the unaffiliated external advisers that manage many of our actively-managed funds. For the record, the average fee paid to the advisers to Windsor Fund is 0.12 percent of fund assets; the fee paid to the adviser to our GNMA Fund is 0.01 percent. (Yes, that’s one basis point.) Despite these shortcomings in their argument, their conclusion is unequivocal: “the idea that the mutual form of organization is inherently superior to the external form . . . is something of an overstatement.” They also allege that conversion to a mutual form would require buying out the existing shareholders (of the management company), ignoring the fact that Vanguard, as noted earlier, did no such thing. In fact the fund directors have the awesome power to simply terminate the manager’s contract and either manage the funds internally or hire new external advisers. (I note that while this never happens in the fund field, it happens with considerable frequency among corporate pension funds.)

abandoned; new steps that take us even further toward that goal; one simple—if dramatic—organizational change that would create enormous momentum toward fund operational independence from their advisers; and a change in federal law. Here’s the plan I propose: 1) Require that 100 percent of fund directors be unaffiliated with the management company. There is simply no point in any longer subjecting management company officers to the profound conflicts of interest that they face when they also serve as fund directors. It’s time to honor the principle that “no man can serve two masters.” (As noted earlier, since the firm’s inception the Vanguard funds have prohibited representatives of any external adviser from serving on their boards. It hasn’t seemed to impair the returns we earn for investors.) 2) Require that the chairman of the fund board be independent of the management company, even if, as under the Commission’s 2004 proposal, only 75 percent of the board is required to be independent. Such a separation of powers, ordained for our federal government in the Constitution, is not only a fundamental principle of governance, but simple common sense. 3) Require the retention by the funds of legal counsel independent of the adviser and a chief compliance officer. Both are already mandated by the Commission, but we must require them to be responsible to the fund board, reporting to the independent fund chairman.

5) A specific regulatory authorization that enables funds to assume responsibility for their own operations, including administration, accounting, compliance, shareholder record-keeping, etc. Such a structure would cut the Gordian knot that gives fund managers de facto control over the funds they manage. 35 It is this very step that was central to the creation of Vanguard, which (as noted earlier) soon enabled the fledgling firm to extend its reach to investment management and then to distribution. 6) Enact a federal standard of fiduciary duty for fund directors. The fact is that mutual fund managers, indeed pension fund managers, public and private alike, face serious conflicts of interest in carrying out their duties. In today’s relatively new agency society, in which financial institutions control more than 70 percent of stock ownership, there has been a serious failure to serve their principals—largely fund shareholders and pension beneficiaries. As the Honorable Leo E. Strine, Jr., Vice Chancellor of the Delaware Court of Chancery, has noted, it would be “passing strange if professional money managers would, as a class, be less likely to exploit their agency than the managers of corporations that make products and deliver services.”36 Yes, the world has changed, and we need to redress that imbalance in favor of the principals. Two Powerful Endorsements Once again, this critical analysis of the mutual fund industry is not mine alone. Listen to Warren Buffett.

Black Monday and Black Swans Remarks by John C. Bogle Founder and former chief executive, The Vanguard Group before the Risk Management Association Boca Raton, Florida October 11, 2007 Just a week from tomorrow, we’ll mark the twentieth anniversary of what came to be known as “Black Monday,” October 19, 1987. On that single day, the Dow Jones Industrial Average dropped from 2246 to 1738, an astonishing decline of 508 points or almost 25 percent. The drop was nearly twice the largest previous daily decline of 13 percent, which took place on October 24, 1929 (which became known as “Black Thursday”), a distant early warning that the Great Depression lay ahead.1 From its earlier high until the stock market at last closed on that fateful Black Monday of 1987, some one trillion dollars had been erased from the total value of U.S. stocks. The stunning decline seemed to shock nearly all market participants. But there were some veterans whom it didn’t surprise. Ace Greenberg, former chairman of Bear Stearns, was quoted in the newspapers as saying, “So markets fluctuate. What else is new?” And only a year before Black Monday, I observed to the Vanguard crew that even a 100-point decline in the Dow—something that had never before occurred—was possible. Why? Because, as I observed, “in the stock market, anything can happen.” That truism remains, but I’d argue the point even more strongly today.

Stewardship vs. Salesmanship— Bond Mutual Funds Gone Awry Remarks by John C. Bogle Founder and Former Chief Executive, The Vanguard Group FIASI Hall of Fame Speaker Series Fixed Income Analysts Society New York, NY April 17, 2007 I’m delighted and honored to be with you this evening, the third time I’ve addressed FIASI in the past decade. The first occasion was on March 18, 1998, when my theme was “Bond Funds: Treadmill to Oblivion.” In my remarks, I made the point that “fixed income funds simply cannot provide adequate returns to investors when their sound principles of management and diversification are offset by more than compensatory cost encumbrances.” (Today, it seems so obvious!) * I have no idea whether or not that speech lit the spark that led to my induction into the FIASI Hall of Fame a year and one-half later on November 10, 1999. But that surprising and wonderful event led to my second speech for FIASI. Its simple title clearly echoed the message of its progenitor: “Giving the Bond Fund Investor a Fair Shake.” Yet today, that fair shake is the rare exception to the costly penalties that the mutual fund industry imposes on its clients, in bond funds and stock funds alike. The problem, simply put, is that in the famously efficient U.S. bond markets, bond fund managers as a group are average. That is, they produce average returns. (No Lake Wobegon * The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

The Battle for the Soul of Capitalism Remarks by John C. Bogle Founder and Former Chief Executive, the Vanguard Group at The Aspen Book Series New York, NY March 14, 2006 Thank you very much for this special invitation to discuss my newest book, The Battle for the Soul of Capitalism, published in November by Yale University Press. It is indeed a pleasure to be with you all today. My book minces no words. Right at the outset, I turn to the main issue: “The business and ethical standards of corporate America, of investment America, and of mutual fund America have been gravely compromised. It is time to set out on a new course that, paradoxically enough, will lead us directly back to where we began, with the traditional values of capitalism. In the recent era, capitalism has let us down. It has departed, not just in degree but in kind, from its proud traditional roots, a system that served us, despite its imperfections, with remarkable effectiveness, for the better part of the past two centuries—a free enterprise system based on open markets and private ownership, and on trusting and being trusted. The system worked. Or at least it did work.” And then, as I write in Battle, “Something went profoundly wrong, fundamentally and pervasively, in corporate America.

“High Standards of Commercial Honor . . . Just and Equitable Principles of Trade . . . Fair Dealing with Investors” Remarks by John C. Bogle, Founder and former Chief Executive, The Vanguard Group Before the Financial Industry Regulatory Authority at its first Joint Meeting Washington D.C. October 15, 2007 I’m greatly honored to be invited to address the first annual joint Enforcement Meeting of FINRA. While I have had little experience with regulators for the New York Stock Exchange, this visit reminds me that I maintained an active involvement with NASD regulation for something like two full decades during the 1960s and 1970s, as a member and then chairman of the Investment Companies Committee, and as a member of the Long-Range Planning Committee. In the mid-1970s, long-range planning for the securities industry was no mean challenge. The long era of (high) fixed commissions on brokerage transactions had ended in 1974, replaced by today’s system of (minuscule) negotiated commissions. Financial technology was just being introduced, and it was clear that the slow old order hath changeth, to be replaced by a new order operating at a millisecond pace. And securities regulations were beginning to change and litigation to grow. In the phrase I used then, “competition, communications, and the courts will reshape the securities industry.

The Lengthened Shadow, Economics, and Idealism Remarks by John C. Bogle Founder and Senior Chairman, The Vanguard Group and 1999 Woodrow Wilson Medalist, Princeton University before the Annual “Wilson and Princeton” Dinner Woodrow Wilson House, Washington DC September 30, 1999 Good evening, ladies and gentlemen. Thank you, Ambassador Lukens and distinguished members of the dinner committee for honoring me with the invitation to address you. In the spirit of this grand occasion, I’d like to begin with some comments about what I find especially remarkable about President Wilson; in particular, how his lengthened shadow lies over America today, and how his economic policies were shaped by his idealism. I’ll then turn to Vanguard, the now-giant mutual fund enterprise that I founded just 25 years ago. Only time will tell whether the lengthened shadow of my economic vision of fund management and my own idealism will lie over my firm a century hence. But I hope so. As I understand it, it is Vanguard’s distinctive approach to the stewardship of investors’ assets that led to Princeton University’s decision earlier this year to honor me with the Woodrow Wilson Medal—presented annually to an undergraduate alumnus for “distinguished achievement in the Nation’s service.” My humble delight in receiving this award almost (but not quite!)

Changing the Mutual Fund Industry: The Hedgehog and the Fox Remarks by John C. Bogle, Princeton ‘51 Founder and Senior Chairman The Vanguard Group of Investment Companies On Receiving The Woodrow Wilson Award for Representing “Princeton in the Nation’s Service” Princeton, New Jersey February 20, 1999 This is a marvelous morning for me. For a mere businessman—apparently the first one—to join the distinguished roll of 42 public servants, artists, scientists, and authors who have previously been judged to represent the high standard of “Princeton in the Nation’s Service”—it is a signal honor. The award citation suggests that my career as an agent of change, if not the agent of change, in the mutual fund industry has been in the service of the nation’s 50 million fund shareholders. Whatever the case, I’ve done my best to meet that standard, not only for the 10 million who own Vanguard mutual funds, but also for those who own other funds. For 25 years—in a sense for 50 years—my mission has been to change the industry so that our citizens—the human beings who invest in funds—get a fair shake. But as awesome as is this honor, I have no intention of resting on the laurels I receive today. I still have promises to keep for fund investors and miles to go before I sleep. I’ve entitled my remarks “The Hedgehog and the Fox,” based on this fragment—dated to about 670 B. C.

Vanishing Treasures — Business Values and Investment Values Remarks by John C. Bogle Founder and former chief executive The Vanguard Group The Maclean House 2007 Lecture Series Princeton University Alumni Education Program Princeton, NJ March 15, 2007 I must begin by telling you what a thrill it is to return again to the Princeton campus that has played such a definitive—even determinative—role in my life. Of course I’m honored to be asked by Andrew Gossen, associate director of the alumni education program, to participate in this year’s Maclean House series. The theme “Vanishing Treasures,” holds great appeal to me, for I’m deeply concerned about “cultures and values that are disappearing in the face of human activity.” When director Gossen wrote to me (by e-mail of course; letter writing seems to be yet another vanishing treasure), he suggested that I focus on corporate ethics. Since the decline of business values and investment values was one of the principal subjects of my fifth book, The Battle for the Soul of Capitalism, I promptly tendered my acceptance (yes, by e-mail). So I’m pleased to be with you this evening. Some of my classmates of the great Class of 1951 needled me about the fact the The Battle was published by Yale University Press. But I reminded them to look carefully at my photograph on the back flap of the book jacket.

“Vanguard: Saga of Heroes” A Lecture by John C. Bogle Founder and former Chief Executive, The Vanguard Group Before Dr. Elliot McGucken’s Class in Artistic Entrepreneurship and Technology 101 Pepperdine University Malibu, CA February 27, 2007 I’ve spent a lot of time and thought on the challenge of measuring up to Dr. McGucken’s high appraisal of my career, the scores of speeches that I’ve delivered, and especially my 2005 book, The Battle for the Soul of Capitalism. To find The Battle on the same reading list as The Odyssey—let alone on the same planet!—adds even more to my burden in meeting your expectations this evening. Just two weeks ago, however, an article in the Arts & Leisure section of the Sunday New York Times gave me a unifying theme for this evening’s lecture. The article was about someone with whom most of you students may be familiar: Brad McQuaid, creator of EverQuest, a 3-D fantasy video game operating in the virtual world, with 500,000 players, each paying $15 a month for the privilege. (Not as popular as the champion, “World of Warcraft,” with 5 million players, but amazing in its own right.) Typical of my generation, alas, I am not among those players. But in my constant attempt to understand what appeals to today’s young citizens, and my effort—however unlikely to bear fruit—to understand the new virtual world, I did read the Times article from start to finish. It was about Mr. McQuaid’s new virtual game, “Vanguard: Saga of Heroes.

The Role of the Fiduciary in Risky Financial Markets Remarks by John C. Bogle Founder & Former Chief Executive, The Vanguard Group Before The Philadelphia Estate Planning Council Philadelphia, PA May 1, 2007 I’m honored to be invited to address the Philadelphia Estate Planning Council this afternoon on two subjects that have been near and dear to my heart for as long as I can remember. Indeed, it’s arguable that I’ve been thinking about fiduciary duty and the financial markets since the autumn of 1950, when, as a Princeton senior, I began the research on the mutual fund industry for my senior thesis. In fact, a half-century later—proving that if you’re patient enough, anything you write can be published—that thesis was published by McGraw-Hill, the final section of my third book John Bogle on Investing - the First 50 Years. Even more relevant to my subject today, my fifth book—The Battle for the Soul of Capitalism (Yale University Press, 2005)—is heavily focused on fiduciary duty; and my sixth book—The Little Book of Common Sense Investing (John Wiley, 2007)—is focused on the financial markets. Part I. Full Disclosure Perhaps if I begin with the story of my senior thesis, you’ll see, in today’s parlance, “where I’m coming from.” The fact is that the fundamental values that I hold today about fiduciary duty and the financial markets were formed during my undergraduate years at Princeton University.

When Does Innovation Go Too Far?* Remarks by John C. Bogle, Founder & former chief executive The Vanguard Group Before The Philadelphia Federal Reserve Policy Forum On Innovation and Regulation in the Financial Markets Philadelphia, PA November 30, 2007 It’s hard to argue against “Something New Under the Sun,” the title of a special report on innovation published only last month by the London Economist. The report defines innovation as “new products, business processes, and organic changes that create wealth or social welfare,” that is to say, “fresh thinking that creates value.” And surely we all agree that innovation, and her sister, entrepreneurship, are among the major forces that drive the growth of our global economy. As a result of those forces, we have the internet and superhighways, ever-soaring skyscrapers, jet aircraft that are ever more fuel-efficient, and automobiles with GPS systems that not only show you how to get where you’re going, but actually have a person who tells you how. (Or is it just a disembodied computerized voice?) The end of the information revolution is—for better or worse—not yet in sight, but it has brought us the benefits of choice beyond imagination and intense price competition that serves consumers better than ever before. The financial sector, however, is unique in the role that innovation plays. Why?

Reflections on Finance and Education Remarks by John C. Bogle Founder and former Chief Executive, Vanguard On receiving The 2007 Visionary Award From the National Council on Economic Education New York, NY October 30, 2007 I’m truly honored to receive your Visionary Award for 2007. I take special pride in sharing the platform with the amazing visionary William Donaldson, who has had at least five remarkable careers: founder and leader of both an investment banking firm and a school of management; chief of both the world’s largest stock exchange and the nation’s principal financial regulatory authority; and, when not otherwise occupied, boss of our major insurance companies. In puny contrast, I’ve had but one career. In 1951 I took the only job that was ever offered to me in my adult life, and have been at it, in one capacity or another, ever since. I may be, then, the paradigm of this epigram from Great Britain: Some men wrest a living from nature; this is called work. Some men wrest a living from those who wrest a living from nature; this is called trade. Some men wrest a living from those who wrest a living from those who wrest a living from nature; this is called finance. In that one long career, I’ve done my best to make the world of finance work effectively for those scores of millions of our citizens who wrest their livings from nature and from trade.

Response to Bogle Remarks at Aspen Institute Breakfast by Randall Rothenberg, Senior Director, Booz Allen Hamilton New York, New York March 14, 2006 It is the fancy to think of Jack Bogle as (and to call Jack Bogle) a “maverick.” Sure, he seems a maverick! Here, in this age of terror and physical insecurity, he dares write that one of the “major threats” to our culture is “the remarkable erosion that has taken place over the past two decades in the conduct and values of our business leaders, our investment bankers, and our money managers.” But if I might be forgiven the mixing of a zoological metaphor, there’s something fishy about John’s designation as a maverick. Vanguard, the company he founded, is enormous: More than $950 billion under management. It’s also very popular. The pioneer of low-cost index funds, Vanguard is one of the three largest mutual funds companies in America. Big and popular? That’s how we describe football captains. Mavericks are scrawny and live in the basement. Rather, Jack Bogle—and I hope he’ll forgive me for speaking of him so impersonally and historically, in his presence no less!—is a different kind of American creature. He is an institutionalist—if you will, a “small-c” conservative. Like Teddy Roosevelt, Bogle is driven by the desire to conserve the elements of the American dream that might, to a cynic, seem fanciful. But these are the values which still draw to our shores some three-quarters-of-a-million legal immigrants each year.

Why Do I Bother to Battle? “Courageous Champions of Conscience and Controversy” Remarks by John C. Bogle, Founder and Former Chief Executive Vanguard Group At the Yale CEO Leadership Summit New York, NY December 13, 2007 With the television writers still on strike, I’ll try to ease your ache for the David Letterman Show by giving you my ten reasons for “Why do I bother to battle?” (The strike matters not to me; I’ve always been my own writer.) Here we go: 10. Damned if I know why I bother to battle. I just do it, and I don’t know how to stop. 9. Because, in all my 78 years of life I’ve never done anything but battle—as a boy, as a newspaper deliverer, waiter (in many venues), ticket seller, mail clerk, cub reporter, runner for a brokerage firm, even a pin setter in a bowling alley. (Now there’s a Sisyphean battle!) And as a man, fighting the battle for personal advancement, for attention, for innovation, for progress, for service to society, and yes, even for power and the hope of being remembered. (Might as well admit it.) That’s why I write books. (You have The Little Book of Common Sense Investing in your book bag.) 8. Because the great battlers of history have always been my heroes. Think Alexander Hamilton. Think Teddy Roosevelt. Think Woodrow Wilson. Heck, think Rocky Balboa. 7. Because all those battlers, finally, lost their battles. I battle to be the exception. 6.

Mutual Funds in 1987: A $700 Billion Trust Keynote speech by John C. Bogle, Chairman The Vanguard Group of Investment Companies Before The 25 th Annual Meeting of The National Investment Company Services Association February 16, 1987 It is a distinct privilege for me to have the opportunity to deliver the keynote address at your 25 th Annual Meeting. Certainly your theme—“The Challenge of Change”—is a profound one, and I will address it from the standpoint of the $700 billion trust that mutual funds now represent. To me, as an observer of mutual funds since the beginning of my college days in 1947—forty years of excitement and elation, interspersed with but a few moments of discouragement and disappointment—I come armed only with the perspective borne of that experience, to present some ideas about mutual funds in these halcyon days of rapid growth, heady markets, and truly incredible success. Perhaps few in this industry are as concerned as I am, however, about some of the new directions in which this business is moving today, and I hope you will forgive me if the views I will express are controversial. Having been asked to speak on “The Challenge of Change,” I have little recourse but to speak with a blunt candor that reflects a deep concern about the very nature of some of the changes now taking place in the mutual fund field. Let me begin by turning the calendar back ten years, to a morning in March 1977, when I last had the honor of addressing this group.

“Enough” Commencement Address MBA Graduates of the McDonough School of Business by John C. Bogle, founder, The Vanguard Group Upon receiving the Honorary Degree of Doctor of Humane Letters from Georgetown University May 18, 2007 Here’s how I recall the wonderful story that sets the theme for my remarks today: At a party given by a billionaire on Shelter Island, the late Kurt Vonnegut informs his pal, the author Joseph Heller, that their host, a hedge fund manager, had made more money in a single day than Heller had earned from his wildly popular novel Catch 22 over its whole history. Heller responds, “Yes, but I have something he will never have . . . Enough.” Enough. I was stunned by its simple eloquence, to say nothing of its relevance to some of the vital issues arising in American society today. Many of them revolve around money—yes, money—increasingly, in our “bottom line” society, the Great God of prestige, the Great Measure of the Man (and Woman). So this morning I have the temerity to ask you soon-to-be-minted MBA graduates, most of whom will enter the world of commerce, to consider with me the role of “enough” in business and entrepreneurship in our society, “enough” in the dominant role of the financial system in our economy, and “enough” in the values you will bring to the fields you choose for your careers. Kurt Vonnegut loved to speak to college students.

Marketing Mutual Fund Shares in the 1980’s Remarks by John C. Bogle, President The Vanguard Group of Investment Companies At a Meeting of The National Investment Company Service Association March 10, 1977 While I am pleased to be with you this afternoon, I must confess to being somewhat apprehensive as well. For I recognize that the steps we at Vanguard have just taken to almost totally restructure our distribution system—to prepare for the 1980’s, if you will—are hardly the stuff of which popularity contests are made, to say nothing of “won.” Further, I am hesitant—for reasons of propriety, caution, and competition (and not necessarily in that order)—to take you through the precise reasons why we have done what we did. But I would emphasize that we have taken two distinctive steps: 1) As of three weeks ago, to convert all of our continuously-offered funds to no-load status. 2) Effective (hopefully) May 1, to “internalize” all distribution activities under the aegis of the Funds themselves, rather than our external adviser, Wellington Management Company; and at the same time to reduce our aggregate investment advisory fees from about $7 million to $5 million per year. It may surprise you to know that, while the first of these two steps is what has received all the attention so far, it is not all clear to me which of the two steps—if either—will have the most significant implications for the industry in the years ahead.

Designing a New Mutual Fund Industry Keynote Address by John C. Bogle, Founder and former Chief Executive The Vanguard Group Before “Vision and Values” The 25th Anniversary Conference of the National Investment Companies Service Association Miami, Florida February 20, 2007 It’s a thrill—and something of a miracle—to be back with NICSA again. In fact, I’ve been privileged to address you pretty much like clockwork every ten years since you began, going way back to March 1977. 1 So this is a happy fourth-decade anniversary speech for me, and I’m deeply honored by your invitation to return. Today, the title of my remarks is “Designing a New Mutual Fund Industry.” But in fact I’ve been struggling to do that for as long as I can remember. When I first spoke to you in 1977, Vanguard had taken, just weeks earlier, the third and final giant step to become the unique organization we remain today. The first step had been the creation of Vanguard on September 24, 1974, leading to the “mutualization” of the Wellington Management Company mutual funds, then with just $1.4 billion of assets. Under this structure, our funds would employ their own officers and staff, assume responsibility for their own operational, administrative, legal, and shareholder recordkeeping services, and operate on an “at cost” basis. (Yes, we began as sort of a mini-NICSA. Wellington continued its responsibility for all investment management and marketing services.)

The Fox, The Hedgehog, and The Cave In the New Millennium, Age-Old Principles for Mutual Funds Remarks by John C. Bogle Founder and Senior Chairman, The Vanguard Group On Receiving The Robert L. Gould Award of the National Investment Companies Service Association Boston, MA May 6, 1999 The fact that I knew Bob Gould during the last decade of his wonderfully creative and productive life means that I accept this coveted award with the greatest humility. I well remember not only his achievements, but his camaraderie, and most of all his sort of whimsical, mysterious, all-knowing smile as we discussed Vanguard’s odd corporate strategy and our novel approach to shareholder service. I’m not sure whether he twitted me about my statement, published in Forbes magazine in September 1985, that “we don’t intend to be the industry’s technology leader; we can’t afford to be.” But he did not live long enough to learn of a later quotation that I set in large type on a poster and placed in a dummy Forbes magazine at our Vanguard senior management meeting in June 1992: “We intend to be the industry’s technology leader; we can’t afford not to be.” And so Vanguard’s early conversion to information technology began. Late, to be sure, but I believe that, thanks to the brilliant leadership of Robert A.

There, the careful observer will see that the black necktie I’m wearing is awash in little orange tigers, a gift from one of my granddaughters. So my loyalty to my alma mater is uncompromised, and Princeton remains nearest and dearest to my heart, echoing that quotation from Sophocles engraved on a plaque on Goheen Walk on the lower campus: “Stranger, you have reached the noblest home on earth.” And so Princeton is to me tonight, and so Princeton will remain to me forever. I. The Battle for the Soul of Capitalism Let me begin by discussing the deep concerns about the vanishing values of our nation that I expressed in The Battle for the Soul of Capitalism. The Battle begins with a remarkably modest rewriting of the opening paragraph of Edward Gibbon’s The Decline and Fall of the Roman Empire, adapted to the present era. Compare the two first sentences. Gibbon: “In the second century of the Christian Era, the Empire of Rome comprehended the fairest part of the earth and the most civilized portion of mankind.” Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

There, almost 58 years ago, I happened upon the December 1949 issue of Fortune magazine and learned for the first time ____________________ Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

” In some ways these changes were easily foreseen (I’ve reviewed the ancient minutes of our committee meetings) and in some ways totally unforeseen. But the industry survived and thrived, and is wallowing in prosperity today. I reveled in those years of working on industry issues with a classy, integrity-laden group of financial leaders and regulators, dedicated to the public interest. While I haven’t participated in NASD affairs for a long time, it occurs to me that the basic mission remains unchanged. As Mary Schapiro, your chief executive, pointed out recently, “investor protection and market integrity remain FINRA’s overarching objectives.” So I’m glad to be back, though I note with some vague concern that among your 50 workshops, none discusses mutual funds. This talk should fill that gap. This morning, I’ll focus on investor protection in the mutual fund industry, discussing what can be done to assure that fund investors get a fair shake, or, as I wrote in my senior thesis at Princeton University almost 57 years ago, that “mutual funds must be operated in the most efficient, economical, and honest ___________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

I had come to discuss what was Vanguard’s then shocking pair of decisions to change our marketing strategy and structure: 1. To convert our Funds to no-load status by eliminating all sales charges, thus abandoning the dealer distribution system within which we had worked in partnership for nearly 50 years. 2. To “internalize” our new distribution system, having our Funds directly assume the responsibility for—and the cost of—all marketing activities, reducing our advisory fees more than commensurately, and thus reducing the total expenses borne by the Funds. The first decision was radical; the second, unique. Without precedent to guide us, we were entering a Brave New World. Doing so might seem obvious in retrospect, but it surely was frightening then. But beneath the fear was an underlying confidence far beyond what the facts would have justified. We assumed that the redemptions we might face from disgruntled dealers would not reach avalanche proportions. We also hypothesized that we could not lose much sales volume, for investor purchases of our shares were running at the puny monthly rate of $5 million. As it turned out, ten years later, in January 1987, investor purchases were $1.163 billion, a 200-fold increase. So, our no-load decision, it seems fair to say, has worked out well. We expected to complete the internalization of our distribution activities, as I said to you at that time, “effective (hopefully) May 1, 1977.” We were wrong.finally

Please forgive me for my focus on the Vanguard bond funds in my cost-benefit analysis. Not only do they have by far the lowest expense ratios in the field (usually about 80 percent below competitive norms), but they have few low-cost rivals. (The Vanguard long-term municipal bond funds carry expense ratios of about 16 basis points, 65 percent below the 45 basis points charged by the next-lowest-cost funds.) We are also unusual in our focus on bond index funds, which are virtually alone in having ten-year records. (The pioneering Vanguard Total Bond Market Fund was created in 1986.)

” At the root of the problem, in the broadest sense, was the societal change aptly described by these words from the teacher Joseph Campbell: “In medieval times, as you approached the city, your eye was taken by the Cathedral. Today, it’s the towers of commerce. It’s business, business, business. We had become what Campbell called a ‘bottom-line society.’ But, at least in my view, our society came to measure the wrong bottom line: form over substance, prestige over virtue, money over achievement, charisma over character, the ephemeral over the enduring, even mammon over God.” Let’s start with why you should—indeed must—care about our system of free-market capitalism. I argue that it is the job of every concerned citizen to “uphold the values that once made our corporate and financial enterprises so successful, fairly providing the rewards of investing to those who put up the capital and assume the risks involved. To win the battle to restore the soul of capitalism, it is these values that must prevail.” Why? Because, as I explain, “we require a powerful and equitable system of capital formation if our nation is to overcome the infinite, often seemingly intractable, challenges of our risk- fraught modern world. Our economic might, political freedom, military strength, social welfare, and even free religious values depend upon it.” ____________________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Changes in the nature and structure of our financial markets—and a radical shift in its participants—are making shocking and unexpected market aberrations ever more probable. The amazing market swings we’ve witnessed in the past few months tend to confirm that likelihood. While the daily changes in the level of stock prices typically exceed two percent only three or four times per year, in just one recent month we’ve seen 8 such moves. Ironically, 4 were up, and 4 were down. Based on past experience, the probability of that scenario was . . . zero. So the first—and most basic—point I wish to make today is that the application of the laws of probability to our financial markets is badly misguided. Truth told, the fact that an event has never before happened in the markets is no reason whatsoever to be confident that it can’t happen in the future. Metaphorically speaking, the fact that the only swans we humans have ever observed are white doesn’t mean that no black swans exist. 1 From its September 1929 high of 381 to its July 1932 low of 41, the Dow would drop by an astonishing 90 percent. Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

By so doing, we would be in a position to be the “low- cost provider” in an industry where, as we saw it then—and see it now—cost was, well, everything, the ultimate competitive weapon. Following approval by the SEC and our fund shareholders, we began operations on May 1, 1975. But we were hardly unaware that if our new firm was to shape its own destiny we had to quickly move to control our investment services and distribution services as well. We immediately began that process. Within six months, we had gained our Board’s approval for the world’s first index mutual fund and entered the investment arena. Now known as Vanguard Index 500, its IPO took place on August 30, 1976. The new index fund (“Bogle’s folly”) began with a frustratingly tiny asset base of only $11 1 I also spoke to you in 1999, when I was honored to receive your Robert L. Gould Award for commitment to excellence in shareholder service. All five of my speeches are posted on my Bogle eBlog (note the anagram!), www.johncbogle.com. Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

” Of course, the new game has nothing to do with “my” Vanguard, the investment firm that I created way back on September 24, 1974. Nor is the story of our wonderful organization a “saga of heroes,” save for the multitude of heroes numbered among our now-12,000 member crew who deserve so much credit for their steadfast loyalty and commitment. This philosophy is not new to me. Indeed, I’ve expressed it often over the years, quoting these words of Helen Keller: “I long to accomplish a great and noble task, but it is my chief duty to accomplish humble tasks as though they were great and noble. The world is moved along, not only by the mighty shoves of its heroes, but also by the aggregate of the tiny pushes of each honest worker.” It is these crew members who have dedicated themselves to serving—“in the most efficient, honest and economical way possible” (a phrase I’ve used since 1951)—the now-20 million “honest-to- God, down-to-earth, human beings, each with their own hopes and fears and financial goals” (another phrase I’ve used many times!), who have entrusted Vanguard with the stewardship of their investment assets. _______________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

He believed, if I may paraphrase here, that “we should catch young people before they become CEOs, investment bankers, consultants, and money managers (and especially hedge fund managers), and do our best to poison their minds with humanity.” And in my remarks this morning, I’ll try to poison your minds with a little bit of that humanity. _________ Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

DiStefano in the development of our investment technology and Barbara Grozinski in the extraordinarily skillful application of that technology for our individual shareholders, our investor services are at the top of the fund shareholder ratings today. I have read that Bob Gould had a passion for the mutual fund industry and for improving the quality of service provided to shareholders, and that he sought to develop and implement creative systems and methods to meet demands for new types of funds by a more sophisticated clientele. What Bob did as he sought to achieve these goals helped to set the stage for today’s nearly flawless mutual fund operating platform: well-engineered communication systems; transaction technology; record- keeping precision; a strong control environment; functional redundancy; and detailed contingency plans. In a real sense, the intelligent application of powerful computer technology has shaped the character and development of what Bob Gould must have envisioned 15 years ago as today’s modern mutual fund industry. While I have fully recognized, advocated, and supported Vanguard’s massive information technology investment—in machines and systems and human beings alike—throughout the past quarter century, I’m far from being a creative force in that segment of what we have done. But I think few would disagree that I share Bob’s passion for this industry and for improving the quality of our shareholder services.

From the time of my matriculation in 1947—a shy young kid whose serious education began with two years at Blair Academy—right up to today, many Princetonians paved the way for my career. The first was Charles C. Nichols, Class of 1906, who lent me $60 to pay the General Fee required before I could enroll. (I repaid him shortly after I went to work following my graduation.) The providers of the two endowed scholarships that paid my tuition—the Class of 1918, in memory of Roy S. Leidy, a son of Nassau who tragically died at the Argonne less than a month before the Great War ended; and Mrs. Alexander Maitland, daughter of President James McCosh, in memory of her husband. The professors who did their best to educate me. My fabulous classmates in the Class of 1951, many of whom, over these past fifty years, have become good friends to this intense and determined nerd of college days. (I was not smart enough to avoid long hours of studying.) And Professor Burton G. Malkiel, Graduate School, Class of 1964, with whom I share so many investment principles, and who has both supported me and sharpened my thinking not only in professional circles, but in his two decades of service on the Vanguard Board of Directors. * I give special note to the extraordinary British philosopher Sir Isaiah Berlin, whose 1953 essay “The Fox and the Hedgehog” was the source of my inspiration to use this theme.

And surely “heroes” must also describe those legions of investors who came aboard the good ship Vanguard in the early years of our existence. Often without ever seeing a real person or looking up our credit rating, they sent in their checks to “Valley Forge, PA 19482,” first in small amounts, but then in the millions of dollars, and then in the billions. I believe that these early believers in Vanguard’s mission are also heroes for giving us their blind trust. In return they are enjoying their fair share of the returns generated in our financial markets. I’m confident that they would agree that we’ve measured up to their trust in our vision and our values. The Odyssey, I hardly need tell you, is the story of a hero’s journey, the building of character through overcoming the inevitable reverses of life, and the celebration (in Dr. McGucken’s words) of the classic American spirit that bestows on us the right, and demands of us the duty, to take ownership of our own lives. While a different saga, however, the Vanguard story is not without tangential parallels to Homer’s timeless classic. So at many levels, “Vanguard: Saga of Heroes” ties my story together with your study of entrepreneurship and technology in today’s society. A Few Disclaimers Let me be crystal clear that I make no claim to being a hero. Nor do I claim any particular qualities of leadership for myself.

million. But, in principle, if not in materiality, it was our second giant step forward, for it enabled us to assume responsibility for supervising fund investments for the first time. Within months after the IPO, we took the third necessary step to complete our control over the triangle of mutual fund services—first, administrative services; next, investment services; and finally, marketing services. Our strategy, as I described it in that 1977 speech to NICSA, was to convert our distribution system—overnight and without advance notice—from the commission-based, broker-dealer- sold, demand-push system that we had relied on for a full half-century (and that then permeated the industry) to a new no-load, investor-purchased, supply-pull system. When we took this impulsive but monumental step, there was no evidence—none—that it would work. In fact, mutual fund assets had tumbled from $60 billion to $36 billion during the 1972-1974 bear market—yes, you heard those numbers right!—a 40 percent erosion in our asset base, and the industry was in the midst of a wave of net liquidations that would last for 9 of the next 11 years. That was no fun. And, by the way, yes, it could happen again. “The Times They Were a ‘Changin’” In the midst of that bear market, our vision was simple: “the times they were a’changin’.” When Vanguard began, this was an equity fund business (80 percent of assets in 1975).

approved by the Securities and Exchange Commission until February 1981. To conduct business under a cloud of uncertainty for nearly four long years was a challenge, but we never lost confidence that the Commission would eventually support our Application. And finally, of course, it did. Referring to our two vital decisions, I concluded my decade-ago remarks by saying: “as we move into the 1980s, time will surely tell whether our risky judgment was right or wrong and . . . whether we were correct when we ignored that familiar advice from Lord Keynes: “Worldly wisdom teaches that it is better for reputations to fail conventionally, than to succeed unconventionally.” I believe that outcome of “The Vanguard Experiment: says that, at least in this one case, the worldly wisdom was wrong. But you who know this industry so well can make that judgment. Hits and Errors Given that my talk on “Marketing Mutual Funds in the 1980’s” is now a decade old, it might be fun to discuss for just a few moments two predictions I made then that were right and two that were wrong, as well as two developments that I missed that have come to pass. First, the hits. I modestly give myself an “A+” on pricing structure, boldly having predicted that the 1980s would obscure the then pure dichotomy between load funds and no-load funds.

And in my conclusion, I powerfully reaffirmed the ideals that I hold to this day: The role of the mutual fund is to serve—“to serve the needs of both individual and institutional investors . . . to serve them in the most efficient, honest, and economical way possible . . . The principal function of investment companies is the management of their investment portfolios. Everything else is incidental.” While all of this gratuitous advice from a callow college senior was, alas, largely ignored by the fund industry, the creation of Vanguard as a truly mutual mutual fund group—operated on an “at cost” basis for the benefit of its owners rather than its managers—was my attempt to walk the walk that I talked the talk about all those years ago. Today, I assure you that my youthful idealism remains intact. Indeed, it is shamelessly reflected not only in Vanguard, but in my new book, an expression of my concern about our American society today, my conviction that our system of capital formation is essential to our economic growth and world leadership, and my acknowledgement that much has gone wrong in that system. There is much that needs to be fixed, for “the business and ethical standards of corporate America, of investment America, and of mutual fund America (the three principal elements of the book) have been gravely compromised.” In each arena, I discuss not only what went wrong, but why it went wrong, and how to go about fixing it.

I suggested that while traditional no-load funds—with distribution efforts limited to a reasonable amount of advertising and a modest institutional sales program—would continue to grow, we would see the development of “quasi-no-load funds” with active retail sales forces, “following SEC approval of an ‘asset charge’ for distribution.” Such charges—now officially known as “12b-1” charges—have become part of the very fabric of our industry, though in dimensions and for purposes that I surely never imagined. (Because Vanguard’s distribution application with the SEC involved our Funds—not our adviser—assuming distribution costs, I have been called “the father of 12b-1.” We do not, nor will we, have a 12b-1 plan, but the designation seems to stick. I can empathize with the misgivings that Dr. Frankenstein must have had about his monster.) I also was close to the mark on product design—perhaps “A-“—anticipating both substantial innovation and an expansion of fund offerings to include fixed income funds, not only corporate bond funds, but also municipal bond funds offering a variety of maturities. Alas, Vanguard did not realize much competitive advantage from the three-tiered municipal bond fund we pioneered (Short, Intermediate, and Long Term Portfolios, rather than a single “managed” portfolio), and I failed to conceive of the “single state” municipals. Bond funds accounted for an incredible 75% of industry net cash flow last year.

I have taken Vanguard down the road less traveled by in an industry in which, I fear, group-think is the order of the day. Our departure from industry norms has taken us down a road that has led to considerable growth during the past decade, growth that I believe will not only be sustained, but perhaps even accelerated. So, as the fund industry approaches the new millennium, I would like to discuss my all-too-worldly business ideas on a far loftier philosophical plane that I hope befits the end of one era and the beginning of another, an era in which mutual fund shareholders will finally get the fair shake that they deserve. My theme goes back to the words of two ancient Greek philosophers: a few fragments of the writings of Archilocus, set down around 670 BC; and a portion of Plato’s enduring classic, The Republic, written in about 370 BC. Archilocus has given us timeless wisdom applicable to mutual funds, wisdom that suggests, to me at least, that it’s high time for a major change in direction for this industry. Plato, on the other hand, gives us an allegory that makes it clear how difficult it will be to bring about that long- overdue change. Let’s begin with Archilocus and the most famous fragment of his writing: “The fox knows many things. But the hedgehog knows one great thing.

I’ve reveled in helping to build a better world, solely because, well, it seems like the right thing to do. Finally, while Vanguard is said to be a story of entrepreneurship, I’m not sure, either, of my credentials as an entrepreneur. In fact, the creation of the firm resulted in the conversion of an existing firm to a new corporate structure, one that was specifically designed to provide neither equity participation nor entrepreneurial reward for its creator or its staff. Rather, the whole idea was to put service in the interests of our investors, rather than service in the interests of our management, as the firm’s highest value, and operating—in our own peculiar way—as a not-for-profit enterprise. Idealism and Entrepreneurship But even as I disclaim the credentials of the hero, of the leader, of the business manager, and even of the entrepreneur, I shamelessly proclaim my credentials as an idealist. Even more, I am an idealist who revels in the values of the Enlightenment and holds high his admiration for the brilliance and the character of the great thinkers, great doers, and great adventurers of the 18 th century, men (as it happens, in particular our nation’s Founding Fathers) who give birth to our modern world.being

Only four long years later, on February 28, 1981, after what I am told remains the longest Investment Company Act hearing in history, was our internalization finally approved by the SEC. Conducting business under this cloud of uncertainty—we called it “the sword of Damocles”—was a challenge. But we never lost confidence that the Commission would eventually support our application. Finally, of course, it did. The Commission not only approved our plan, it did so in a decision that was unanimous, sweeping, and robust. Indeed, it was so positive that we ran this excerpt in the 1981 annual reports of our mutual funds. Please listen up here: The Vanguard plan actually furthers the (1940) Act’s objectives by ensuring that the Funds’ directors . . . are better able to evaluate the cost and performance of the funds; improves disclosure to shareholders; and clearly enhances the Funds’ independence.mutual

” It was, of course, about the tiny, but “rapidly expanding and somewhat contentious” mutual fund industry, with “great potential significance to U.S. business.” My fortuitous discovery was, at least in a parochial way, the miracle on which the career I have followed would depend, for I knew that I had found the topic for my thesis. Read today, my thesis sounds terribly idealistic, if not callow. In its final chapter, I concluded that the infant mutual fund industry’s best chance for success lay in giving the shareholders a fair shake: “Its future growth can be maximized by a reduction of sales loads and management fees;” that “the principal function of (mutual funds) is the management of their investment portfolios. Everything else is incidental;” and that serving the interests of shareholders should “be the function around which all others are satellite.” Whether those simple thoughts were naive idealism, idle prattle, or a design for what Vanguard would stand for, I leave to far wiser heads. But my thesis grade did give my class standing a huge boost, and, despite a shaky sophomore year (I almost lost my scholarship, which would have ended my days at Princeton), I graduated magna cum laude. Walter L.Princetonian

In 1951, a mutual fund held the average stock in its portfolio for about six years—investing. Today, the average holding period for a stock in an equity fund portfolio is just over one year— speculation. Neither is that change progress.  We’ve discouraged long-term investors. With the substantial differences in short-term returns that inevitably occur among these different fund styles, investors have come to chase past performance. In 1951, most fund investors just picked funds and held them—on average, for about 16 years. Today, investors trade their funds, now holding the typical fund in their portfolios for a period of only about four years. A negative reversal with unfortunate consequences for our clients.  The ethos of fund managers has changed. Once dominated entirely by small, privately-owned firms and operated by professional investors, the industry is now dominated by giant, publicly- 1 I joined Wellington Management Company in 1951, assumed the position of CEO in 1965, and was fired in January 1974. The creation of Vanguard in September 1974 involved the firm’s assumption of the responsibilities for the operations of the then-Wellington Funds. In 2000, I formed the Bogle Financial Markets Research Center, which remains a unit of Vanguard.

” All of this gratuitous advice from a callow college senior was, alas, largely ignored by fund industry leaders. But the creation of Vanguard in 1974 as a truly mutual mutual fund group—operated on an "at-cost" basis for the benefit of its owners rather than its managers—was my attempt to walk the walk that I had talked the talk about a quarter-century earlier. Today, I assure you that my youthful idealism remains intact. Indeed, it is shamelessly reflected not only in Vanguard, but especially in my two latest books, which express profound concern about the deterioration in the values of our nation’s capitalistic system, in our concept of fiduciary duty, and in the operation of our financial markets. Part II. A Fiduciary Society The fact of the matter is that something has gone profoundly wrong in these critical areas. The root causes of the disease are deep, and the remedies that are required to cure it will not be easy to come by. What we have witnessed, in the words of journalist William Pfaff, is “a pathological mutation in capitalism.” The classic system—owners’ capitalism—had been based on a dedication to serving the interests of the corporation’s owners, maximizing the return on their capital investment.in

fund complex within which each fund can better prosper; enables the Funds to realize substantial savings from advisory fee reductions; promotes savings from economies of scale; and provides the Funds with direct and conflict-free control over distribution functions.2 A Wonderful Coincidence All those nice words have been borne out in the years that followed. In fact, the Commission’s powerful endorsement marked the very moment that the uninterrupted ascendancy of Vanguard began. As 1981 ended, our share of mutual fund industry assets had fallen to just 1.7 percent. Over the next quarter century, it was to increase, without interruption, every single year.3 By 1987 our market share had doubled to 3.5 percent. By 1997, it had doubled again, to 7.3 percent. At 10.5 percent today, our share is on track to double yet again over the next five to ten years. The major reason that what we once called “The Vanguard Experiment” in mutual fund structure and governance has worked in the marketplace is also obvious. It has worked for the benefit of Vanguard shareholders. (Please forgive this commercial message!) Check almost any independent rating of mutual fund investment performance and you’ll see that the returns we have earned for our shareowners have consistently ranked at or near the top among all fund complexes. Most recently, Global Investor ranked us #1 over-all; #1 in international equities, #1 in bonds, and #3 is U.S. Equities.

We seem to blindly accept that financial matters are rational simply because numbers, however dubious their provenance, are definitive. While Postman made the bold assertion that truth is invulnerable to fashion and the passing of time, I’m not so sure. Indeed I would argue that we’ve moved away from truth—however one might define it—to (with due respect to Steven Colbert) truthiness, the presentation of ideas and numbers that convey neither more nor less than what we wish to believe in our own self-interest, and persuade others to believe it too. We manage our truths by managing our numbers. That old bromide of the management consultant, “if you can measure it, you can manage it,” has done us more harm than good. As the 21 st century begins, then, our values have changed, and it is hard to resist conformity with a new society in which, seemingly, everything can be measured. Even Vanguard has emerged as a sort of prototypical 21st century firm, a virtual organization; enormous in size; heavily reliant on process, real- time communications, and computer technology; and managed largely by the contemporary numeric standards of modern management.

(Be clear, please, that I’m not claiming that we demonstrated any extraordinary across-the-board management ability. The lion’s share of our superiority in returns is accounted for simply by our lower costs.) So “the jury is in.” Our system has proven itself—an artistic success for our shareholders and a commercial success for our firm. The simple system actually works. So, you must think, like all ideas that prove themselves on the dog-eat-dog fields of competitive capitalism, Vanguard must have spawned legions of competitors by now . . . Mustn’t we? Well, “No.” Despite our enviable record of growth—an amazing $920 billion of our asset base is the result of that market share increase alone—not a single competitor has adopted the innovative Vanguard structure of truly mutual mutual funds, in which the glorious cornucopia of profits that are the product of organizing, operating, and managing mutual funds are returned to the owners of the mutual funds, rather than going into the pockets of the owners of the fund management companies. Now, one reason that I chose the name “Vanguard” was because it echoed the proud name of HMS Vanguard, Lord Nelson’s flagship at the glorious naval victory of the British over the French at the Nile in 1798. But the second reason drips with irony. The conventional definition of Vanguard is: “the leadership in a new trend.” Yes, we’ve been some leader. Nearly 33 years after our founding, we’ve yet to find our first follower!

Seeking additional portfolio management talent, I merged Wellington with a Boston-based investment counsel firm in 1966. By January 1974, amidst the most ferocious bear market since 1929-1933, my new partners succeeded in firing me. But in the aftermath of the battle, I took a wild risk and formed a new company. I called it Vanguard, a name intended to suggest that its novel structure (more about that later) would one day lead the way in the mutual fund industry. It began as a tiny administrative company—just 27 young employees (crewmembers, as we have called them ever since) and me. Only after a painful, obstacle-ridden, seven-year struggle—at first opposed by the Securities and Exchange Commission—would it finally develop the form and structure that it enjoys today. But it has been built, just as my thesis suggested, on vastly reduced management fees; not merely on reduced sales loads, but no loads; by focusing on prudent management rather than aggressive marketing; and by holding the interests of shareholders paramount. If, as some accounts have it, we do lead the way in this industry, the path may well have been laid in a Princeton thesis written almost 50 years ago.Skulk

But at our core—at least through my idealistic eyes—we remain a prototypical 18th century firm, thriving on our early entrepreneurship, on our simple investment strategies, and on eternal verities such as service to others before service to self, doing our best to hold high the belief that ethical principles and moral values must be, finally, the basis for any enterprise worth its salt. America’s First Entrepreneur In today’s grandiose era of capitalism, the word “entrepreneur” has come to be commonly associated with those who are motivated to create new enterprises largely by the desire for personal wealth or even greed. But at its best, entrepreneurship entails something far more important than mere money. Heed the words of the great Joseph Schumpeter, the first economist to recognize entrepreneurship as the vital force that drives economic growth. In his Theory of Economic Development, written nearly a century ago, Schumpeter dismissed material and monetary gain as the prime mover of the entrepreneur, finding motivations like these to be far more powerful: (1) “The joy of creating, of getting things done, of simply exercising one’s energy and ingenuity,” and (2) “The will to conquer, the impulse to fight . . . to succeed for the sake, not of the fruits of success, but of success itself.” 1 John Bogle and the Vanguard Experiment, McGraw-Hill, 1996.

A question for you: Is it possible that in today’s fund industry, making money for fund investors carries a lower priority than making money for fund managers? But I am not, well, disheartened. Whether or not the actual Vanguard vision is emulated, I expect that the values that are at the top of the Vanguard agenda will gradually work their way into our industry. So, having presented this preamble about the design of Vanguard, our history, and our record, let me now look ahead with you today and honor both the spirit of this conference and the letter of the title of my remarks: “Designing a New Mutual Fund Industry.” 2 SEC Decision “In the Matter of the Vanguard Group” February 28, 1981, p.16. 3 More precisely, it never declined. It was unchanged in 1992-1994 and in 1999.

Certainly, no one could have foreseen this incredible growth, nor the fact that mutual funds in the decade then ahead would be, by almost any measure, the fastest growing industry in America. Related to this “miss” was the cursory treatment I gave to technology. While I noted that the revolution in computerized shareholder accounting systems had been essential to our provision of new products and services, and discussed the need for data processing systems to provide both more complete information to shareholders and better information on which to base our marketing decisions, I nonetheless failed to foresee the giant and sophisticated computer systems that would be necessary simply to keep up with the pace of our incredible growth in shareholder accounts—from 9 million when I spoke to you then to 44 million today. And the word “telephone” did not even appear in my talk. In retrospect, of course, communications technology was quietly to become every bit as important to our growth as processing technology. There is little industry data on the growth of mutual fund operations and services, so let me take the liberty of citing Vanguard’s experience. For perspective, these changes came during a ten year period when our shareholder accounts grew by about four and one-half times, from 350,000 to 1,550,000 (about the same pace as the industry). During the 1977-1986 decade:  The number of our Fund share purchase transactions grew from 60,000 to 2,400,000, a 40-fold increase.

Contrast this strategy with the typical mutual fund strategy, not owning businesses but trading pieces of paper. Few investors are going to be Warren Buffetts, so let’s consider the closest thing to his hedgehog-like strategy available to us mere mortals. What fills the bill is buying a participation in every publicly-held business in America, and holding it forever. Yes, an all market index fund. Managed with virtually no portfolio turnover and operated—as it must be—at minimal cost, such an index fund is simply a hedgehog that enjoys three priceless certainties: (1) a certain participation in the growth of corporate America; (2) certainty that the crafty investment foxes as a group must earn the market’s annual return before costs, but deliver only about 85% of the return after costs; and (3) a certainty that, given its own minimal costs, it will deliver 98% of the market’s annual return to its investors. Clearly, just as the performance data show, the one great thing that characterizes the hedgehog approach—pristine simplicity—is the winning strategy. Perhaps it goes without saying that Vanguard is the industry’s principal hedgehog. While indexing need not be the only hedgehog strategy (witness Warren Buffett), it works, and we are the only firm that is deeply and fiercely committed to index funds.also

handling of men and facts.” It is, he said, “the free capital of the mind the world most stands in need of, spiritual as well as material, which advance the race and help all men2 to a better life . . . No task rightly done is truly private. It is part of the world’s work.” The Economics and Idealism Behind Vanguard’s Founding I’ve tried to dedicate my career to, using Wilson’s words, “a task rightly done.” It was almost 25 years ago to the day when our firm was incorporated. I chose the name “Vanguard” for the new enterprise, hoping to capture the tradition of HMS Vanguard, Lord Nelson’s flagship, which led his victory over Napoleon’s fleet at the Nile 200 years ago. (Nelson’s triumph was recently crowned by The New York Times as the greatest naval battle of the millennium.) If Vanguard has distinguished itself, it is through our mission of stewardship, our single-minded devotion to giving the mutual fund investor a fair shake. It is hardly an exaggeration to say that, without Princeton, there would be no Vanguard. For my interest in this industry sprang to life in the University’s spanking-new Firestone Library, quite by accident, in 1949. There, I stumbled across an article in FORTUNE magazine that described the mutual fund industry as “tiny but contentious.” I decided on the spot that it should be the topic for my senior thesis, which I entitled, “The Economic Role of the Investment Company.

” If it crosses your mind that Franklin’s concepts of service for the greater good of the community and of creativity and innovation designed to improve the quality of life, rather than for personal gain, are rarer than they should be in today’s personal-wealth-driven, often greedy, version of entrepreneurship, you have strong powers of observation. But, however rare, examples do exist. Truth told, the creation of Vanguard (like Franklin’s Contributionship, creating a mutuality of interest between client and manager) reflects the very same values of entrepreneurship and innovation that Franklin held high. The Vanguard Odyssey Now, to the extent that the odyssey of Vanguard is—or at least begins as—my story, let me tell you about it. I do so that you will see that no heroism was involved, that no giant brain drew the design, and that the implementation of our strategy required little in the way of inordinate business skill. Each one of you here tonight, given the opportunities and determination that I have been given, can do the same thing in whatever calling you follow. In our case, simplicity rather than complexity called the tune; the relentless rules of humble arithmetic overwhelmed the need for imponderable statistical proofs; and leaps of faith rather than hard evidence ruled the day. The idea that the shareholder—not the manager—should be king accounts for the lion’s share of our growth.

Nonetheless, there has recently been a hint of “yes” in the air. If industry participants refuse to compete on price, there is an abundance of evidence that industry clients—i.e., our shareholders—are increasingly investing where they are offered a fair shake on cost and value. Just consider the five firms that dominated our industry’s cash flow last year. Together, American Funds, Vanguard, Barclays, Dodge and Cox, and DFA drew net investor capital of nearly $200 billion, fully two-thirds of the $300 billion flow into all long-term mutual funds. Three of these firms are giant complexes known both for their ultra-low costs and their index funds, and the other two have costs that are, if not rock-bottom, significantly below industry norms. Progress at last! As investors increasingly choose lower-cost firms, I’m confident that higher-cost firms will be driven by investors to conform, no matter how powerful the negative impact on their huge profit margins 4 The dollar costs are based on asset-weighted expense ratios of all mutual funds, including bond and money market funds: 1977, 0.62 percent; 1987, 0.72 percent; 1997, 0.78 percent; 2006, 0.69 percent.

Absent industry data, let me illustrate with Vanguard’s experience: our then Twelve Funds held some 1,250 securities. About 1,050 were stocks, priced over Quotron each day; we relied largely on broker price quotations for the remaining 200 issues, mostly bonds. Today, dare I say, things are different. The 65 funds we now administer own the astonishing total of 16,000 securities positions—more than a twelve-fold increase. And the diversity is equally striking— 11,000 U.S. equities, 1,400 foreign equities, 700 corporate bonds, 1,200 municipal bonds, 1,400 U.S. Treasuries and Agencies, and 500 money market instruments!each

” So, thank you President Wilson, for making the departmental thesis a requirement for the bachelor’s degree! It seems problematical that my thesis, as some have generously alleged, laid out the design for what Vanguard would become. But, true or not, many of the practices I specified then would, nearly 50 years later, prove to lie at the very core of the success reflected in the growth of our fund assets from $1 billion in 1974 to $500 billion in 1999. “The principal function of mutual funds is the management of their investment portfolios. Everything else is incidental . . . Future industry growth can be maximized by a reduction of sales loads and management fees . . . Mutual funds can make no claim to superiority over the market averages.” And, with a final rhetorical flourish, funds should operate “in the most efficient, honest, and economical way possible.” Were these words an early design for a sound enterprise? Or merely callow, even sophomoric, idealism? I’ll leave it to you to decide. But whatever the case, it works! 2 In Wilson’s day, of course, “men” was synonymous with “humankind.” We must not forget, however, that it was in his administration that the 19 th amendment (women’s suffrage) was added to the Constitution.

The most assured, direct route to low cost is a corporate structure that is truly mutual: The fund shareholders own the management company that administers the funds and operates on an “at-cost” basis, with each fund paying its share of corporate expenses. Expenses must be held to the bare minimum, the marketing budget modest, and the cost controls stringent—an approach that, to use a brutal but accurate word, is “cheap.” Any large fund complex could easily operate in this mutual hedgehog mode, but of course only one does. Vanguard is, well, unique. The net result is savings for our shareholders that currently exceed $4 billion per year, a huge enhancement in return that in itself adds up to an extra percentage point or more, which often means the difference between “average” and “superior” long-term return relative to peer funds. At the same time, the clients of the hedgehog firm must also be provided with an excellent level of service, distinguished not only by efficiency and automation, but by how they are treated. The hedgehog’s secret—and it is hardly very complex—is what I have said to our crew 1,000 times over: “Let’s treat our clients as human beings—honest-to-God, down-to-earth human beings with their own hopes, fears, and financial goals.” Simply put, that means serving our clients in the same manner as we would like to be served by the honest stewards of our own assets. Wouldn’t anyone want that? Wouldn’t you?

The fact is that Vanguard’s economics, like Wilson’s, were in important measure shaped by idealism. For what distinguishes Vanguard from the typical business enterprise is our mission: To place the interest of our investors before our own commercial interests. Our truly mutual mutual fund structure is unique in the fund industry: The funds’ management is controlled by the fund shareholders, not by an outside management company, and is operated on an “at-cost” basis, not for a hefty management fee. With the substantial profits normally earned by the management company eliminated, this mutual structure has been the major contributor in generating aggregate savings to our investors—and hence added returns—that now approach $20 billion. The other contributor has been our deep, assiduous, slavish, passionate dedication to providing our stewardship to the shareholders who have entrusted their resources to our care at rock-bottom operating costs; that is, “in the most economical way possible.” Down with Costs, and Carthage Too All of this is important only if costs matter. They do. Costs matter. I repeat this phrase so often that one journalist compared me with Cato, the Roman orator whose speeches in the Forum always ended with a call for the defeat of Carthage: “Carthage delanda est.

(Chart 3A) Its 10-year return (reduced by 20 basis points to account for estimated expenses) was 6.72 percent, just a hair higher than the 6.65 percent return of the comparable Vanguard Intermediate-Term Bond Index Fund, oddly enough, the only index fund of its kind in the field with a ten-year history. Vanguard Total Bond Market Index Fund—with more than 70 percent of assets in Treasury and government mortgage-backed bonds and about 30 percent corporate bonds—albeit provided a net return averaging 6.1 percent.

Successful long-term investors like Warren Buffett are almost impossible to identify in advance, so we’ll have to look to an unconventional adversary to take on the foxes and better serve the interest of fund investors. The hedgehog I have in mind, as you might imagine, is Vanguard, a firm that has tried to fill this near-vacuum since our founding in 1974. And the one great thing this hedgehog knows is an utterly simple, self-evident, overarching mathematical truth: The returns of all investors must equal the returns of the stock market as a whole. A return of 10% per year in the market clearly can’t be parlayed into a return of an 11% for the average investor. Equally obvious conclusion: Investor returns, less the costs of investing, must fall short of market returns by the amount of investment expenses. That early insight, such as it may be, reminded me of an idea that, believe it or not, also appeared in that Princeton thesis of a quarter-century earlier. Studying the record, I had concluded that “mutual funds can make no claim to superiority to the market averages.” My readings in the academic journals around the time Vanguard was formed gave powerful theoretical reinforcement to that conclusion, and my careful study of mutual fund returns in the 1945-1975 period added powerful pragmatic evidence that confirmed the inability of fund managers to add value to their investors’ assets.

The Becker Securities survey, for example, shows that the equity securities managed for pension funds by banks had a compound rate of total return over the past decade of 3.7% (net off estimated expenses); by insurance companies, the figure was 3.6%; by private investment counselors, the figure was 3.3%. One the same basis, the average annual return of common stock mutual funds was 5.4%—or something like half again as good! We at Vanguard will be presenting, in the coming months, a much more comprehensive analysis of mutual fund performance vs. the results of other institutional managers. For the summary figures above can only hint at the magnitude and consistency of mutual fund superiority. The common stock mutual funds also, for example, beat each of the other institutional management groups in the 1973-74 bear market, and beat each one again in the 1975-76 bull market. And the balanced mutual funds—how long has it been since anyone mentioned that group—have shown the same degree of superiority (perhaps to an even greater degree) over the total pension fund returns provided by the banks, and the insurance companies, and the private counseling firms. In each case, I should note, the results were achieved with a surprisingly similar balance between stocks and bonds (about a 70/30 ratio).

Affiliated Fund* Assets (million) Mgmt. Fee Rate Other Expenses Expense Ratio Mgmt. Fee Dividend Shares* Fidelity Fund Incorporated Investors* Mass. Inv. Trust Wellington Fund* Average $116 $142 0.41% 0.50 0.50 0.50 0.33 0.40 0.44% 0.31% 0.24 0.16 0.05 -0- 0.20 0.16% 0.72% 0.74 0.66 0.55 0.33 0.60 0.60% $476k 410k 215k 485k 1,200k 616k $566k Management Fee Rates and Amounts, 1950 *Now, respectively, Lord Abbett Affiliated, AllianceBernstein Growth & Income, Putnam Investors, and Vanguard Wellington 3. fund is offering a dividend yield of just 0.4 percent. Where did all the income go? It was slashed by fund expenses. The expense ratio of domestic stock funds averages 1.4 percent, reducing the funds’ gross dividend yield of 1.8 percent to 0.4 percent. Unsurprisingly, then, it appears that the average stock fund earns the stock market’s present dividend yield of 1.8 percent and then consumes fully 80 percent of that yield in fees and expenses. It didn’t need to be that way. When I began my research on this industry in 1950 for my Princeton University thesis, an interesting fact came to my attention. The first mutual fund— Massachusetts Investors Trust, founded in 1924—calculated its expenses, not on the basis of a percentage of assets, but as a percentage of its investment income. During its first 25 years, MIT charged investors the then-standard trustee fee of 5 percent of income.

0.0 0.5 1.0 1.5 2.0 2.5 Vanguard IT Index Fund: 6.65% Leh 5-10 Credit, less 0.20 bps: 6.72 Vanguard Tot Bond Mkt Inst: 6.20% Vanguard Tot Bond Mkt Inv: 6.07% Vanguard IT Inv Grade: 6.43% Avg IT Corp Fund: 5.52% Slope: -1.09 Number of funds: 313 Intermediate-term Corporate Bond Funds 10-Year Returns versus Expenses 3A. Vanguard IT Inv Grade Fund Average IT Inv Grade Fund Volatility (vs index) 85% 75% Quality (A or above) 98% 81% Turnover (5 yr avg) 55% 213% Expense Ratio 0.21% 0.93% 6.44% 5.52% 10-yr Annual Return $8,670 $7,110 Profit on $10,000 Vanguard IT Bond Index Fund 100% 100% 97% 0.17% 6.65% $9,040 3B. Duration 5.2 4.6 5.9 The adjusted annual return of 6.7 percent for the index was more than 20 percent higher than the 5.5 percent return of its average peer. Since the slope of the cost/return line is -1.09 (meaning that each percentage point reduction in cost increases return by 1.09 percentage points), actively managed bond funds as a group in fact earned a lower gross return than either the index fund or the adjusted index. Clearly, relative cost proved to be the principal differentiator in net return. (Chart 3B) Vanguard Intermediate-Term Investment Grade Bond Fund, for example, has an expense ratio of 0.21 percent, less than a quarter of the 0.93 percent expense ratio of its average peer. Similarly, the slightly-longer-duration Vanguard Intermediate-Term Bond Index Fund carries an

Vanguard’s very first strategic decision, made in 1975, only months after we began, was obvious: To form the first market index mutual fund—an unmanaged portfolio of the 500 stocks in the Standard & Poor’s 500 Index—in history. Derided for years as “Bogle’s folly,” it took, unimaginably, another full decade until a single competitor had the guts—or wisdom—to follow. In the words of The Wall Street Journal, the Vanguard Index 500 Fund has become, heaven forbid, “the industry darling.” With $80 billion of assets, our pioneering index fund is now the second-largest mutual fund in the world, well on its way to becoming the largest before the new century arrives. The decisions that followed over the years took the same direction. Following that first 500 Index Fund, we formed index funds covering our entire stock market, a wide variety of U.S. stock market sectors, international equity markets, and the bond market. We also developed stringently-managed bond funds that offered investors market-like portfolios with clearly-defined quality and maturity standards, entailing little trading and operating with minimal expenses. What is more, we shaped most of our managed equity funds to parallel particular investment styles, focusing on long-term horizons, relatively low portfolio turnover, and, yes again, minimal costs, achieved by negotiating fees at arm’s length with external advisory firms. This hedgehog strategy remains the rock on which our investment philosophy rests.

To sum up, there will be a broad range of different markets and sub-markets out t here during the 1980’s. I reemphasize that, in my perception, these markets will continue to exist for the traditional dealer-distributed funds; they will continue to exist for no-load funds. And I hope you will agree with me that the distinction between the two groups is a marketing issue, and not a moral issue. What is important for each fund group is to make sure that its marketing strategy— whichever it selects—is an integrated one. That is, it should embody an internally consistent pricing policy, product line, and target markets—implemented in such a way that they reinforce one another, rather than fragment the overall marketing approach. By now, I hope the broad outlines of our Vanguard strategy are clear; it involves:  a direct appeal to “consumerism” and the differentiated individual market that exists f or no-load funds;  a direct attack on the institutional market, competing both on a cost and performance basis.  an on-going program to reduce our costs of operation and keep them down, both through expense reductions and new pricing methods.  policy and operating control by the Funds themselves, acting in their own interest, of all administrative, shareholder service and distribution activities.  working with our own adviser, at arm’s length and with complete independence, hopefully enhancing the long-term investment performance results of our Funds.

expense ratio of 0.17, explaining almost all of its return superiority over the actively-managed competition (6.65 percent vs. 5.62 percent). In addition, its return benefits from the absence of sales loads. “All bond funds are not created equal.” And that is true of investment grade intermediate-term corporate bond funds, too. The outliers in the chart have usually departed radically from bond market norms. For example, the top performer with that terrific 8.9 percent return (and blessed with no sales loads and a relatively low 0.55 percent expense ratio), held fully 41 percent in credits rated BBB or less, compared to only 2 percent for the index. Overall, the Vanguard managed fund and the Vanguard index fund not only operated at far lower expenses, but maintained significantly higher quality (almost 100 percent A-rated, vs. 81 percent for the average managed fund). In addition, the Vanguard funds exhibited starkly lower portfolio turnover (55 percent and 97 percent, vs. a stunning 213 percent average). That said, both the Vanguard funds were slightly more volatile, carrying a slightly longer duration than the typical managed bond fund (5.2 and 5.9 years respectively, vs. 4.6 years). And so the message echoes. Among intermediate-term taxable bond funds, in terms of maximizing investor return and minimizing quality risk, low-cost funds are superior performers. And over time that annual advantage matters even more!

billion—can replicate the records they achieved when their assets totaled small fractions of these levels. We shall see. However, we can be confident that Vanguard 500 Index, ranking among the top 4 choices, will continue to deliver roughly the stock market’s future return—no more, no less—just what it is guaranteed to do. We also offer too many choices, sowing confusion among participants. We allow too much borrowing, and we now know that, in today’s world of high-employee-turnover, fully 45 percent of those who leave their jobs simply take their money and run. We often also offer participants a self-managed brokerage account, even though it makes it all too easy for employees to invest in a manner that is directly contrary to their own long term interests. Yes, automatic enrollment is a good enhancement, and target retirement funds (properly used) are a wonderful and relatively new option. But we have no monopoly on the affections of retirement plan investors. So it’s in our interest to provide far more investment discipline and far better value in the choices we offer, and to make crystal-clear their importance to plan sponsors and employees. Most important of all, we need to recognize that mutual funds are now a central element in the nation’s overall retirement system, including corporate plans; federal, state, and local government plans; and social security.

But, necessity being the mother of invention, I decided to pursue an unprecedented course of action. The management company directors who fired me composed only a minority of the board of Wellington Fund itself, so I went to the fund board with a novel proposal: Have the Fund and its then-ten associated funds (today there are more than 100), declare their independence from their manager, and retain me as their chairman and CEO. After a contentious debate lasting seven months, we won the battle to administer the funds on a truly mutual basis, under which they would be operated, at cost, by their own wholly-owned subsidiary. With only weeks to go before our incorporation, we still had no name for the new firm. Fate, of course, smiled again. By happenstance, as the battle for the fund board’s approval raged on, I stumbled across a book describing the historic Battle of the Nile, where Lord Nelson sank the French fleet and ended Napoleon’s dream of world conquest. There was Nelson’s triumphant dispatch from his flagship, HMS Vanguard. His words, the proud naval tradition, and the great victory, combined with the leading- edge implication of the name vanguard, were more than I could resist. So on September 24, 1974, The Vanguard Group was born. Ironically, without both the 1951 hiring, which providentially brought me into this industry, and the 1974 firing, which abruptly took me out of it, there would be no Vanguard today.

With a cumulative final value of an initial investment of $10,000 over the past decade growing by $9,040 in the Vanguard Index Fund, more than 25 percent higher than the $7,110 earned for its average actively managed rival, the index strategy proved to be a winning strategy, outpacing an amazing 297 of its 313 peers over the past decade. Importantly, among the 50 top-performing corporate bond funds in that universe, only a single one is a load fund, whereas among the bottom 50, only 4 are no-load funds. Long-Term Municipal Bond Funds Now let’s consider long-term maturities, with a focus on tax-exempt municipal bond funds. Because of complexities in the construction of municipal bond indexes, there are no pure index funds in this category. But the results of the major index in the field (the Lehman Brothers Tax-Exempt 10-Year Municipal Index) confirm the power of indexing in surpassing the returns provided by the average active bond manager.gross

hand, is simply to buy a diversified list of stocks and hold them, well, forever. This is, of course, a fair depiction of the strategy of Warren Buffett. But it is also the driving force in Vanguard’s success: The passively managed market index fund. In its most pristine form, the index fund—operated at a cost best described as trivial—owns a share in every business in America, and never sells it. Who wins, the fox or hedgehog? Well, let’s look at the record. If you had invested $10,000 with the typical mutual fund fox at the outset of this 17-year bull market—the greatest in all history—it would today be valued at $136,000. The same investment with the all-market fund hedgehog would be valued at $182,000. Just owning American business—at low cost—and doing nothing else, resulted in an extra $46,000 in return. The difference lies solely in relative cost. No wonder investors are starting to appreciate indexing. And no wonder the financial foxes hate it. For, as the record shows, foxy active management, with its heavy fees and costs, simply results in a diversion of the market’s returns from the shareholders to the managers.

” Meanwhile, the fund itself is incurring heavy trading costs and charging heady advisory fees, to the point where an electronics fund, for example, cannot conceivably match the return of electronics stocks as a group. (At least an “industry index fund” could do that.) If I am correct in this analysis, today’s specialty stock funds, having come and gone once in the 1940s, will come and go again in the 1980s. When the speculator sours on mutual funds—an eventuality that will accelerate when we get the next sharp market correction—what then do we have to offer the investor and the saver? The obvious and, I think, correct response is “back to basics”—back to broadly-diversified, economically-managed funds with sensible objectives. Indeed, I expect that the pendulum will swing even further away from today’s speculation. If the investor wants (and needs) broad diversification among equities, and if the saver wants (and needs) broad diversification among bonds, perhaps unmanaged stock index funds and bond index funds will become important factors in this industry in the decade ahead. There is not much evidence to support this view. Our stock index fund—Vanguard Index Trust— during its first decade has been, as they say, an artistic but not a commercial success.

I’m fond of saying that I left my old job at Wellington in the same way that I began my new job at Vanguard: “Fired with enthusiasm.” Time does not permit me to describe in detail the Vanguard odyssey that was to follow our fortuitous launch. But its parallels to Homer’s Odyssey, while hardly exact, are nonetheless there. We’ve wasted our own time with the Lotus-Eaters. We’ve been enticed by our own wily Sirens. We’ve sailed uneasily between Scylla and Charibdis. We’ve brazenly defied more than one Cyclops. We’ve been threatened by the wrath of our own Poseidon. And we’ve been temporarily entranced by some bewitching Calypsos. But we’ve survived our now-32-year voyage, and returned home, proud and prosperous, for a brief moment of reflection. Of course we know that life is a journey, not a destination, and a new odyssey lies before us. As you might imagine, it’s difficult for me to believe that such a new voyage could have the excitement and challenge of Vanguard’s first one. After all, putting a new name on the map, creating a unique new structure, and establishing a new set of ethical values can’t recur with regularity. True entrepreneurship or not, (1) we created a new form of governance in the mutual fund industry, a mutual structure in which the interests of fund investors take precedence over the interests of fund managers and distributors.

But in a sector in which the linkage between fund costs and fund returns is not only essentially dollar-for-dollar, but also clearly visible on a daily basis, (simply by comparing relative yields), investors are heavily opting for the lower-cost funds. Nearly one-half of total money fund assets are invested in funds with expense ratios of less than 40 basis points. (Astonishingly, 68 money funds, including that very first fund, get away with ratios of 100 basis points or more.) A Self-Serving Conclusion There are some mutual fund innovations, however, that have well-served fund investors even as they have created no profits for fund managers. I’ll now name six major innovations that meet that standard. (Full disclosure: these comments are self-serving, in that they involve my creation of Vanguard, way back in 1974.) The first is the creation of Vanguard itself, an astonishing innovation in the traditional mutual fund structure, an innovation designed to resolve the dilemma that must be patently obvious after the events that I have chronicled this afternoon: the direct conflict between the interests of fund managers, who make money by gathering assets, no matter what their character or durability; and fund investors, whose interests are ill-served by that strategy. It is a simple truism that, for the fund industry in toto, “the more the managers take, the less the investors make.

3.5 4.5 5.5 6.5 7.5 0 0.5 1 1.5 2 Long-term Municipal Bond Funds 10-Year Returns versus Expenses Vanguard LT Tax-Ex: 5.66% Lehman 10-Yr Muni less 0.20 bps: 5.46% Vanguard Ins. LT Tax-Ex: 5.71% Avg LT Muni Fund: 4.72% Slope: -0.85 Number of funds: 143 Expense Ratio Return 4A. return of 5.66 percent, a comparable index fund, after assumed costs of 0.20 percent, would have provided a 5.46 percent net annual return. By way of comparison, the Vanguard Long-Term Tax-Exempt Bond Fund happened to provide an even higher return of 5.66 percent, net of its tiny expense ratio of 0.15 percent, even less than the costs assumed for the index fund. Once again, low costs lead to higher returns. Each percentage point reduction in costs increases returns by 0.85 percentage points. The 5.66 percent annual return of the long-term Vanguard fund was roughly 20 percent more than the 4.72 percent earned by the average long-term municipal fund, even though many of the actively managed funds were assuming higher risks. The top performing outliers, for example, held barely 50 percent in AAA-rated bonds, compared to 86 percent for the average fund, and 91 percent for the uninsured Vanguard fund. Like the index itself, the Vanguard managed bond fund is broadly diversified and holds a high-quality portfolio: 100 percent rated A or better, even higher than the 86 percent figure for its actively managed peers.

More than any other firm, Vanguard has been the fund industry’s hedgehog, applying its one great thing to pioneer in many of the fund industry’s most productive and investor-friendly innovations: the mutual (investor-owned) structure; the index fund; the tax-managed fund; the money market fund; the management of bond funds in defined asset classes; the direct marketing of shares to investors through no-load funds, without salesmen or commissions; and many others. While we were not always first to adopt these strategies, we have been widely credited as being the driving force in their acceptance, for our single-minded focus on low cost has made them work for investors in an extraordinarily effective way. It was said of Wilson, “he may not have coined all of his vital ideas, but he mined them as no others did.” So too it might be said of Vanguard.

4 million to $395 million. Result: expense ratios have nearly doubled, from 0.57 percent to 1.0 percent. This evidence totally contradicts the consistent stand of the industry, articulated over and over again at the annual membership meetings of the Investment Company Institute, that “the interests of mutual fund managers are directly aligned with the interests of mutual fund shareholders.” It’s just not so. But there is a case—just one, and one with which I am well-familiar—in which the ICI was right. That fund’s assets also soared—from $154 million to $46 billion. But while its expenses leaped from $924,000 to $114 million, the expense ratio actually declined by 60 percent, from 0.60 percent of assets to 0.25 percent. Most importantly, after absorbing 12.5 percent of income in 1951, Wellington Fund’s costs actually absorbed even less of the fund’s income—8.0 percent—in 2006. I attribute this obvious success largely to the facts that (a) The Fund is a unit of Vanguard, a unique mutual mutual fund group owned by its fund shareholders, and is operated on an “at cost” basis; and (b) in the 1980s and 1990s, we vigorously renegotiated the advisory fee scale with our external advisor, demanding that our fund’s owners share in the economies of scale. (Today, the annual advisory fee we pay to Wellington Management Company comes to just 3/100 of 1 percent of assets—a measly three basis points.) And now, a dream.

We have consistently matched the Standard & Poor’s 500 Stock Index within on-half of one percent per year, during a period when the Index itself has been a solid performer—usually outpacing about two-thirds of pension equity accounts. Nonetheless, our modest (by today’s standards) $600 million no-load index fund still finds itself without a counterpart. In an industry where mimicry is a way of life, I am almost embarrassed that our competitors have failed to ape our pioneering product. So, undaunted and perversely, we have formed “Vanguard Quantitative Portfolios,” which will seek to harness the incredible power of the computer to manage a diversified equity portfolio, all the while remaining in lock-step with the Index, but trying to eke out a 2 percent to 3 percent annual performance advantage. This approach toward “relative predictability,” you will note, is essentially diametrically opposite to our industry’s direction today. (We dare to be different!) And, we have also just formed the first publicly-available bond index fund—Vanguard Bond Market Fund. The unmanaged bond indexes, like the unmanaged stock indexes, have been formidable competitors for America’s professional money managers, usually outpacing about two-thirds of pension bond accounts. This Fund too will provide substantial relative predictability to investors. Like our stock index fund, our bond index fund will employ no advisor, pay no advisory fee, and operate at an expense ratio in the 0.25 percent range.

” The seminal Vanguard innovation was to reverse that tautology: “the less the managers take, the more the investors make.” And so we created our novel and unique structure. Rather than having the mutual funds run under contract by the investment manager (the industry’s traditional structure), in business to earn a profit on its own capital, at Vanguard the mutual funds would actually own their management company operating to serve solely the interests of its fund investors, offering its services on an “at-cost” basis, and in business to earn a profit on their capital. This structure may not be—and is not—entirely conflict-free. But the proof of the pudding is in the eating: Vanguard today operates at a weighted expense ratio of about 21 basis points, compared to about 95 basis points for the fund industry. Applying this differential of 74 basis points to our present asset total of $1.3 trillion—up from $1.4 billion when we began—means savings of nearly $10 billion  I don’t have time to discuss in depth another promising fund innovation: “Target retirement funds,” in which the investor selects his year of retirement and the fund gradually moves from a heavy equity position to a substantial bond position as retirement nears.

A Lengthened Shadow? Is Vanguard, too, “the lengthened shadow of one man?” I’m not so sure. But I hope and pray that the shadow of the investment philosophy and the human values—the economics and the idealism—I have championed will lie forever on our firm. For they are the right philosophy and the right values, sound, enduring, even eternal. As for the man himself, I assure you that Vanguard today is far more durable than its now-aging founder, and indeed far greater than any one man. Our superb crew, now numbering more than 10,000, is committed and deeply dedicated to our core values. And our investors, from whom I hear with extraordinary frequency, demonstrate a remarkably sophisticated understanding of what Vanguard is all about. Even as Wilson placed his hopes in the people and believed that the real wisdom of human life is compounded out of the experiences of the common man, so I freely place my trust in the wisdom and common sense of our shareholder-owners, and in their continued recognition of the soundness of Vanguard’s approach to investing. Of all that I admire about Wilson—his powerful intellect; his commanding presence; his graceful, flowing use of the English language; the length of his foresight and the breadth of his vision—I admire most his stubborn, uncompromising idealism, reflected, in a colleague’s view, in “his recklessly, passionately-outspoken, crusading spirit.

(2) We formed the world’s first index fund, a passive portfolio designed simply to provide the returns provided by the stock market, a challenge that precious few portfolio managers have measured up to over time. (3) We developed a new paradigm for bond fund management, using innovative three- tier structure of short-term, long-term, and intermediate-term portfolios that quickly became the industry standard. (4) We abandoned, overnight, a proven broker-dealer, commission-oriented “supply” push distribution system in favor of a new and untried no-sales-charge, demand-pull system for self-motivated investors. None of these changes that we all take for granted today came easily. To accomplish them required a devil-may-care attitude, a blasé disregard for risk, a profound conviction, without hard evidence, that they would work, and the sheer energy required to get it all done. What’s more, they were, well, “contentious.” Despite what we regarded as our noble intentions, the completion of our structure was initially opposed by our industry’s regulatory agency. The Securities and Exchange Commission rejected our structure, and dawdled over our appeal for four long years. When it finally gave us its unanimous approval, it came with a nice bonus and a snappy salute: “The Vanguard plan actually furthers the (1940) Act’s objectives, and promotes a healthy and viable complex in which each fund can better prosper.”

strategy emphasizes prudence, stewardship, and service. This strategy entails a sort of “if-you-build-it- they-will-come” approach, which works only if standards are established to assure that those who do come are served in a first-class fashion. The record is clear that since managers as a group will fall short of market returns by the amount of their costs, the linchpin of the hedgehog strategy is maintaining minimal costs. In the long run, the rewards of investing are determined by the allocation of market returns between the fund shareholders and the managers. To help accomplish this vital goal, Vanguard has chosen a corporate structure, unique in the mutual fund industry. It is truly mutual: The fund shareholders own the management company that administers the funds. Unlike every other company in this business, we operate our enterprise on an “at-cost” basis, with each fund paying its share of corporate expenses. In turn, we hold those expenses to the bare minimum, employing a modest marketing budget and demanding stringent cost controls in every activity we undertake. We are, in a brutal but accurate word, “cheap.” (It is, after all, our clients’ money that we are spending.) The net result is savings for our investors totaling something in the range of $3 billion to $4 billion per year, a huge enhancement in shareholder returns that often makes the difference between “average” and “superior” relative to peer funds.

” He was not above responding to a statement that there are two sides to every question with a curt, “Yes there are. A right side and a wrong side.” Nor was he beyond telling a colleague, “Do as you think best,” while always leaving underneath the veiled injunction, “but do it this way.” And as he freely admitted, he hardly become easier and more placable with age. “The older I get, the hotter I get,” Wilson said—and he was only 52 then! I confess that my colleagues at Vanguard might see these same traits in me. It was Wilson’s stubborn idealism that stood in the way of accomplishing his final goals while at Princeton—a collegiate campus—and while at the White House—a League of Nations. I can only recall F. Scott Fitzgerald’s statement: “Show me a hero, and I’ll write you a tragedy.” But is tragedy truly the right word? Both developments have now come to pass. And for me, whether one finally succeeds or fails, steadfast commitment to one’s own principles and values is what a man’s life is all about.nor

Vanguard LT Municipal Fund Average LT Municipal Fund Volatility (vs index) 91% 82% Quality (A or above) 100% 86% Turnover (5 yr avg) 12% 41% Expense Ratio 0.15% 1.0% 5.66% 4.72% 10-yr Annual Return $7,340 $5,860 Profit on $10,000 Vanguard Ins LT Muni Fund 88% 100% 18% 0.16% 5.71% $7,420 4B. Duration 5.6 6.1 5.7 3.0 3.5 4.0 4.5 5.0 5.5 6.0 0 0.5 1 1.5 2 Vanguard ST Fed: 5.07% Lehman 1-5 Treas, less 0.20 bps: 4.8% Vanguard ST Treas: 4.95% Avg ST Gov’t Fund: 4.43% Slope: -0.67 Number of funds: 90 Expense Ratio Return Short-term Government Bond Funds 10-Year Returns versus Expenses 5A. Over the past decade, $10,000 initially invested in the Vanguard Long-Term Municipal Bond Fund provided a profit of $7,340, 25 percent larger than the $5,860 earned by its average rival, achieving that extra gain with a higher quality portfolio. With low costs, broad diversification, and no serious attempt to outguess the market in long-term tax-exempt bonds, once again the index-like strategy wins. Both Vanguard Long-Term Tax-Exempt Bond Fund and its close counterpart, Vanguard Insured Long-Term Tax-Exempt Bond, ranked in the top decile of the 143 funds in the category. Once again, load funds were conspicuous by their paucity among the top 20 funds (only 4 with loads) and dominated the bottom-20 fund group (18 with loads). Short-Term U.S. Treasury Bond Funds Our sweep of the bond fund arena concludes with an examination of short-term funds investing in U.S. Government obligations.

dollars per year to our fund investors. That’s enough savings to keep our money market and bond funds consistently in the 95 th (or higher) percentile among their peers, and to place our equity funds fairly consistently in at least the 75th percentile in terms of the returns we generate for our shareholder/owners. It is that innovation—based on the common sense observation that costs matter, and that funds should be, well, “of the shareholder, by the shareholder, and for the shareholder”—that has engendered the other major innovations that we have been responsible for over the years. By far the most important of these was our second strategic innovation. Immediately after Vanguard began operations in May 1975, we created the world’s first market index mutual fund, simply tracking the returns of the S&P 500 Stock Index. To do its job, the basic index fund takes diversification to the nth degree. It owns the lion’s share of the entire U.S. market, and thus assures that its investors are guaranteed to capture the gross return of the stock market (or the bond market, or any discrete segment of each). But if this diversification assures that the index fund earns the market’s return, it is rock-bottom costs that assure that it delivers to its investors nearly 100 percent of whatever returns the market may provide. (With its passive strategy, it also virtually eliminates portfolio trading costs, and also provides commensurate tax efficiency.)

defeat.” The qualities that result in compromise, while valuable, even priceless in some circumstances, are rarely responsible for the building of a great institution. Finally, my idealistic view—for which I offer no apologies—is that the mutual fund firm should be of the clients, by the clients, and for the clients, holding their interests above the financial interests of the manager-entrepreneur; providing a service of stewardship to the human beings who place with the firm their assets and their trust alike. And low cost is so central to that view that, even as in Wilson’s case, the idealism that I’ve invested in Vanguard leads to its economics. “And there are other things,” he wrote in his Princeton Inaugural, “besides material success with which we must supply our generation. It must be supplied with men who care more for principles than for money, for the right adjustments of life than for the gross accumulations of profit. The problems that call for sober thoughtfulness and mere devotion are as pressing as those which call for practical efficiency.” President Wilson closed that address with this ringing peroration, with which I close my own remarks this evening: “I have studied the history of America. I have seen her grow great in the paths of liberty and of progress by following after great ideals. Every concrete thing she has done has seemed to arise out of some abstract principle, some vision of the mind.

As Warren Buffett says, “When the dumb investor realizes how dumb he is and buys a low-cost index fund, he becomes smarter than the smartest investors.” Our third major innovation was a reverse innovation. Early in 1977, shortly after the index fund began operations, we eliminated the sales loads on all Vanguard Funds, moving from a supply-driven broker-dealer selling system to a demand-driven system dependent on investors’ buying decisions. That change was designed in part to eliminate any incentive to create those fad-and-fashion funds that so devastated the returns of investors in the earlier eras I’ve described. Our fourth innovation, also precedent-breaking, came in the bond fund sector. Up until 1977, bond funds were just that: “managed” portfolios of bonds whose maturities could be extended or reduced depending on the portfolio manager’s outlook for interest rates. But skeptical that bond managers had— or ever could have—such prescience, we again did the obvious. We launched the industry’s first defined- maturity series of bond funds, including a long-term portfolio, a short-term portfolio, and (I’m sure you know what’s next!) an intermediate-term portfolio, all operated at rock-bottom cost. The idea was to hold broadly diversified portfolios of top-quality bonds (first tax-exempt municipals, later taxables), and maintain essentially constant maturities in each category.

The returns earned by our funds are consistently ranked near the top of our industry, most recently by Global Investor as #1. It’s fair to say, I think, that Vanguard has represented an artistic success for our fund shareholders, and a commercial success for our firm. So our odyssey has been not only long and arduous; it has been exhilarating and rewarding. Liberal Education, Moral Education When I think of the good fortune that has brought me to where I am today, I give the highest order of credit to a set of strong family values and a faith in God, a fine preparation for college at Blair Academy, and the powerful reinforcement and new awakening I received through a liberal education at Princeton University. A few years ago, former Princeton President Harold Shapiro defined these two aims of a liberal education: “One is the importance of achieving educational objectives, a better understanding of our cultural inheritance and ourselves, a familiarity with the foundations of mathematics and science, and a clarification of what we mean by virtue. “The other is the importance of molding a certain type of citizen,” one who is engaged in “the search for truth and new understanding . . . the freeing of the individual from previous ideas, the pursuit of alternative ideas, the development of the integrity and power of reason of individual goals . . . and the preparation for an independent and responsible life of choice.

Vanguard ST Treasury Fund Average ST Gov’t Fund Volatility (vs index) 93% 100% Quality (A or above) 100% 99% Turnover (5 yr avg) 119% 155% Expense Ratio 0.26% 0.88% 4.95% 4.43% 10-yr Annual Return $6,200 $5,400 Profit on $10,000 Vanguard ST Federal Fund 90% 100% 81% 0.20% 5.07% $6,400 5B. Duration 2.2 2.4 2.2 While the Vanguard Short-Term Federal and Treasury funds are not, technically speaking, index funds, they track the index return with remarkable precision, turning in net average annual returns of 4.95 percent and 5.07 percent over the past decade, slightly higher than the index net return of 4.8 percent and outpacing 71 of the 90 short-term government funds. The low-cost, no-load option wins again. Treasurys being Treasurys, investment quality is virtually uniform. (Chart 5B) Both the Vanguard funds and the index itself hold 100 percent of their portfolios in short-term U.S. Government notes, and the actively managed funds hold 99 percent. With its towering 0.88 percent average expense ratio, however, the average short-term bond fund has a lot to overcome. It doesn’t succeed—it can’t succeed—in overcoming that handicap, even by assuming somewhat more volatility risk than the index and the Vanguard funds. The other outliers earning above- market returns did so simply by holding longer maturities, with the highest-returning funds carrying 3.3- to 3.9-year durations, compared to the duration of 2.2 years for the Vanguard funds.

That simple concept of defined-maturity segments revolutionized the bond fund sector, and the three-tier bond portfolio quickly became the industry standard. Our fifth major innovation came in 1992, when we determined to share the obvious economies of scale generated by our largest shareholders. It began with the creation of Vanguard “Admiral” funds, which slashed expenses for large shareholders in our newly created series of U.S. Treasury bills, notes, and bonds, a concept which would later spread to similar Admiral share classes in most of our other funds, to the benefit of these key owners. The sixth major Vanguard innovation—my final example today—is one that, like our bond innovation, would quickly be widely imitated (except, of course, for the low costs): Our creation in 1993, of the industry’s first series of tax-managed funds. Unnecessary taxes are this industry’s Achilles Heel, and we determined to create three funds that would serve the industry’s taxable investors, incorporating both minimal costs and maximum tax efficiency. This series of funds is one more innovation that has sprung from our unique organizational structure. But despite the power of our early innovation, the unremitting growth in our market share, and the growth in Vanguard assets to $1.3 trillion, that structure has yet to be emulated by a single one of our competitors. (Think about why that might be.)

contributing to the highest values of our system of capital formation even as they strive to take personal responsibility for the security of their own financial futures, has been a marvelously worthwhile life’s work. I am infinitely blessed. Returning Full Circle It is wonderfully ironic that the very same 1949 issue of Fortune that inspired my thesis included a feature essay entitled “The Moral History of U.S. Business.” Alas, I have no recollection of reading it at that time. But I read it a few years ago, a half-century later. As I reflect on Vanguard’s two guiding principles of prudent investing and personal service, both seem to be related to the kind of moral responsibility of business that was expressed in that ancient Fortune essay. It began by noting that the profit motive is hardly the only motive that lies behind the labors of the American businessman. Other motives include “the love of power or prestige, altruism, pugnacity, patriotism, the hope of being remembered through a product or institution.” Yes, all of the above. Even as I freely confess to all of these motives—life is too short to be a hypocrite—I also agree with Fortune on the appropriateness of the traditional tendency of American society to ask: “what are the moral credentials for the social power (the businessman) wields?

The tracking of their benchmark, their quality parity, and their extremely low expenses mark the Vanguard Short-Term Treasury Bond Fund and the Short-Term Federal Fund—its counterpart which holds largely agency securities—as the functional equivalents of the Lehman 1–5 Year Treasury Bond Index. While there are no bond funds that track this index, those Vanguard funds are the virtual equivalent of an index fund. (Most of the actively-managed funds carry fees and sales charges (averaging 3 percent), which are incorporated into the rates of return shown.)

A $10,000 investment in the average short-term government fund produced a profit of $5,400, compared to $6,400 for Vanguard’s Short-Term Federal Fund and $6,200 for Vanguard’s Short-Term Treasury fund. It’s simply unbelievable that, given the constraints on maturity in the short-term arena, the need for virtually no credit analysis and the inability to deliver extra value (except by extending maturities), fully 27 of the 90 short-term investment funds carry annual expense ratios of 1 percent or more. Numbers Games Now let’s look behind the figures presented in the foregoing analysis of bond funds in the long-, short-, and intermediate-term maturity groups, and in corporates, municipals, and Treasuries, and play some numbers games. First, the data uniformly point to the compelling advantage of low cost bond funds, and, where available, low-cost bond index funds. And yet cost competition among fund managers is conspicuous by its absence. One can only be appalled, for example, with the fact that there are only 9 long-term municipal bond funds in our list of 143 funds with annual expense ratios of 0.50 percent or less, and perhaps even flabbergasted that there are only two of them with ratios below 0.40 percent. Of course, they are the Vanguard Long-Term and Insured Long-Term Funds, with respective ratios of 0.15 percent and 0.16 percent. By contrast, there are 65 such funds with ratios of 1.00 percent or more, including the, well, champion, coming in at a truly astonishing 1.

Then, too many fund managers—including, as I noted earlier, some of the industry’s largest firms—conspired with favored hedge fund clients to allow rapid short-term trading in fund shares that diluted the returns of their long-term shareholders—a classic example of the change from the days “when there were some things one just didn’t do,” to “everyone else is doing it, so I can do it too.” And I’ve seen both, first-hand. 7. Importantly, fund costs have increased by staggering magnitudes since I joined the field all those years ago. In 1951, with fund assets at $2.5 billion, the average equity fund carried an expense ratio (expenses relative to assets) of 0.77 percent. Last year, with equity fund assets at $6.3 trillion, the average fund carried an expense ratio of nearly double that amount: 1.43 percent. Result, expressed in dollars: fund expenses rose from $15 million to $51 billion—260 times as large.5 Not only have basic fee structures risen, but the staggering economies of scale in managing other people’s money have been arrogated by fund managers to their own benefit. Exceptions to this pattern are rare: Among seven of the eight largest funds of 1951, the average expense ratio has actually increased from 0.60 percent to 1.10 percent. Only one fund actually reduced its costs to investors, from 0.60 percent to 0.32 percent. (That fund would be Vanguard’s Wellington Fund.)

It is but a truism to state of this industry in the aggregate: “The more fund managers take, the less fund investors make.” I am convinced that the coming of public ownership of fund management companies in the late 1950s bears an important share of the responsibility for many of the problems I’ve described in my remarks today: rising costs for investors, and the failure to deliver our huge economies of scale to shareholders; the failure to make the most of our opportunity in retirement planning; the move away from long-term investment in favor of short-term speculation; the asset-gathering mentality and the focus on fads like size and style, all of which have meant staggering profits for fund managers and substantial cumulative shortfalls to returns in the financial markets for fund shareholders. Just check the record. So what’s to be done? Shareholder education is glacially slow, yet time is money. The conglomerates that dominate the industry today—owning 40 of the 50 largest fund complexes—will not soon accept eroded returns on their capital, nor will they willingly return their profits to their clients. So I see no recourse but to put fund shareholders in the driver’s seat of fund governance, thereby at last honoring both the letter and the spirit of the 1940 Act. 5 SEC Decision “In the Matter of the Vanguard Group” February 28, 1981, page 6.

And as for character, whatever moral standard I may have developed, I have tried to invest my own soul and spirit in the character of the little firm I founded all those years ago. On a far grander scale than just one human life, these standards of mind, of heart, and of character resonate—as ever, idealistically—in how we seek to manage the billions of dollars entrusted to Vanguard’s stewardship, and in how I pray that my company will ever see itself, putting the will and the work of a business enterprise in the service of others. The Battle for the Soul of Capitalism Perhaps it is obvious that these values eventually inspired me to expand my horizons beyond the narrow confines of the mutual fund industry in which I’d spent my entire career. The result: The Battle for the Soul of Capitalism, published by Yale University Press late in 2005. In essence, Battle is my cri de coeur about the state of American capitalism and the state of American society today. The Battle is one idealistic book! Just consider its first words, with the dedication to my twelve grandchildren and the other fine young citizens of their generation. With six of them now in college, you students here tonight are part of that generation, and hence of this dedication: “My generation has left America with much to be set right; you have the opportunity of a lifetime to fix what has been broken. Hold high your idealism and your values.

What is necessary is that the governance of mutual funds comports with just what the Act calls for: a board of directors that is beholden first and foremost to the shareholders who elected them. We must eliminate the blatant conflict of interest that exists when the chairman of the fund board is the same person as the chairman of the management company board. (As Warren Buffett says, “negotiating with one’s self seldom produces a barroom brawl.”) For the same reason, we need a board wholly independent of the manager. (The requirement that 75 percent of the directors must be independent is a good beginning, but at Vanguard our outside advisers have zero board representation, obviously without adverse consequences for our shareholders.) Regulations already require an independent legal counsel and a chief compliance officer for the funds themselves, and I strongly favor, at least for the larger fund complexes, a fund staff, responsible to the board, that provides the board with objective and unbiased information on fund costs, performance, marketing, etc. So my dream of fund independence means not only that today’s pending board reforms will be preserved by the SEC, but that groundwork will be laid for an industry that at last acts under the spirit of our federal statute that demands that fund shareholders, through their elected representatives, are placed in the driver’s seat of fund governance.

2.75 2.26 4.67 2.80 2.95 3.74 0.5 1.5 2.5 3.5 4.5 Corporate Government Municipal Load No Load Bond Fund Holding Periods (years)* 6. holding periods for load funds are in fact shorter among the government funds (2.3 vs. 3.0 years), and only slightly longer in the municipal area (4.7 vs. 3.7 years). All of these holding periods, of course, are incredibly short—a problem for load-fund investors but indifferent (in performance impact) for no-load investors. How much is that overstatement? If the typical 4 percent front-end sales charge on bond funds were spread over ten years, the reported rate of return would be reduced by just 4/10 of 1 percent per year. But if the same charge were spread over just three years, the hit, as it were, would come to fully 1.4 percent per year. Tacked on to an expense ratio averaging about 1.1 percent for load funds, that total of 2.4 percent would now consume about 50 percent—one half!—of the 4.7 current yield on the 10-year Treasury. (Even a higher fraction—virtually expropriation—for municipal fund investors, but a slightly lower fraction for corporates.) I can’t help but wonder whether (and to what extent) any of you bond professionals here tonight would invest in a bond fund with such a confiscatory handicap. A Word about Vanguard Of course, you may regard me as biased in my presentation this evening.fees,

Returning Full Circle I now close, surprisingly enough, by returning, full circle, to where I began my remarks: Finding Fortune, as it were, a half-century ago. Of course, I had kept a copy of my thesis, and I obtained years ago a copy of that original mutual fund article from which so much innovation was to emerge. What is more, thanks, to an enterprising Vanguard crew member, I received just weeks ago a mint-condition copy of the entire December 1949 original edition of Fortune. One more mystically fortuitous event occurred: the feature essay was entitled “The Moral History of U.S. Business.” I have no recollection of reading it in 1949. But I read it a few weeks ago, nearly 50 years later. As I reflect on Vanguard’s two guiding principles of prudent investing and personal service, both seem to be related to the kind of moral responsibility of business expressed in the Fortune essay. It began by noting the non-profit motives that lie behind the labors of the American businessman: “the love of power or prestige, altruism, pugnacity, patriotism, the hope of being remembered through a product or institution.” Even as I freely confess to all of these motives—life is too short to be a hypocrite—I also agree with Fortune on the appropriateness of the traditional tendency of American society to ask: “what are the moral credentials for the social power (the businessman) wields?

Conclusion What I’m looking for is an industry that is focused on stewardship—the prudent handling of other people’s money solely in the interests of our investors—an industry that is of the shareholder, by the shareholder, and for the shareholder. Or, if I may refer to the overarching theme of this 25 th Annual NICSA Conference, an industry with both vision and values: a vision of fiduciary duty and shareholder service, and values rooted in the proven principles of long-term investing and of trusteeship that demands integrity in serving our clients. Part of my dream, as you might imagine, is that we’ll ultimately find the first follower of Vanguard’s fund-shareholder-oriented, mutualized, “at cost” model, and then our second follower and then our third, and then more, as we move away from today’s management-company-oriented and increasingly financial-conglomerate-dominated structure. Not necessarily because we as an industry want to change, but because the demands of intelligent investors who “vote with their feet” will drag us kicking and screaming into the Brave New World that I foresee. But even if that sea change to a structure that has clearly worked so effectively for both our investors and for our firm doesn’t happen, I expect that this industry will finally move, at least philosophically, in the direction of the Vanguard model. How close will we get to these lofty—some might say idealistic—goals in the coming decade?

and low portfolio turnover. Whatever my bias, I assure you that I have no economic stake in the growth of our bond funds. I believe in them, not because their growth might enrich me (it doesn’t, and it won’t), but because the relentless rules of humble arithmetic on which that strategy is based will enrich investors. Yes, of course I know that many industry participants argue that since Vanguard’s Fixed Income Group manages most of our bond funds—and does so at our actual cost—we have some sort of unfair advantage over our peers. (To whom?, one might ask.) Well, yes and no. Yes, at Vanguard we now directly manage some $300 billion in fixed-income assets, including our bond index funds. We obviously enjoy huge economies of scale, and our advisory fees come to less than 0.01 percent (one one-hundredth of one percent), representing not a fee, but the actual costs incurred in the Fixed Income Group. On the other hand, there can be little doubt that the $27 million in investment supervisory and research costs we incur is among the largest expenditure on professional talent, expertise, experience, and implementation of any group in our field. The secret, as it were, is that while it takes lots of dollars to attract and retain investment professionals, if you manage enough assets, it can cost investors only a tiny fraction of basis points deducted from the returns they earn.

(Including the costs of administration, finance, legal, and shareholder recordkeeping, the total expense ratios on our internally managed bond funds average about 17 basis points.) Of course that’s a powerful economic advantage for our clients. But the advantage is not limited to bond assets managed at Vanguard by our internal staff. Our external bond fund adviser, Wellington Management Company, manages about $38 billion of total assets in three of our bond funds. Of course we negotiate the best fees we can with Wellington. So, some 12 years ago, anticipating the almost inevitable growth of the bond funds they manage for us, we negotiated sharply sliding fee scales. As assets grew, fee rates would fall. For example, the fee rate on our GNMA fund begins at 2 basis points on the first $3 billion of assets, and declines to 0.8 basis points on assets in excess of $6 billion. With the GNMA Fund’s assets now at $23 billion, Wellington is paid a handsome $2.3 million per year, not bad for a fund investing in U.S. Government-guaranteed mortgage-backed certificates, providing an effective annual fee rate of just one basis point (essentially the same as our internally-managed funds).Bond

$31,200 $38,700 1.0 1.5 2.0 2.5 3.0 3.5 4.0 4.5 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 Vanguard Total Bond Mkt Avg Taxable Bond Fund Actively Managed Bond Funds Versus Vanguard’s Total Bond Market Index Fund Avg. Annual Return 5.9% 7. 7.0% Fund operates at an effective advisory fee rate of 2 basis points, and our High Yield Bond Fund at less than 4 basis points. That is what negotiating fees for the benefit of the fund investor is all about. It’s unfortunate that such negotiation is conspicuous by its total absence—or at least near- total absence—elsewhere in the mutual fund industry. Owning the Bond Market It is because of low investment expenses, low operating expenses, low marketing expenses, low portfolio turnover costs, and the absence of sales charges that Vanguard Total Bond Market Index Fund most clearly reflects the optimal approach to capturing for investors the maximum possible portion of whatever returns the bond market is generous enough to favor us in the years ahead. At the end of 2006, VTBMF, if you will, celebrated its twentieth anniversary. Given the magic of compounding investment returns—and the tyranny of compounding large costs—the Fund’s record during these two decades speaks for itself. Let’s look at the record. (Chart 7) Based on an initial investment of $10,000 on December 31, 1986, the total value on December 31, 2006, would have come to $38,700, a cumulative rate of return of 7.

As you look at that imposing long-term record for low-cost bond indexing, you might be surprised to learn that it could have been even more imposing. In its first decade, beginning with a tiny asset base of less than $100 million and ending at $4 billion, the VTBMF tracking error relative to its target, the Lehman Aggregate Bond Index, was about 45 basis points per year, largely as a result of higher (if still low) expenses and implementation costs on a relatively small asset base. Then, with larger asset size and superior implementation, the annual tracking error fell to an average of 14 basis points through 2001. Then in 2002, misfortune befell the Vanguard Total Bond Market Index Fund, providing lessons that tell us as much about the need for rigorous index management and rigorous control as they do about the risks of active bond management. After some bumps in the summer of 2001, the bond market fell into serious disarray early in 2002, largely because of a series of sharp downgrades in credit quality. The problems continued through June and July, when they reached crisis stage before at last stabilizing. In those two months alone, VTBMF lost nearly 140 basis points of tracking error, bringing the fund’s total lag to its target index for 2002 to an incredible 200 basis points, even more significant since it was derived entirely from the corporate sector (not the Treasury and mortgage-backed sector) which represented only 40 percent of VTBMF’s assets. Why did it happen?

I’m treading on dangerous ground here, so let me offer Vanguard management’s explanation. From the Fund’s semi-annual report on June 30, 2002: Over the past six months, one of the principal differences between the funds and their indexes resulted from a decision by our portfolio managers and analysts to overweight the telecommunications sector. This decision rested on the belief that the prices of these bonds were cheap relative to those in other sectors. While our exposure to telecoms was diversified, the damage in the sector was widespread. The declines in the value of bonds issued by telephone companies and wireless providers accelerated immediately after WorldCom’s implosion in June. To make matters worse, our funds also held larger stakes than their indexes did in bonds issued by several energy-trading companies, which plunged precipitously in the wake of the Enron scandal. In short, our decision to overweight these sectors hurt the returns for our shareholders. The funds also were hurt by our “corporate substitution” policy—buying corporate bonds instead of Treasury securities in the short-term end of the market. From the Fund’s annual report on December 31, 2002: Our “sampling” approach to indexing . . . is necessary because it would be impractical and very costly to own all the bonds in the target indexes.to

Result: over the past twenty years, the typical mutual fund investor has captured only one- quarter—yes, 27 percent—of the compound real (inflation-adjusted) return on stocks that was there for the taking by simply holding the U.S. stock market portfolio through an index fund. (I’m speaking, of course, of the Vanguard 500 Index Fund.) Facing Up to the Reality It must seem obvious that there is an urgent need to face up to these and other failures in the changing world of capitalism. But despite the contentious nature of the issues I’ve just described— broadly reflecting the triumph of the powerful economic interests of the oligarchs of American business and finance over the interests of our nation’s last line investors—it is remarkable that so little public discourse has been in evidence. In the investment community, I have seen no defense of the inadequate returns delivered by mutual funds to investors, nor of our industry’s truly bizarre, counterproductive ownership structure; no attempt by institutions to explain why the rights of ownership that one would think are implicit in holding shares of stock remain largely unexercised; and no serious criticism of the virtually unrecognized turn away from the once-conventional and pervasive investment strategies that relied on the wisdom of long-term investing, toward strategies that increasingly rely on the folly of short- term speculation.

provide our funds with characteristics that are similar to those of their targets. Our portfolio managers and analysts carefully select bonds so that the funds’ weightings among sectors closely match those of the indexes. However, during June and July, the relative performance of some “subsectors”—in contrast to historical experience— diverged widely. At that time, our funds had larger stakes than their indexes in several subsectors. In particular, at a subsector level we had heavier weightings in bonds issued by telecommunications and energy-trading companies. These groups were hit extremely hard by the WorldCom bankruptcy, the Enron scandal, and accounting irregularities at a number of other companies. In recognition of the radical change in the market’s reaction to credit risk, we have made some adjustments to ensure greater diversification and less exposure to lower-quality bonds. Do those comments suggest that active management, reduced diversification, and investing for higher yield had found their way into indexing? I’ll let you make the call. I’m confident that the Vanguard Fixed-Income Group has learned much from the cascade of ill-tidings that led to such a shocking 200 basis point shortfall in the return of VTBMF to its target index, an assumption borne out by the fact that our annual tracking error has returned to its earlier excellence, and in fact looks even better.

While (as we say at Vanguard) “even one person can make a difference,” the task of restoring the vanishing values of business and investing is far larger than one person can handle. We need wisdom and introspection from our business and investment leaders to learn from the lessons of history and to realize that, however profitable the operation of today’s businesses and investment institutions may be to their managers, in the long run today’s practices will be self-defeating. We need investors everywhere to join together to demand the development of that fiduciary society I have described, and we—all of us—need to awaken our fellow citizens to respect that Impartial Spectator who demands virtuous conduct and a return to traditional values by the leaders of our corporate businesses and our investment institutions. Without that, those treasures will indeed vanish.

And so ends my saga of entrepreneurship that can still be built by focusing on human values rather than on the accumulation of personal wealth. To reiterate, this saga is at least tangentially related to Homer’s Odyssey that, happily, still resonates in our literature—the hero’s journey through triumph and disaster, over and over again. The odyssey of Vanguard, while different, is nonetheless a throwback to today’s misguided bottom-line society as well as a reaffirmation of the inspiring moral values of the 18 th century, values that belie today’s pervasive retreat from yesterday’s solid foundation of capitalism. At the same time, we seem to have lost our bearings as a nation and as a society, focusing more on the tools of success—what we can see and count, facts and figures, courses about the superficial—and ignoring the truly essential tools of higher learning such as intellectual curiosity, the rule (and role) of reason, moral vision, and even generosity of spirit, open-mindedness, self-denial, and integrity. So what’s to be done? We each must do our part. Each of you here tonight can prove that “even one person can make a difference.”2 Returning to the theme of “Vanguard: Saga of Heroes,” Brad McQuaid reminded us, in the final sentence of that New York Times article, that “these games should never be finished.” Nor should your odyssey or mine be finished so long as our minds improve, our hearts beat, and our character strengthens.

While life is life and death is death, we must nonetheless “press on, regardless” while we can, and “stay the course” as long as the race continues, two phrases I’ve repeated ad infinitum to my colleagues at Vanguard. But even as I ask you, as I did my grandchildren in the dedication to Battle, to enlist in the mission of building a better world, I remain eager for the excitement of the chase; the idealism of a cause worth betting one’s life on; and the joy of honoring the values of the past as the key to a brilliant future. So dream your own dreams, but act on them, too. Action, always action, is required on the ever- dangerous odyssey that each of our lives must follow. Be good human beings. Respect tradition and study the great thinkers of our heritage. And not only hear me, but reflect, if you will, on what I’ve said this evening. I close now, with some words from Tennyson’s Ulysses (the Greek Odysseus, rendered in Latin) that may explain to you, far better than could any words of my own, the exciting adventures I’ve enjoyed, the conflicting emotions I’ve endured, and the single-minded determination on which I have reflected this evening, as I await with eager anticipation the still-unwritten final chapters of my long career. Ulysses begins by reflecting on his odyssey: I cannot rest from travel: I will drink Life to the lees: All times I have enjoy’d Greatly, have suffer’d greatly, both with those That loved me, and alone.

I am become a name; For always roaming with a hungry heart Much have I seen and known; cities of men And manners, climates, councils, governments, Myself not least, but honour’d of them all; And drunk delight of battle with my peers. Then he considers what may lie ahead: I am part of all that I have met. How dull it is to pause, to make an end, 2 This phrase appears on the plaque awarded to Vanguard crew members who win our “Award for Excellence.”

I think few would disagree that the Vanguard experiment in mutual fund governance; our creation of the first index mutual fund, the first series of defined-maturity bond funds, and the first series of tax-managed funds; our focus on low-costs—not only in expense ratios, but also in eliminating sales charges, and minimizing portfolio turnover costs—has created substantial shareholder value. And surely target-date retirement funds and asset-allocation funds, properly used, also offer substantial potential benefits to investors. But the new wave of innovation is something else again. I’ve long made my position clear that exchange traded funds (ETFs)—index funds that one can trade “all day long, in real time” (as the advertisement says), and overwhelmingly focused on narrow, even minuscule, sectors of the market—are likely to do investors more harm than good. The stolid, simple, classic old index funds—that have, in fact, worked brilliantly—are also being challenged by new funds purporting to be “better” index funds, but in fact are pursuing active investment strategies. Variable annuities are another problem. The original TIAA-CREF annuity was a truly great creation, and with costs that are so low as to barely be believed, deservedly leads the field to this day. But, with rare exceptions, its successors have piled on costs that are totally unacceptable (to investors, although hardly to salesmen).

All of this will require sensitive, objective handling by our regulators, I hope relying on the concept of “principles-based” regulation. Given the unforeseen nature of what may come along, that reliance on judgment is every bit as important as the process we put in place to require full and fair disclosure. So, to you at FINRA, I say, using the principle I regularly commended to our crew when I ran Vanguard, “Let’s always keep FINRA a place where judgment has at least a fighting chance to triumph over process.” I close by expressing again my admiration for our industry’s regulators and enforcement officers. You are doing the Lord’s work, and I heartily endorse, yet again, your mission of investor protection, buttressed by the need for investor education that I’ve emphasized today. Much of your work involves crooks and charlatans. But there are few, if any, of either in the fund business today. Our problem is more subtle: we believe unfailingly in our mission, in our competence, and in our integrity, without ever standing back and asking exactly what have we wrought in changing our traditional values of stewardship into a new set of values focused on asset gathering and marketing. That’s the vital issue that I’ve put on the table today. This dichotomy poses a major challenge to our system of regulation and enforcement. In my Battle book, I quote James Madison: “If men were angels, no government would be necessary.

Building a Better Financial System Remarks by John C. Bogle Founder and former chief executive, Vanguard To “The Old Guard” at Princeton University Princeton, NJ November 7, 2007 It’s always a delight to return to the old stomping ground where I received such a great education and a fabulous start to my long career in finance. During this 55-year period, I’ve developed a strong point of view regarding the nature, the structure, and the efficiency (or, truth told, the inefficiency) of our financial system. In my fifth book, The Battle for the Soul of Capitalism, published by Yale University Press in the autumn of 20051 I’ve explored these issues in depth. 1. Basic Values The fact is that the basic values I hold about investing were formed during my four years studying at Princeton University as an undergraduate. Here, almost exactly 58 years ago, I happened upon the December 1949 issue of Fortune magazine and learned for the first time that something called “the mutual fund industry” existed. When I saw the industry described in the article as “tiny but contentious,” I knew immediately that I had found the topic for my senior thesis, then as now, a requirement for the Bachelor of Arts degree. Over the next 18 months, I spent countless hours researching and writing my thesis. Remarkably little public information was available about this field, then consisting of some 130 mutual funds with assets aggregating just $2½ billion.

Business and Its Publics Reflections by John C. Bogle, Vanguard Founder At the NYU Stern School of Business February 25, 2008 I’m delighted to have the opportunity to speak with you here at NYU/Stern, for a whole variety of reasons: ∑ First, because I’m fascinated by the subject of how business relates to its many publics, and in particular to the media. After all, the opinions held by the general public—the well-informed, if you will, “man on the street”—are largely shaped by what our magazines and newspapers, and our television sets and radios present to us. ∑ Second, because I’m honored to join my friend Tunku Varadarajan on the platform. You’ve seen one of his uncompromising articles (on the Murdoch family), and I’ve had the pleasure of writing twelve op-ed pieces for The Wall Street Journal, most under his aegis as opinion page editor. About half of them pressed my case to reform the industry (you’ve seen “The Spitzer Effect”); many others include pieces that he pushed me to write, often, truth told, when I wasn’t sure I had the ability to deliver. (“Don’t Look for Me at Davos” is a good example.) Hint: under the best of circumstances, some sort of mutual respect between businessmen and journalists result in a synergy that produces a powerful force for public knowledge and education.

HELPING OTHERS Remarks by John C. Bogle, Founder, The Vanguard Group On Receiving the “Others” Award from the Salvation Army Philadelphia, PA May 11, 2011 I am deeply honored to receive the “Others” Award of the Salvation Army, and pleased to have the opportunity to offer some brief reflections about the need, for each one of us here today, to reserve a fair portion of our busy lives for “giving back”—in the spirit of the award—for helping others in the community in which we raise our families, pursue our careers, and live our lives. In the hope of giving some deeper context to my remarks, I’ve taken the liberty of providing complimentary copies of my 2009 book—ENOUGH. True Measures of Money, Business, and Life— at each table. Now in its second printing, I was honored to receive a Foreword from President William Jefferson Clinton, a Prologue from best-selling author and business guru Tom Peters, and an endorsement from Yale Endowment Fund Manager David Swensen. Ironically, David found in the book the very message that I’d like to amplify today: “a challenge for each of us to aspire to become better members of our families, our professions, and our communities.” The Story of Enough. If I simply give you the titles of its ten short chapters, you’ll easily understand what Enough. is all about. Tom Peters described them as “the Ten Commandments:” ______________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management

The Culture That Gave Rise To The Current Financial Crisis Presented by John C. Bogle, Founder and former Chief Executive The Vanguard Group At the Seventh Annual John M. Templeton, Jr., Lecture on Economic Liberties and the Constitution National Constitution Center Philadelphia, PA May 13, 2009 I recently received a letter from a Vanguard shareholder who described the current global financial crisis as “a crisis of ethic proportions.” Substituting ethic for epic is not only a fine turn of phrase; it accurately places a heavy responsibility for the meltdown on a broad deterioration in traditional ethical standards. In fact, The Wall Street Journal retained that phrase as the title of my op-ed essay that was published just three weeks ago. Relying on Adam Smith’s “invisible hand,” through which our own self-interest is said to advance the interests of our communities, our society had come to rely less on strict regulation to govern conduct in the field of free enterprise—in commerce, business, and finance—and to rely more on open competition and free markets to create prosperity and well-being, and to add value to our society. But that self-interest got out of hand, and it spread to the very core of our national culture. Simply put, we became what has been called a “bottom line” society, one in which progress and success are largely measured in monetary terms.

America’s Financial System—Powerful but Flawed A Lecture By John C. Bogle, Vanguard Founder The Phi Beta Kappa National Lecture Series Temple University, Philadelphia, PA November 3, 2010 In all of the talk about the causes of the deep-seated challenges facing our nation— globalization, enormous indebtedness, huge unemployment, the severe recession from which we are now only tentatively emerging, and the stock market crash of 2008-2009—too little attention has been paid to the critical role played by our financial system. Classical economics has tended to make a distinction between the real economy—the production and consumption of goods and services—and the paper economy—the vast network of financial assets and liabilities that is, finally, supported by the productive economy. The fact is that our productive economy and our financial economy are closely, indeed inextricably, interlinked. The principal role of our nation’s financial institutions is to allocate scarce investment capital among our corporations and economic sectors in a way that maximizes the growth potential of our economy. But changes in our financial sector have undermined this goal.

How Calvin Coolidge Could Guide Us Now Remarks by John C. Bogle Founder and Former Chief, The Vanguard Group Before the 50th Anniversary Symposium of the Calvin Coolidge Memorial Foundation John F. Kennedy Presidential Library and Museum Boston, Massachusetts October 7, 2010 I’m deeply honored to offer these closing remarks at this 50th Anniversary Symposium honoring Calvin Coolidge. Earlier today, you heard from experts on his life and times, discussing his strategic vision, his political philosophy, his values, his political instincts, and even more. It would be presumptuous of me to tread again the ground trod by these experts, so let me take this opportunity to discuss some of what I see as Coolidge’s wisdom, and how he might guide us were he living in this perilous era for our nation—an era nonetheless fraught with opportunity—in which we find ourselves as we gather this evening. I’ve never thought of myself as a businessman, nor as an entrepreneur, but rather as one who’s done his best to serve investors, and to force others who lead our giant investment institutions to do the same. In my modest sphere, I emulate—that is, to be clear, to strive to equal—the traits of character which we all associate with “Silent Cal” (although no one has ever called me “Silent Jack.” To the contrary!)

Economic Markets and Public Purpose (With Some Reflections by Adam Smith) A Lecture by John C. Bogle Founder and Former Chairman, The Vanguard Group Before The Reinvestment Fund’s 24th Annual Celebration Philadelphia, PA June 11, 2009 It seems almost fated that I’d come to address you during these days of crisis in our economy and travail in our financial markets, for we have much in common. Both the Reinvestment Fund and The Vanguard Group—the firm that I created almost 35 years ago—are financial service organizations that were created to march to a different drummer, organizations that have done their best to set a new standard—to “rediscover a public purpose,” using a phrase from the title of the recent monograph authored by your Jeremy Nowak and Ellen Seidman—in our investment sector, putting service to the community (in your case) and service to investors (in our case) before service to self. The sad fact is that it is in the field of finance where the seeds of our economic crisis and market travail were sown. The financial sector is easily enough seen as a monolith, driven by opportunism rather than service, by marketing rather than management, by self-interest rather than community good, by complexity rather than simplicity, by short-term speculation rather than long-term investment, and by salesmanship rather than stewardship. Vanguard is among the few—the very few—exceptions to this profile, so it is only appropriate that we meet together today, in common cause.

The Fiduciary Principle: “No Man Can Serve Two Masters” A Lecture by John C. Bogle Founder and former chairman, The Vanguard Group Columbia University School of Business New York City, NY April 1, 2009 This evening, we meet at a time of financial and economic crisis in our nation and around the globe. I venture to assert that when the history of the financial era which has just drawn to a close comes to be written, most of its mistakes and its major faults will be ascribed to the failure to observe the fiduciary principle, the precept as old as holy writ, that “a man cannot serve two masters.” No thinking man can believe that an economy built upon a business foundation can permanently endure without some loyalty to that principle. The separation of ownership from management, the development of the corporate structure so as to vest in small groups control over the resources of great numbers of small and uninformed investors, make imperative a fresh and active devotion to that principle if the modern world of business is to perform its proper function. Yet those who serve nominally as trustees, but relieved, by clever legal devices, from the obligation to protect those whose interests they purport to represent, corporate officers and directors who award to themselves huge bonuses from corporate funds without the assent or even the knowledge of their stockholders . . .

The Age of Fiduciary Duty has Arrived Remarks by John C. Bogle, Vanguard Founder Before the Eastern Chapter of The National Association of Personal Financial Advisers Baltimore, Maryland November 8, 2012 Thanks to all of you for coming out to this important conference. And a special thank you to those of you who use our Vanguard funds with your clients (and often in your own investment portfolios). And thanks to all of you for working with investors—honest-to-God, down-to-earth human beings—and for helping them to meet their financial goals. The vast majority of investors need financial advisors, and you and your firms are likely the soundest approach to that mission. It’s a special honor to join you at your conference once again. On my previous visit in 1999, you honored me with your Special Achievement Award—the first time that your award had been presented to a fund industry executive (as distinct from an academic, regulator, or author). Deserving or not, I am both proud and humbled to hold that distinction. The fact is that I’ve always deeply believed that Vanguard is a natural partner for most independent registered investment advisers. My reasoning (perhaps like all of my reasoning) is simple, straightforward, and mathematical.

Building a Fiduciary Society Remarks by John C. Bogle Founder and former Chairman, The Vanguard Group IA Compliance Summit Washington, DC March 13, 2009 Not so long ago, Rahm Emanuel, President Obama’s chief of staff, expressed one of the eternal verities of our society: “Never allow a crisis to go to waste. (Crises) are opportunities to do big things.” That principle applies in a particularly profound way to the financial sector of our economic society. The crisis in our stock market and in our economy has presented us with the opportunity to do a really big thing—to reform our financial system. Over the past half-century, that system has changed radically, and for the worse. Our old ownership society, in which stocks were owned largely by individuals is long gone and will not return. Its successor, the agency society, now prevails, institutional money managers holding and trading the lion’s share of U.S. stocks and operating in their own financial interests. The present crisis is, in important measure, a reflection of that change, and it gives us the opportunity to build, out of the ashes of our failed agency society, a new fiduciary society in which the interests of the investors who put their capital to work come first. The Financial Crisis There’s no doubt that we have a financial crisis on our hands. In my long career in finance, going way back to 1951, I’ve witnessed ten bear markets (defined as stock market _______________ John C.

Thinking About What Lies Ahead For Investors Remarks by John C. Bogle, Founder, The Vanguard Group at the CFA Society of Washington Washington, DC June 13, 2012 I’m honored by your invitation to return to our Nation’s Capital to provide some perspectives on the current investment environment, and to offer some reflections on the challenges that lay ahead for investment professionals, and of course for our investors as well. I’ll begin by discussing one of the great basics of investing—the simple sources of stock returns—so often overlooked by the short-term horizon s that drive the strategies of so many investors (or is it “speculators”) today. Then I’ll present some reasonable expectations for future returns, and give you my blunt appraisal of the typical 8 percent return assumption that most pension funds are relying on to meet future benefit obligations. I’ll close with some reflections on the many difficult challenges that investors face today. I. The Basics of Investing Let’s begin with some fundamentals. Stock prices, in fact, are derivatives. True! Their value is derived from the present value of a corporation’s future cash flows, in which stocks represent an ownership share. In other words, stocks represent an investment in the intrinsic value of a firm. Sellers decide, in effect, that they will capitalize on the value of those future flows, and buyers use their capital to acquire those flows. In the long run, it is these economics that drive stock price returns.

“When a Man Comes to Himself” A Commencement Address by John C. Bogle Founder and former chief executive, The Vanguard Group1 at The Williamson Free School of Mechanical Trades Media, PA May 28, 2009 First of all, hearty congratulations to each one of you on graduation from this wonderful school. I imagine that Isaiah Vansant Williamson, the man of Scots heritage who founded your school some 120 years ago, is looking down on you from above on this bright afternoon, quietly reveling as 61 of those whom he called “his boys” are handed the diplomas that recognize that you have stayed the course; you have completed it successfully; you now begin a new course in your life. You are no longer boys; you have become men. And somewhere along the long road of life that will follow, each of you will “come to yourself,” an expression that, sadly, has fallen out of use. That is my theme today, inspired by an essay entitled “When a Man Comes to Himself,” written in 1901 by Woodrow Wilson, shortly before he became president of my own alma mater, Princeton University. In 1912, Wilson would become the 28th president of the United States of America. When does a man come to himself? When do you learn who you are? When do you find your place in society? There is no fixed time; we come to ourselves on our own schedule.

Ethical Principles and Ethical Principals Remarks by John C. Bogle, Founder and former chief of Vanguard at The Johnson School at Cornell University Ithaca, New York November 11, 2010 I’m so pleased to return to Cornell and the Johnson School, and honored to have the opportunity to give the inaugural David BenDaniel Lecture Series in Business Ethics. I’ve reviewed the impressive reading list for the Business Ethics course, and was especially struck by the short essay by Professor Radcliffe and by the longer essay by Steven Pinker. Professor Radcliffe reminds us of the obligations that we in business and finance owe to our colleagues, our employees, our companies, our communities, and indeed to our nation. Dr. Pinker makes a strong case that “moral goodness is what gives each of us the sense that we are worthy human beings,” and identifies what he calls “the five spheres” of morality—avoidance of harming others, fairness, community (or group loyalty), authority, and purity. I loved his prophetic concluding quote from Chekov: “Man will become better when you show him what he is like.

If You Can Trust Yourself . . . Remarks by John C. Bogle, Founder and former chief executive, The Vanguard Group To the Student Body at the Roxbury Latin School Roxbury, MA March 30, 2009 It’s a special honor for me to have the opportunity to speak to you young gentlemen of Roxbury Latin School. I hardly need tell you that your school is widely considered to be among the best schools—some say the best—in America. I’m particularly proud to have your schoolmate, my grandson and namesake, John Bogle III, here in the audience. Believe it or not, gentlemen, we have a lot in common. I was once your age—yes, once a seventh-grader, and finally a twelfth grader, and there is much about those years that I carry in my mind to this day—memories of my classmates and especially of my teachers, whom I’ve come to describe as “characters who had character.” They demanded of us boys not only that we study and learn, but that we held high values and developed in ourselves the kind of character to which we were witness every day. I have no doubt that you are finding the same experience right here. What’s more, like Roxbury Latin, Blair Academy, the superb school in New Jersey where I spent my final two school years, was an all-boys school. And so, for that matter, was Princeton University (I guess I should say, “all-men’s school”), where I spent the following four years.

Ethical Principles and Ethical Principals Remarks by John C. Bogle, Founder and former chief executive The Vanguard Group ∞ ∞ ∞ Upon receiving The Exemplary Leadership Award from The Center for Corporate Excellence at The “Charging the Game” Forum Denver, CO November 1, 2006 I’m deeply honored to receive your award. During my now 55-year career in the mutual fund industry I’ve done my best to meet your standard of “consistent ethical leadership.” But I freely confess that, perhaps like all of us, I could have provided even more leadership toward a better corporate and investment America. In whatever years may remain, I pledge to you this evening that I will “press on, regardless” in this quest.1 The title of my remarks this evening arises from, of all things, a typographical error. In a mailing sent out by the Center for Corporate Excellence earlier this year to announce that General Electric would receive your Long Term Excellence in Corporate Governance award, you quoted GE President Jeffrey Immelt on the importance of “sound principals of corporate governance.” But while the quotation said, yes, principals, it clearly meant principles. I can’t help myself from noticing that sort of stuff (query whether it’s a strength or a weakness!), and as I did, it occurred to me that there might be a speech in that distinction.

Financial Management: Profession or Business? Keynote Address by John C. Bogle Founder, Vanguard Group CFA Society of Philadelphia – 70th Anniversary Gala The National Constitution Center, Philadelphia, PA September 25, 2013 It’s wonderful to speak before this capacity crowd as you celebrate the 70th anniversary of the CFA Society of Philadelphia’s founding in 1943. You are a Philadelphia financial institution that has been around longer than I have, but only a bit longer. In July of 1951, I started my business career at Wellington Management Company, so we go back a long time together— 62 years! The topic I’ve selected for my keynote remarks is “Financial Management—Profession or Business?”, a shared interest among all of us here this evening. Let me begin by totally endorsing the stated mission and values of the CFA Institute: “to lead the investment profession globally by promoting the highest standards of ethics, education, and professional excellence for the ultimate benefit of society.” This statement about professionalism and responsible behavior by CFA members reminded me of an article I read in Daedalus, the Journal of the American Academy of Arts & Sciences, in 2005.1 Its theme was that, over the previous 40 years, the nation’s professions had gradually “been subjected to a whole new set of pressures, from the growing reach of new technologies to the growing importance of making money.

Economics, Politics, and the Financial Markets Remarks by John C. Bogle, Founder The Vanguard Group Former Chairman of the Board of Trustees of Blair Academy Blair Academy Reception New York, NY October 14, 2008 I guess that it’s fair to say that the timing of this gathering is, well, fortuitous. Better, I suppose, that I should speak to you after a 900-point rally in the Dow Jones average than speak to you just a few days ago, after a precipitous seven day decline of 2400 points, the culmination of a 40 percent decline from last October’s high. But this evening comes not only in the midst of infinite turmoil in the financial markets, but at the confluence of profound economic challenges (the global banking crisis, the collapse in home prices, and the onset of recession), and the portent of profound political change (our presidential election is exactly three weeks away). One might think that this turmoil has captured the rapt attention—and deep concern—of the American public. But one might be wrong, too. Here, for example, are the hottest searches on NYTimes.com during the week of September 28-October 4. Steve Fossett Elisabeth Hasselbeck FDIC’s failed bank list Heather Locklear Guitars for sale Angelina Jolie

Aspiring to Build a Better Financial World Remarks by John C. Bogle Founder and former chief executive of the Vanguard Group at the 2009 Jake McCandless ’51 Princeton Varsity Club Speaker Series Princeton, NJ April 30, 2009 Honored as I am to be part of the Varsity Club Speaker series, I must confess that I have never been much of an athlete. Alas, my driving determination to compete and to win—whether in life or in business—was all too inadequate to overcome my lack of might and muscle and coordination on the fields of athletic combat. Yet for many reasons, I feel qualified to address you this evening. Even before I entered Princeton as a freshman in 1947, I’ve been a ferocious fan of Tiger sports, reveling in victory and disconsolate in defeat. (It is only in my later years that I came to understand, that, having been witness to both triumph and disaster, I should accept Kipling’s advice, and “treat those two imposters just the same.”) My claim to legitimacy is further buttressed by my credentials as manager of the Athletic Association Undergraduate Ticket Office during my final two years at Princeton. In the early 1950s, we fielded undefeated football teams, and apportioning tickets when Palmer Stadium was sold-out, Saturday after Saturday, was no easy task. But the pay was pretty good, and it was a job that played to my talents, however limited.

Fixing a Broken Financial System Remarks by John C. Bogle Founder and Former Chief Executive, The Vanguard Group Before A Stradley, Ronan, Stevens & Young Assembly Philadelphia, PA February 12, 2009 I’m so pleased with this wonderful turnout—surely an indication that many leaders in our Greater Philadelphia business and legal community are deeply concerned by the financial crisis that continues to unfold as we meet. And I thank Stradley Ronan for giving me the opportunity to present my views to you, as well as their presenting each of you with my newest book—number seven—published just a few months ago. As it happens, in many respects, ENOUGH, anticipated—some say, predicted—the crisis in our markets and our economy. But the book also sends a message about the decline in our society’s character and values that we have witnessed over the past few decades. No one would have been more appalled by what has gone wrong than Stradley’s former senior partner, the late Andrew B. Young, Esq. I benefited greatly from Andy’s mentorship as Wellington Management Company’s counsel during the 25 years we worked together, as well as from the insight and wisdom of this great man for the remaining 25 years of his long life. So I take the liberty of dedicating these remarks to his memory. (Stradley, Ronan, Stevens & Young people here: never forget your fine heritage.

Reflections on the Importance of History- Milestones, Men, and a Moral Society Remarks by John C. Bogle, Chairman, The National Constitution Center And Founder, The Vanguard Group ∞ ∞ ∞ Celebrating 300 years of Presbyterian History Pine Street Presbyterian Church, Philadelphia, PA November 16, 2006 I’m deeply honored by the invitation to address you this afternoon and to salute the Presbyterian Church as we celebrate her 300 th birthday, right where she was born in this City of Brotherly Love. Over these past three centuries, Presbyterianism has moved far beyond the inspiration of its seven founders, with their leader, Francis Makemie, among those six larger- than-life statues that guard the Presbyterian Historical Society, just a few blocks from here. 1 Perhaps they are watching right now to see whether today’s leaders of the church can measure up to their doubtless lofty standards, and whether these leaders continue to protect the ideas and ideals that these giants of yore brought to their relatively new Christian denomination. In the context of this historical milestone, this afternoon I’d like to stimulate your own ideas about history—“the narrative of human affairs and actions”—by focusing on three of its aspects: milestones, men, and a moral society. But please don’t miss the backstory. No talk like this could possibly be prepared without the archivists and historians who honor our heritage by preserving its documents.

A Life, a Career, and a Mission to Build A Better Financial World for Investors Remarks by John C. Bogle, Founder, The Vanguard Group at the “Fabulous Philadelphian Speaker Series” Merion Cricket Club Haverford, PA October 10, 2012 There’s a Biblical saying, from Mark 6:4, that “a prophet is without honor in his own country, and among society in his kindred home town.” There’s doubtless a lot of careers to which that message applies, but there’s surely no evidence of it here in this room tonight. A full house, so many friends of my long lifetime, members of my family. It is actually you who are the “Fabulous Philadelphians” for whom this speaking series is named. Thank you all for coming! I’m going to cover a lot of ground in my remarks. For those of you who are interested in the human side of business, I think you’ll like the first part of my talk; if you’re into finance, the middle part; and if you follow the stock market; the last part. And for the infinite number of subjects I haven’t touched, I’ll leave plenty of time for questions and answers at the end. Since my career, in a sense, began right across Montgomery Avenue from here almost 70 years ago, I decided to title my remarks this evening, “A Life, a Career, and a Mission to Build a Better World for Investors.” For I want to emphasize that, along with the eternal mathematical dynamics of our financial system, the human element inevitably plays a major role.

At the Summit Remarks by John C. Bogle, Founder, The Vanguard Group At the Tiburon Summit XX New York City, NY, April 13, 2011 I’m honored to be with you to receive the Tiburon Summit Award for my long service in the mutual fund industry. Of course I’m pleased to be here, but truth told—after being given fifteen extra years of life following my heart transplant in 1996—I’d be pleased to be anywhere this morning! In a certain sense, I’ll soon reach a certain summit of my own. On July 5, 2011, I’ll complete sixty years of active participation in the mutual fund industry. It was on July 5, all those years ago, when I walked into the offices of my first post-college employer—Philadelphia’s Wellington Management Company. I was nervous, green, and more than a little insecure, but ready to go to work with all the determination, ability, and enthusiasm I could command. I was on my way! Little could I imagine the exciting, bumpy, and often unpaved road that lay ahead when, after reading my Princeton thesis on the mutual fund industry, Wellington founder Walter L. Morgan hired me. “Mr. Bogle,” he generously wrote to our staff, “knows more about this business than we do.” (It was nice to read, but it couldn’t have been true.) In 1951, the firm was a (relatively) big fish in a (very) small industry. We ran but a single fund—the dominant business model of that era—the $120 million Wellington Fund, in an industry whose assets under management had only recently crossed the $3 billion mark.

The U.S. Financial Sector and the Relentless Rules of Humble Arithmetic Remarks by John C. Bogle Founder and former chief executive, Vanguard at New York University New York, NY November 14, 2007 A few years ago, when I was re-reading Other People’s Money, by Louis D. Brandeis, I came across a wonderful quotation. In his book, first published in 1914, Brandeis—who would later become one of the most influential jurists in the history of the U.S. Supreme Court—railed against the oligarchs who a century ago controlled financial America and corporate America as well. He described their interlocking and self-serving interests as, “trampling with impunity on laws human and divine, obsessed with the delusion that two plus two make five.” He predicted (accurately, as it turned out) that the widespread speculation of that era would collapse, “a victim of the relentless rules of humble arithmetic.” He then added this unattributed warning—I’m guessing it’s from Sophocles—“Remember, O Stranger, arithmetic is the first of the sciences, and the mother of safety.” These words hit me like the proverbial ton of bricks. Why? Because the relentless rules of the arithmetic of investing are so obvious, and recognizing the obvious has, I think, been a major contributor to my career. Indeed, it’s been said (by my detractors) that all I have going for me is “the uncanny ability to recognize the obvious.

“Uneasy Lies the Head that Wears the Crown” Remarks by John C. Bogle, Vanguard Founder On Receiving the First FUSE Research Network Award For Lifetime Impact and Commitment to Investors Boston, Massachusetts October 26, 2010 Recent reports trumpeting Vanguard’s coronation as the world’s largest mutual fund manager was, for me, more a time for reflection than a time for celebration of the ascent to industry leadership of that little company that began in 1974 with $1 billion in assets under management and just 28 crewmembers. Even more, it was a time to place our firm’s achievement in the context of the mutual fund industry’s now-76-year history. Which firms preceded us in holding the industry’s asset-size crown? How long did they wear their crown? Why did they lose it? Who took it from them? Where do they rank today? My research led me to one clear conclusion: Uneasy lies the head that wears the crown. * The first fund firm to wear the crown was Massachusetts Investors Trust, America’s first mutual fund. Founded in 1924, MIT held the crown from its inception through 1953, a remarkable reign of 29 years of leadership. At its peak, MIT’s share of industry assets (including the assets of its sister fund, Massachusetts Investors Growth Fund) reached 15 percent in 1950. * Shakespeare wrote this phrase in a short soliloquy by Henry IV, in Part II of the play that bears his name. He was to wear the crown of England for only fourteen years, dying in 1413.management

Comments by John C. Bogle, Founder and Former Chairman of The Vanguard Group On the Concept Release on Auditor Independence and Audit Firm Rotation Submitted as Written Testimony for the PCAOB Public Hearing March 21, 2012 * * * I’m pleased to have this opportunity to comment on my general views on auditor independence and specific views on audit firm rotation. I have been an observer of and participant in auditing issues throughout my 60-year career, most recently as one of four independent members of the Independence Standards Board (from 1997 to 2001, when it ceased operations), appointed by SEC Chairman Arthur Levitt, where we worked with the four CEOs of the major accounting firms to establish more rigorous standards for assuring that our public accountants remained truly independent of the firms that retain them for attestation services. (As it quickly became obvious, that was no mean challenge!) Earlier in 1991 I was named by SEC Chairman Richard S. Breeden to The Market Oversight and Financial Services Advisory Committee. In the private sector, as Vanguard’s chairman, and earlier, as CEO of Wellington Management Company, I was responsible for recommending the appointment of the auditor for our management company and the mutual funds we manage to our Board, and did not do so casually. Along the way, we replaced our long-time auditor Main & Co., with Price Waterhouse. (No enviable task!) But the process was smooth and essentially cost-free to our firm.

The Coming Market Environment and Implications for Financial Innovation Remarks by John C. Bogle, Founder and former Chief Executive The Vanguard Group Before the Financial Planning Association (FPA) Retreat Weston, Florida June 2, 2008 I’m honored by your invitation to address this 2008 Financial Planning Association Retreat. Ever since Vanguard began, now almost 34 years ago, I’ve considered our firm as the natural ally of your firms, for a whole variety of reasons. While I’m not here today to plump for Vanguard, I believe that understanding what these reasons were will set a firm foundation for my remarks: 1. Common Goals. Our primary role is to provide diversified portfolios of securities—whether stocks or bonds, indexed or not—that deliver returns that are highly predictable relative to peer funds with comparable objectives and comparable portfolios. Surely that strategy constitutes the core of the strategies followed by most financial planners. 2. Combined Costs. We believe—passionately!—in providing our services at the lowest possible cost—low expense ratios, minuscule advisory fees (or none!), no sales loads, nominal portfolio turnover costs, and minimal drag from taxes—all with the goal of enabling your clients to garner the highest possible share of the returns that our funds deliver. Result: when we combine our costs with your fees, the total cost is nearly always far below the total costs of most funds . . .

The Joy of Writing— Books, Ideas, Advocacy, and Idealism Remarks on “The Battle for the Soul of Capitalism” by John C. Bogle Founder and former chief executive The Vanguard Group Chairman of the National Constitution Center The Free Library of Philadelphia Philadelphia, PA November 20, 2006 Only a few weeks ago, following my regular completion of the Sunday crossword puzzle in The New York Times Magazine, I worked my way through the acrostic puzzle immediately below it. (The acrostic is a tougher challenge, so I rarely take it on.) I got lucky, completed it, and found in the solution a quotation that provides a nice way to introduce my remarks this evening. 1 The quotation is from Umberto Eco’s The Name of the Rose. Here’s how it read: “A book is a fragile creature. It suffers the wear of time. It fears rodents, the elements, and clumsy hands. So the librarian protects the books against nature and devotes his life to this war with the forces of oblivion.” This quotation seemed particularly appropriate for my own books. For they are not only my way of fighting a war against the forces of oblivion but even more, to change the way that investors think about our financial system. So, I’m deeply honored to be here at the Free Library of Philadelphia to talk about why I love to write, with the focus on my latest book, The Battle for the Soul of Capitalism. 1 I also learned one new word. The definition of “handy manual, from the Greek.

In the Fund Industry, Mutuality and Indexing Rule the Seas A Conversation with John C. Bogle Founder, The Vanguard Group National Rural Utilities Cooperative Finance Corporation Conference on Capital Ideas: Powering into the Future Chantilly, VA November 13, 2012 As the founder of Vanguard way back in 1974, it’s a special honor for me to have this opportunity to discuss our truly mutual structure, and how it is at last beginning to reshape the mutual fund industry. And it seems particularly appropriate, for much like your organization, Vanguard is also a “cooperative.” Our vision, our mission, our principles, and our values are very much like yours. Paraphrasing CFC’s stated mission, “our goal is not to maximize our income, but to offer our shareholders affordable financial products and services, consistent with sound financial management.” So-called mutual funds—they’re not really mutual at all—are quite different; they are largely corporate shells, diversified portfolios of stocks and bonds with no employees of their own. Their few corporate officers usually hold the same posts with the funds’ management company, which organizes the funds, operates them, and provides, in return for a substantial fee, essentially all of the services necessary for the funds’ existence. These services include administration; portfolio strategy and investment selection; and distribution of fund shares to the public. The fund is, from birth, a captive of its management company/adviser.

A Community of Character Remarks by John C. Bogle Founder and former Chief Executive, The Vanguard Group On receiving the 2008 Bonnell Award From the Community College of Philadelphia for “Embodying the Ideals of Innovation, Vision, and Determination” At the 2nd Annual Pathways Breakfast December 16, 2008 Thank you, Mayor Michael Nutter for that glowing and infinitely generous introduction, for your support of the Community College of Philadelphia, and for honoring us with your presence in what I’m sure is yet another busy day as you fulfill your awesome responsibilities as a big-city mayor in a tough economic environment. I’m deeply honored to accept the Bonnell Award from our Community College even as I fear you over-rate me in terms of my credentials as an innovator and a visionary. (Perhaps you’re right about the determination!) As most of you in this audience know, Dr. Allan T. Bonnell was the founding president of the college, and served as its leader from its inception in 1965 until retiring from that post in 1983. Dr. Bonnell is with us this morning, and I ask you to join me in recognizing his pioneering leadership of this great institution. Thank you, too, Dr. Stephen Curtis for continuing that leadership. In my effort to understand the work of CCP, I came upon the Summer 2008 issue of your Pathways magazine. There, I learned that I am but the second person to receive the Bonnell award.

Investing in Times of Market Turbulence Remarks by John C. Bogle Founder and former chief executive, The Vanguard Group The Millennium Lecture Series The Princeton Club of New York New York, NY January 28, 2008 These are turbulent days in the financial markets, and market participants are looking for answers about what they should do. But my answers depend on just who it is that is asking the questions. This distinction is as unique as it is self-evident. If the questioner is a speculator, buying and selling stocks with the focus on their momentary prices, inevitably acting on emotions, and guessing (usually fruitlessly) about how other investors here in the U.S. and around the globe will respond to unpredictable volatility in the world’s stock markets, I’m not sure I have the credentials to advise him. But if I did, I’d say— as I’ve been saying since early August when the U.S. market reached its high—“Get out. And stay out.” At least until the markets settle down a bit. (Of course, I have no ideas when that might be.) If, on the other hand, the questioner is an investor, holding a highly-diversified balanced portfolio that includes bonds and both U.S. and global stocks, with the equities focused on the economics of investing—the dividend yields and potential earnings growth of our corporations— not the emotions reflected in the actions of speculators, I’d say, as I also did last summer: “Don’t do something, just stand there.” Or, perhaps more graciously, “Stay the Course.

Straight from the Heart “Efficiency and Humanity, in Medicine and Finance” Remarks by John C. Bogle, Vanguard founder as the Inaugural Recipient of the Bernard Lown Humanitarian Award at the Mandarin Oriental Boston, MA May 17, 2012 Thank you so very much, Dr. Lown—Bernard—for your generous introduction. It is an incredible (and, I fear, undeserved) honor to be named as the inaugural recipient of your Humanitarian Award. As my cardiologist from 1967 to 1987, you kept me alive, active, and engaged in life for most of the years between my first heart attack in 1961 and my heart transplant in 1996. Without your skilled care and caring I would not be here in Boston tonight, or even here—on this earth. Equally important, our friendship now goes back 55 years, during which you have been my confidante and my conscience, always calling on me to press on in my profession—struggling to make it a better, fairer, more sensible system for our nation’s citizen/investors. Strange as it may seem, both finance and medicine ultimately seek efficiency and humanity. The Oxford English Dictionary II defines a humanitarian as “one who devotes himself to the welfare of mankind at large.” And while your universe of devotion to medicine is far

” The curious irony, however, is that most people either seem to have difficulty recognizing what lies in plain sight, right before their eyes, or, perhaps even more pervasively, refuse to recognize the reality because it flies in the face of their deep-seated beliefs, their biases, and their own self-interest. Paraphrasing Upton Sinclair: “it’s amazing how difficult it is for a man to understand something if he’s paid a small fortune not to understand it.” But only by facing the obvious realities of investing will the intelligent investor succeed. ______________________ *The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

” But far more broadly, I wrote that, “the prime responsibility [of mutual funds] must always be to their shareholders.” And that’s precisely what our industry’s governing statute, the Investment Company Act of 1940, demands: Funds must be “organized, operated, [and] managed” in the interests of their shareholders, rather than in the interests of their directors, officers, investment advisers, or underwriters (distributors). __________________ The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

” This afternoon, I’ll talk about three subjects: (1) why we need not only ethical principles to guide us, but ethical principals to assure their observance; (2) the consequences to our society when traditional professional standards focused on service to the community are superseded by business standards focused on profit-seeking and ultimately, service to self; and (3) the story of Vanguard and the role played by our structure, our strategies, and our values, from which I’ll try to persuade you that “good ethics is good business.management

Basic Values and My Princeton Thesis This distinction between speculation and investment is age-old. Indeed, I first expressed it in my 1951 Princeton senior thesis, “The Economic Role of the Investment Company.” Since then I’ve experienced at least four bear markets, each of which was followed by a bull market that ultimately more-than-erased those painful but often short-lived losses. This experience has only confirmed the basic values that I continue to hold about investing, formed during my study of Economics at Princeton more than a half-century ago. Writing my thesis about mutual funds was a happy accident. Late in 1949, I stumbled upon the December issue of Fortune magazine and learned for the first time that something called “the mutual fund industry” existed. When I saw the industry described as “tiny but contentious,” I knew immediately that I had found my thesis topic. Over the next 18 months, I spent countless hours researching the industry, trying to understand it, and then writing my thesis. Remarkably little public information was available about this field, then consisting of some 130 mutual funds with assets aggregating just $2½ billion. That lucky choice led to a job at fund pioneer Wellington Management Company (founded by Princeton’s Walter L. Morgan, ’20), a career in which I headed up the firm beginning in 1965; did an unwise (even stupid) merger in 1966 that got me fired in January 1974; and started Vanguard nine months later.

During the years that followed, the company grew rapidly. In 1974, Vanguard became Wellington’s successor, and Wellington Fund, with assets now at $57 billion, remains one of our brightest stars. Combined with the assets of its now-170 siblings, that orphan of 1951 is part of a $1.65 trillion fund complex, the largest firm in a giant $12 trillion industry.management

But our society, I think, is measuring the wrong bottom line: not only money over achievement, but form over substance; prestige over virtue; charisma over character; the ephemeral over the enduring; even mammon over God. Dollars have become the coin of the new realm, and unchecked market forces totally overwhelmed traditional standards of professional conduct, developed over centuries. ____________ The views expressed in this speech do not necessarily reflect the views of Vanguard’s present management.

Even better, the job gave me some training in tactics (hiring good people); diplomacy (dealing with angry alumni); and even economics (balancing supply and demand). ______________________ *The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

” As you all probably already know, it’s “enchiridion.” Don’t forget that word; you’ll hear it again later on. Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Alas, in the short- run, returns are driven by emotions. As the great Benjamin Graham put it: “In the short run, the ________ Note: The opinions expressed in these remarks do not necessarily represent the views of Vanguard’s present management.

I applaud The Reinvestment Fund (TRF), and the worthiness of your cause of community development. Through place-based revitalization focused on targeted financial investments, real estate development, and social service, you bring hope to those in the lower reaches of the nation’s economic mainstream. In doing so, according to the standards cited in another Nowak essay, you demand of yourselves: (1) efficiency; (2) minimum intrusiveness into the community; (3) a market-building horizon; and (4) the most direct route to the intended outcome. You also recognize that, since the capital that you put to work does not receive a conventional return on investment, you depend on public subsidy and private philanthropy, all in the name of community development. With the exception of that final point, there are remarkable similarities between TRF and Vanguard. We too have sought a better way to invest the hard-earned dollars of those human beings who have entrusted their savings to our care. I’ve challenged the financial system and done my best to improve it—to build a better world for investors. Vanguard was built on a firm foundation of service to our shareholder-owners rather than service to ourselves, in a unique mutual mutual fund structure in which our fund shareholders actually own the funds’ management company.

Milestones I begin, of course, by marveling at the remarkable achievement of this 300-year milestone by the Presbyterian Church (USA). Our religious institutions are almost alone in 1 I was especially struck by one name: David Caldwell (1725-1821). My twin brother, David Caldwell Bogle was named after our great grandfather David Caldwell Hipkins. Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Bogle is founder and former chief executive of the Vanguard mutual fund group. His career in the financial sector now spans almost 58 years. His seventh book, Enough. True Measures of Money, Business, and Life was published in November 2008. The opinions expressed in this article do not necessarily represent the views of Vanguard’s present management.

Yes, it took determination (and luck, and timing, and the support of a few key directors of the Wellington Fund) to bring into being the first U.S. mutual mutual fund organization run, not in the interests of its managers but of its fund shareholders . . . But Vanguard (despite the name I chose) remains a leader with no followers. Even 38 years later, our firm’s structure has yet to be copied or even emulated, so low in excitement and acclaim that neither Brad Pitt nor Robert Redford have shown any interest in making a Bogle movie. (“Bogleball”? “Bogle-the Sundance Kid”?)

financial institutions which, in the infinite variety of their operations, consider only last, if at all, the interests of those who funds they command, suggest how far we have ignored the necessary implications of that principle. The loss and suffering inflicted on individuals, the harm done to a social order founded upon business and dependent upon its integrity, are incalculable. ______________ Note: The views expressed in this speech do not necessarily reflect the views of Vanguard’s present management.

After all, no matter how strong the ethical principles of the world of business may be, of what use are they without ethical principals to honor them, especially ethical leaders who have the Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management. 1 For the record, this motto of my family has always been taken to mean, press on, regardless of how tough the going, but regardless of how easy the going as well.

I loved those years, and while both Blair and Princeton are now co-educational, I hope that all-boy and all-girl schools will remain as options for our youth for as far ahead as we can see. ____________________ Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management.

Some of you may have gotten there already; most of you will get there before too many more years have passed; some all at once, others imperceptibly, by degrees; and, as Wilson knew, “some men never come to themselves at all,” perhaps the sadness of never finding one’s place in the world, perhaps the tragedy of a life cut short. But given the remarkable skills you have acquired right here on this magnificent campus, the dedicated teachers and mentors who have given of 1 Note: The opinions expressed in this speech do not necessarily represent the views of Vanguard’ present management.

If an adviser were charging clients, say, 1 percent annually for its services (I know that many of you offer different methods of compensation for your services), offering Vanguard’s at-cost, truly mutual funds at (then) 25 basis points of cost would result in an all-in-cost of 1.25 percent annually for your clients. Our typical rival seeking to work with you, however, was charging an average of 1.30 percent for its mutual funds alone, higher than the joint costs of 1.25 percent using Vanguard funds. Together, we could provide good value for clients.

In 1954, MIT (now part of Massachusetts Financial Services, or MFS) lost its crown to Investors Diversified Services, (IDS) which became part of American Express, and then spun off as Ameriprise Funds, and just recently (through a merger), Columbia Funds. (No, I’m unable to rationalize how this kind of trafficking in mutual fund advisory fee contracts advances the interests of shareholders of the mutual funds involved.) IDS also wore the crown for a long time—24 years—through 1978, reaching a peak market share of 14 percent of industry assets. I’m confident that this audience knows who ultimately took that crown away from IDS.* Fidelity’s stunning ascent to industry leadership began in 1979, and it would hold that lead through 2005, a remarkable 26-year record of durability, with its market share peaking at a 13 percent share of industry assets. (You may be puzzled, as am I, why it took the financial press another four years to recognize Vanguard as Fidelity’s successor. Perhaps this oversight is explained by the fact that the firms were neck-and-neck in 2006- 07-08, with Vanguard sometimes ahead by as little as $3 billion, rounding error at these trillion-dollar levels.) In any event, Vanguard now firmly holds the undisputed crown of industry leadership. Our 13 percent market share is rapidly approaching the share level of the previous title-holders. The Vanguard-Fidelity rivalry, however, is rather complex. While our $1.468 trillion asset total exceeds Fidelity’s $1.

Harvard’s corporate strategy guru Michael Porter advises people considering their careers to “pick a good industry,” and when I chose my *The opinions expressed in this speech do not necessarily represent the views of Vanguard’s present management. 1 I’m delighted to report that Battle for the Soul of Capitalism has been selected by Tiger Tomes as its “book-of-the-month” for the Princeton Alumni Education Program in April 2008. Please feel free to participate! http://alumni.princeton.edu/main/education_travel/home_study_programs/book_club/

Yes, I’ve tried to create a business with character and class, holding human values high. That’s a task I’ve yet to complete . . . But it’s not the only task before me, for I’ve yet to climb all Seven Summits, host the Oscars; nor (despite my Scots’ heritage) solve the mystery of Loch Ness; nor been a candidate to manage the Phillies (or even the Red Sox); and it’s too late for me to run for President. (Sorry ‘bout that!) Yes, I’m now writing my tenth book, many of which have been best-sellers . . . But only for a little while. After a single week on the New York Times best-seller list, ENOUGH. was replaced by—I guess it’s okay to say it aloud—Real Sex for Real Women. “Is this a great country or what!” Yes, I’ve been among the strongest advocates in my field for activism in corporate governance . . . But words aren’t the same as deeds, and I’ve yet to see any tangible results whatsoever. “The Silence of the Funds” remains deafening, but I’m not about to give up the mission. Yes, I’ve had a few portraits painted . . . But one sits in my office (it’s a long story), not in the Louvre nor even the Philadelphia Museum of Art. I confess too that there is a larger-than-life sculpture of me on the Vanguard campus . . . But its only function seems to be to allow fund industry leaders to describe me (cynically, of course) as “a saint with a statue.

Today, industry assets exceed $12 trillion, and Vanguard’s assets alone exceed $1.3 trillion, one of the industry’s three largest firms. Think about it: no Princeton, no thesis. No thesis, no fund career. No fund career, no Vanguard. Of course, it pains me even to contemplate that eventuality. Read today, my thesis would probably impress you as no more than workmanlike, perhaps a bit callow, but above all, shamelessly idealistic. And you can read it, for seven years ago it was published by McGraw-Hill as part of John Bogle on Investing: the First 50 Years. (If you wait a half-century, perhaps anything can be published!) On page after page of the thesis, my youthful idealism speaks out, calling again and again for the primacy of the interests of the mutual fund shareholder. At the very opening of my thesis, I get right to the point: Mutual funds must not “in any way subordinate the interests of their shareholders to other economic roles.prime

instructions. (There were no cell phones in those days.) I figured it would take more than a half- hour on two different trolleys to get there. (I had no car.) It was late; I was tired, and, truth told, I was a bit bored. A house fire, for heavens sake! So I skipped the trip and got a report from the firemen when they returned. I called in the story, but the wise rewrite man quickly figured out that I had not actually gone to the scene. “What color was the house?” he boomed. To which I responded, “I’m sorry. I was wrong. I’ll get over there right away.” And I did. The house turned out to be grey, with green trim. The moral of the story, which I urge upon you: “Whatever you do in your careers, do every job with commitment, with professionalism, and with excellence, and never, never take short-cuts.” If you get nothing more out of my remarks this evening on business, please remember that lesson, which has stuck with me ever since, and has represented the standard which I’ve tried my best to honor throughout my long career in the financial field. Complete information and punctilious accuracy are the responsibility of business in all of its communications to all of its constituents, including the media and the public. Let me begin by describing the philosophy that undergirded my actions in dealing with our various publics during my quarter-century as chief executive and then as senior chairman of Vanguard.

leader of a company in crisis and given the responsibility of saving it, I continued to publish papers and write essays, many of which became parts of my later books. Even when I got fired in early 1974 and barely survived a career crisis, I kept on writing. Later in that same year, out of the ashes of that crushing personal defeat, I created a tiny new company—and against all odds, succeeded in building it. (I had lots of help!) Throughout this trying time, my pen was my constant companion. Yes, as it is said, “the pen is mightier than the sword.” That new firm, which I named “Vanguard,” was founded with a truly mutual structure without precedent in the still misnamed mutual fund industry. Its growth would ultimately be driven by an investment strategy that was also without precedent . . . and, yes, that would be the index fund. That combination of a structure designed to serve the public—to serve fund shareholders rather than fund managers—and a strategy dominated by our creation of the world’s first index mutual fund in 1975 have changed the mutual fund industry as we knew it. Operated at rock-bottom cost, that index fund requires no money manager. It simply buys and holds the 500 stocks in the S&P Index, effectively guaranteeing that its investors will earn their fair share of the stock market’s return, neither more nor less, and whether that return is good (mostly) or bad (sometimes).

Such an outcome could never have been predicted. Indeed the odds against Vanguard’s very existence were stupendous. Time after time Lady Luck smiled on me. If she had not done so along the way . . . well, listen to the story: ∑ IF I had not gained admission to Princeton (thanks largely to my two years at Blair Academy, a great independent school), there would be no Vanguard today. ∑ IF I had not majored in Economics and decided to choose a topic for my senior thesis that ignored the classical economists and traditional macroeconomics, there would be no Vanguard today. ∑ IF I hadn’t opened FORTUNE magazine in December 1949, stumbled across page 116 which described the mutual fund industry as “tiny but contentious,” and decided that the industry would be the subject of my senior thesis, there would be no Vanguard today. ∑ IF Mr. Morgan had not made me head of Wellington in 1965—when I was excessively immature, opinionated, and self-confident—I would not have undertaken a really foolish—okay, stupid— 1966 merger with a “go-go” firm with a hot fund (now long gone) and paid too large a share of the firm’s voting power, there would be no Vanguard today.

Vanguard operates on an “at-cost” basis, and our structure and fiscal discipline have resulted in cumulative savings to our shareowners of nearly $100 billion so far, subtracting less value from society than any financial firm on the face of the globe. In short, our rise to dominance in the financial field has come simply because we are (1) structurally correct; (2) mathematically correct; and (3) strategically correct. It is hardly a stretch to say that, although your implementation of those principles is vastly different from ours, you share them in philosophy and spirit. Our core investment strategy is the index fund—a fund that, at its best, simply owns the entire stock market (or the entire bond market). Operated at rock-bottom cost, this strategy guarantees that our shareholders receive neither more nor less than their fair share of whatever long-term returns on investment that our stock and bond markets are generous enough to provide. The index fund, arguably, is an exercise in plain and simple engineering. Think about it. In the 2005 book, Power, Speed and Form. Engineers and the Making of the Twentieth Century,1 the best engineering is described as embodying “efficiency, economy, 1 David P. Billington and David P. Billington Jr., Oxford University Press, 2005.

In the years since I founded Vanguard (1974) and relinquished my role as CEO (1996), our firm’s emphasis on the RIA business has waxed and waned . . . and then waxed again. The rise of the ETF has honed our focus on firms like yours, and our marketing efforts with you have intensified. We now have regional offices across the country available to serve you, representatives to meet person-to-person with you, sharing the goal of focusing above all on the interests of the clients we jointly serve. “Gentlemen, Cut Your Costs!” When I addressed you in 1999, I was also focused importantly on mutual fund costs. (No surprise there!) The title of my remarks was, “Gentlemen … To Save Our Business from Ruin, We Must Reduce Expenses.” That title was taken from a speech given by my great-grandfather Philander Banister Armstrong in a speech to his colleagues in the fire insurance industry in St. Louis, Missouri, way back in 1886. Grandpa Armstrong (as we called him) later turned his career focus to life insurance, and once again became a critic of his own industry. In his 1914 book, A License to Steal: Life Insurance, The Swindle of Swindles, he demanded that “life insurance, one of the necessities of modern civilization, should be furnished at cost . . . Old Line Life Insurance is a crime, and criminals belong in Sing Sing, where there is no license to steal.” Armstrong, obviously, spoke in strong language (he puts me to shame!)

219 total by more than $200 billion, the assets of Vanguard’s long-term funds (stock and bond funds, excluding money market funds) of $1.3 trillion exceeds the $800 billion total of our long-time rival by fully $500 billion. This is not to say that Fidelity now plays second fiddle to Vanguard in all respects. Measured by profits, they are (I think) first in the industry and we are last. Fidelity Management and Research reported operating income last year of $2.5 billion, *There were two interlopers during this long sequence. Merrill Lynch and Dreyfus were the largest fund managers for a brief period during the late 1970s and early 1980s. In both cases, their leadership was attributable to their almost monoline dependence on money market funds, which represented 75 percent or more of their asset base.

(2) Public ownership, with working control usually held by management company officials, but with public investors holding widely diffused amounts of the management company’s shares. Among those 50 major fund groups, ten firms (including T. Rowe Price and Franklin Templeton) operate under this public ownership structure. (3) Conglomerate ownership, under which giant diversified financial firms (including Goldman Sachs and JP Morgan) operate their own mutual fund management companies, often to diversify revenue sources and earn generally steady fee income. In other cases, conglomerates have acquired existing fund management companies (including Massachusetts Financial Services and Putnam), often at substantial acquisition costs. With 30 of the largest 50 fund managers owned by conglomerates, this ownership model has become the industry standard. (4) Mutual ownership, under which the shareholders of the funds actually own the management company, which operates on an at-cost basis. Only one mutual fund complex is truly mutual—Vanguard, the firm that I founded in 1974, then with assets under management of a mere $1.2 billion. While our structure has yet to be emulated or duplicated, Vanguard has become by far the largest firm in the industry, supervising $2 trillion in assets.

fight.” However elusive the destination, the real thrill is the journey, and I’ve had a thrilling career. But however respected and acclaimed the movers and shakers who do their best to excel in their own fields may be, the core of our mission must focus not only on our society, but also on the individual human beings who constitute our society—the macro, to be sure, but let’s never forget the micro. I suppose this is where the word “humanitarian” enters the picture. For my part, I’ve tried to focus on the many human beings who have been clients of Vanguard—now some 15 million shareholders strong, the largest congregation of mutual fund shareholders in the world. For a quarter-century or more I have used these words to describe our mission: Those whom we serve must be treated as honest-to-God, down-to-earth human beings, each with their own individual hopes and fears and financial goals, to treat them as we would expect the honest stewards of our own assets to treat us. We must never let them down. (Hint: the Golden Rule actually works!) I close with this personal reflection: I sometimes fear that I—and many others who have enjoyed the opportunity to have a strong impact on their chosen fields—have focused too heavily on our careers, and not enough on our families. I say that knowing that my wife Eve, five of our six children, four of our twelve grandchildren, my brother Bill, and another five members of our extended family are here tonight.

If one has the patience to wait 50 years, perhaps anything can find its way into the library. The First 50 Years was followed in 2002 by Character Counts, my fourth book, a collection of the speeches I had given to our Vanguard crew over the first three decades of our firm’s history, with some explanatory text added. My idea was to set down the truth about events as they actually happened, not only so that our history wouldn’t be rewritten by others, but so it wouldn’t be rewritten by me. I presented these speeches, warts and all, without editing, so they compose a sort of oral history, without the benefit of hindsight. The Battle for the Soul of Capitalism That brings me to my fifth book, The Battle for the Soul of Capitalism. As 2004 began, I had absolutely no plans—none, nada—for writing another book. But only until I received a letter from Michael O’Malley, senior editor of business and economics for the Yale University Press, who wrote: “I think that your next book will be your best. As your ideas begin to take shape, I was wondering if we might discuss Yale as the publisher of your work.”

∑ IF my new partners had not fired me from my job at Wellington Management Company in January 1974, leaving me with the opportunity to create a new firm with a new mutual structure—designed, as I suggested in that ancient thesis, to be managed in the “most economical, efficient, and honest way possible”—there would be no Vanguard today. ∑ IF the independent directors of the Wellington Funds had not believed in the unprecedented new structure I proposed for the firm, and if senior independent director Charles D. Root, Jr. had not believed in me, there would be no Vanguard today. ∑ IF an aging book salesman had not stopped in my office to sell me some antique prints of the military battles of the Napoleonic wars (the Duke of Wellington, of course, was the hero), and if he had not shown me some prints from the naval battles of the same era, I would never have learned that HMS Vanguard was Lord Nelson’s flagship at the historic Battle of the Nile, and there would be no “Vanguard” today. ∑ IF I hadn’t read Paul Samuelson’s 1974 article “Challenge to Judgment” in the first issue of the Journal of Portfolio Management—jogging my memory of my conclusion in my thesis—mutual funds “can make no claim to superiority over the market averages”—it’s almost inconceivable that we would have started, in 1975, the world’s first index mutual fund.

while The Vanguard Group, manager of the Vanguard funds, earned precisely zero. (As the only mutual mutual fund organization, all of our profits are, in substance, returned to our shareholders.) History has not been kind to those earlier monarchs of the mutual fund kingdom. The MFS market share, which peaked at 15 percent all those years ago, has now fallen below 1 percent. The IDS/Columbia market share also peaked at 15 percent and is now less than 2 percent. And Fidelity’s market share has fallen from 13 percent in 1999 to 11 percent today. What explains these declines? As I look at this history, I date the decline of MFS from 1969, when it abandoned its original unique mutual structure (similar, but not identical to Vanguard’s) in favor of private ownership of its management company. The firm was sold to Sun Life of Canada in 1982; it joined the performance-chasing game; and it saw its composite expense ratio rise from 0.19 percent to 1.20 percent, more than a six-fold rise. IDS operated during the golden age of captive sales forces, capitalized on its huge (insurance-oriented) client base, but ultimately failed to develop a strategy for a world in which giant brokerage firms and no-load funds would dominate fund marketing. As for Fidelity, I see it as a firm heavily oriented toward the superior performance of their funds (especially Magellan) during and beyond the short-lived “Go-Go Era” of the late 1960s, achieved when the firm was managing some $3.

Beginning in the mid-1990s, that combination of mutuality and index funds would produce the colossus that Vanguard has become, the largest mutual fund complex in the world, now managing more than $3 trillion of investor assets. Yes, Vanguard is just “a business,” and it is now a large one. But establishing values has always been more satisfying to me than operating a business. Again quoting John Gardner, “what could be more satisfying than to be engaged in work in which every capacity or talent one may have is needed . . . every value one cares about is furthered.” So why would I retire? I continue to enjoy my challenging and exciting career in the mutual fund industry, soon to enter its 66th year. My books—now ten, perhaps with another one in the offing—have been among my principal means of spreading the word about that still unique structure and that still controversial strategy. I continue to raise hell with a mutual fund industry that is ripe for disruption—call it a “lover’s quarrel.” Conventionally operated funds could serve investors with so much more integrity, harmony, efficiency, and economies than they do today; I’m happy to push them in that direction.

Within eight years, the merger fell apart. But it was the new partners who fired me as the CEO of Wellington Management in January 1974. Within months, I came back as CEO of the Wellington Funds, and started Vanguard as a mutual company that would be responsible for the funds’ operations and the ongoing appraisal of their managers (including, of course, the firm that had just fired me). I quickly took on the task of restoring Wellington Fund to its traditional balanced focus. With the board’s consent, I directed Wellington Management to return Wellington Fund to its original investment values—less focus on growth and more focus on income. Indeed, I presented to Wellington a sample stock portfolio designed to produce a 70 percent increase in the fund’s annual income income dividend over the subsequent five years, and set that goal as our objective. The fund’s portfolio manager was not amused, but he complied, the dividend soared, the objective was met, and the strategy worked. Restoring Wellington Fund to its founding investment values saved it, and today it is once again the industry’s largest balanced fund ($75 billion). Some of you may think of me as the “anti-analyst” because I came to focus on the simple math of investing, the tautology that led to Vanguard’s formation of the world’s first index mutual fund in 1975. Simply put, gross return in the stock market, less the costs of active investing, equals the net returns earned by investors as a group.

heard it here!) Consider these quotations from my Princeton senior thesis, which I completed in 1951. “[Mutual funds] should be operated in the most efficient, honest, and economical way possible . . . Future growth can be maximized by reducing sales charges and management fees . . . Funds can make no claim to superiority over the market averages . . . The principal function of investment companies is the management of [their] investment portfolios. Everything else is incidental . . . The principal role of the mutual fund should be to serve its shareholders.” More than 61 years later, those idealistic words continue to serve as my mantra, as they did when I established Vanguard, and did my best to establish our founding corporate structure, our investment strategies, and our human values. My Long Career Ever since I began my career in the fund industry, those values set forth in my thesis have continued to be at the forefront of my continuing mission to serve the fund shareholders who have entrusted their hard-earned dollars to our care. The validation of those values by the data themselves, by analysts, by Academia, and by the investing public has grown at a rapid pace, even accelerating over the past decade.

creative destruction—new ideas driving out old businesses—actually works to the benefit of society as a whole, for entrepreneurship is the engine of progress and economic advancement. Why is it that the public non-profit institutions that focus on faith, enlightenment, and moral values—and certainly on service to others before service to self—have had so much greater staying power than their private corporation counterparts? Could it be that society ultimately places a lesser value on institutions that focus more heavily on profits than on building better products and providing better services to customers? Or that while they cannot survive without creating value for others, these private institutions are expressly designed to serve their owner/stockholders? (Be clear, please, that I’m not arguing that, at its best, capitalism is bad; rather, that it is too often short-sighted.) While I’ll let you muse about these existential questions, I will say (if you’ll forgive this personal note) that I founded Vanguard on a principle quite the opposite from every other investment management firm in the mutual fund field—a truly mutual structure designed to serve the fund shareholders—our clients—rather than the management company owners. With Wellington Fund—founded by Walter L. Morgan in 1928, the oldest member of The Vanguard Group—we’ll be joining that 100-year club just a few decades from now. (I’m actually already planning the celebration.)

My books and essays constitute a major force in my goal of driving that change, of earning the trust of investors, and of explaining Vanguard’s mission to give them a fair shake. Truth told, I find it hard to separate my writings from my efforts to build Vanguard. Among other things, these books describe why I strived to shape a new kind of institution, and then how I went out and did it. John Gardner writes that in his long experience he had uncovered “pervasive examples of vigorous leaders sharing a vision of how they might shape their future.” What it takes to do that, he continued, “depends on leaders who are clear as to what those purposes are . . . and then to persuade individuals to lend themselves to a worthy common purpose.” I’ve done my best. Common purpose. Common Cause. We stand together as we strive for a better America.

on an “at cost” basis for the benefit of its owners rather than its managers—was my attempt to walk the walk that I had talked the talk about nearly a quarter-century earlier. Today, I assure you that my youthful idealism remains intact. Indeed, it is shamelessly reflected not only in Vanguard but in my Battle book, an expression of my concern about our American society today, my conviction that our system of capital formation is essential to our economic growth and world leadership, and my acknowledgement that much has gone wrong in our financial system. 2. A Parable So what’s gone wrong? Let’s begin with a parable that describes how the system really works. It’s my version of a story told by Warren Buffett, chairman of Berkshire Hathaway Inc., in the firm’s 2005 annual report, and it clarifies the foolishness and counterproductivity of our vast and complex financial market system. Here goes: Once upon a time . . . a wealthy family named the Gotrocks, grown over the generations to include thousand of brothers, sisters, aunts, uncles, and cousins, owned 100 percent of every stock in the United States. Each year, they reaped the rewards of investing: all the earnings growth that those thousands of corporations generated and all the dividends that they distributed. Each family member grew wealthier at the same pace, and all was harmonious. Their investment had compounded over the decades, creating enormous wealth, because the Gotrocks family was playing a winner’s game.

Well, those eight “ifs” are surely a lot! And if, at any one of those junctures (and, truth told, more than a few others), the coin had landed on “tails” rather than “heads,” the industry would, I think, look rather different then it does today. But please be clear: I’m not saying that this industry needs Vanguard. Rather, I believe that every industry needs a Vanguard—a firm that says, “I see what you’re doing, but I have a different design that will serve consumers better, with better products and services, and at lower prices.” Whatever the case, Vanguard has become the world’s largest manager of mutual funds, with a market share of industry assets recently reaching 16 percent, yes, again, a summit that, by a wide margin, no fund firm seems to have reached before. 1 And we continue to grow apace, accounting for some 40 percent of industry cash flow during the past five years. (I doubt that such a dominant share is sustainable.) In 1976, indexing was heresy. “Indexing is un-American!” said a famous poster of that time, and our index fund was known as “Bogle’s Folly,” with a market share of just 0.1 percent of equity fund assets. Today indexing is dogma, the widely accepted core standard for evaluating investment performance, and having a 25% share of equity fund assets. What’s more, index mutual funds have accounted for $688 billion of the $672 billion total cash flow into all equity mutual funds over the past five years.

Fund portfolio turnover, about 16 percent during my first two decades in this field, soared to 100 percent during the recent era.) My conclusion powerfully reaffirmed the ideals that I hold to this day: “The principal function of investment companies is the management of their investment portfolios. Everything else is incidental.” The role of the mutual fund is to serve—“to serve the needs of both individual and institutional investors . . . to serve them in the most efficient, honest, and economical way possible.” This gratuitous advice about efficiency, honesty, and economical operation from a callow college senior was also largely ignored by the fund industry. But the creation of Vanguard in 1974 as a truly mutual mutual fund group—operated on an “at cost” basis for the benefit of its owners rather than its managers—was my attempt to walk the walk that I had talked the talk about nearly a quarter-century earlier. Today, I assure you that my youthful idealism remains intact. Indeed, it is shamelessly reflected not only in Vanguard but in my book The Battle for the Soul of Capitalism, published by Yale University Press in 2005, and also in The Little Book of Common Sense Investing, published by Wiley in 2007.about

2 billion of equity assets, but not repeated when those equity assets approached $1 trillion. (Not that managing even a small asset base makes superior returns easy to achieve!) Costs Matter Vanguard faces lots of challenges, but they do not include those problems that I have just touched on—conglomerate ownership; failed marketing strategy; a model built on delivering high performance (with commensurately high risks.) As a truly mutual mutual fund firm, we are independent; focused on the interests of our fund shareholders, and with an incredible—and sustainable—cost advantage.expense

Jensen, “It exists in all organizations at every level of management in firms, in universities, in [yes] mutual companies, in cooperatives, in governmental authorities and bureaus, (and) in unions.” It is impossible to deny the logic of the Jensen thesis that posits that managers rarely maximize the interests of the shareholders they are duty-bound to serve, and instead mainly look out for themselves. More important, its truth has been confirmed, over and over again, by actual experience in the functioning of our giant corporations and investment institutions. In my personal experience over a 61-plus year career I’ve run the gamut of these structures: First, nine years at a privately-held firm; second, fourteen years at the publicly-held firm it became after a public offering of its shares in 1960; and, after being fired from the firm in 1974, 38 years with Vanguard, the mutual company I founded later that year. I understand well the pros and cons of these four structures, for I have had considerable experience in each. That 1974 change radically altered the way I ran the new business (which I did until 1996) with an unprecedented mutual structure.from

But I’m embarrassed about the field in which I ply my trade. All too many of its leaders bear a heavy responsibility for running our economy into the ground, even as they made personal fortunes by playing fast and loose with the system and taking absurd risks, not (of course!) with their own money but with other people’s money; even successfully lobbying for the rollback of regulations that had well-served investors for decades. Taking on the System But I’ve marched to a different drummer. I’ve challenged the financial system and done my best to improve it—to build a better world for investors. Vanguard, the company that I founded almost 35 years ago, was built on a firm foundation of service to our investors rather than service to ourselves, in a unique mutual mutual fund structure in which our fund shareholders actually own the funds’ management company. Vanguard operates on an “at-cost” 3 I’ve not been able to identify the source of the quotation.

” As far as I can recall, this was my first use of the term mutualization. Only three years later, as it turned out, the set of challenges that I had described in 1971 was resolved in September 1974 by the mutualization of the operations of Wellington Fund and her sister funds. The incorporation of The Vanguard Group of Investment Companies represented a totally new and hitherto untried mutual fund structure. Vanguard was the first—and is still the only—mutual fund complex that is truly mutual.“at-

So the winning strategy was obvious: own the entire stock market (without any security analysts!) and cut costs to the bare bones. That’s it! It really is that simple! I was also mindful that the new firm needed not only solid arithmetic, but also high principles. As it happens, in my Princeton University senior thesis, way back in 1951, I had cited these principles: that mutual funds should be managed “in the most efficient, honest, and economical way possible;” that “funds can make no claim to superiority over the market [indexes];” that funds must concentrate “on a reduction of sales charges and management fees;” and that the funds’ “prime responsibility must always be to their shareholders.” When the new firm was founded in 1974, those tenets became Vanguard’s mantra. As they say, “the rest is history.”

It was certain that if we acted always with caring, with integrity, and with candor, Vanguard would grow, and indexing would lead the way. While I concede that “growth is the only evidence of life,” my attitude was to let our growth just happen, not by forcing it, for example through expensive sales promotions, aggressive marketing schemes, nor the offering of faddish new funds that would attract the evanescent and therefore useless assets of short-term speculators. Rather we sought to attract the durable and therefore priceless assets of long-term investors by earning their trust. I was confident that an enterprise whose mantra is not salesmanship but stewardship would grow organically, a natural result of our philosophy. And so it did. We began in September 1974 with $1.4 Billion of investor assets, today our asset base exceeds $1.2 Trillion. Business or Profession? 1 Dean Howard M. Johnson, chairman of the Massachusetts Institute of Technology.

Yes, 102 percent of cash inflow, as actively-managed equity funds suffered a cash outflow of $16 billion during that period. Yet we remain—and I have reason to believe that I remain—a sort of outlier in an industry that has yet to accept (or even seriously copy) the Vanguard model. As Walter Bagehot, founding editor of the London Economist pointed out a century and a half ago, there’s both pain and pleasure in that. On the one hand, “one of the greatest pains in human nature is the pain of a new idea.” On the other, “a great pleasure in life is doing what people think you cannot do.” I’m not at all sure there aren’t more deserving recipients of the Tiburon CEO Summit Award than yours truly. I haven’t served as Vanguard’s CEO for many years, though perhaps I qualify in my role today as CEO, as it were, of Vanguard’s Bogle Financial Markets Research Center. But the fact is that, without knowing them until a few days ago, I’ve spent 60 years in my quest to meet the standards that Tiburon’s Managing Principal Chip Roame told me represent the criteria for this award. 1 Data based on assets in long-term mutual futures, and excluding money market funds.

5 percent would be transformative, changing almost everything they do, including slashing—even eliminating—the profits they either earn for themselves, or share with public shareholders, or—most likely, given the predominant fund industry structure today—earn for the U.S. and international financial conglomerates and banks that own them lock, stock, and barrel. And even if our peers did succeed in cutting expenses by half, the costs their fund shareholders pay would remain more than 100 percent above Vanguard’s.

1) Focusing on Consumers. Serving our fund clients has been the dominant theme of my long career. While I have been criticized for choosing the title “On Human Beings” for the final chapter of both editions (1999 and 2009) of my Common Sense on Mutual Funds: New Imperatives for the Intelligent Investor, I can’t help but wonder what those critics think is the purpose of our careers. Perhaps we have forgotten that our duty is to serve “those honest-to- God, down-to-earth human beings” who have entrusted their savings to us, “each one with their own hopes and fears and financial goals,” phrases that I have used more than once! 2) Challenging Conventional Wisdom. Whether it is Vanguard’s unique mutual structure, our focus on rock-bottom costs, our index-oriented investment strategies, or our mission—to guarantee investors their fair share of whatever returns our financial markets provide—or our conviction that short-term speculation is a loser’s game and long-term investment is a winner’s game, we’ve challenged the conventional wisdom time and time again. If the cause is worthwhile—as ours is—fighting the good battle is, for me, what life is all about. 3) “Giving Back.” We all have the obligation to “give back” to our industry, to our investors, to our communities. My way to give back has been driven by speaking—at gatherings of investors, at industry forums, at academic institutions, at college commencements—and by writing books. Don’t Count On It!

II. The Philadelphia Society My long involvement with your CFA Society of Philadelphia, originally known as the Philadelphia Society of Security Analysts, has been only tangential in my career. But when I first entered the mutual fund industry, I observed that most of our area’s analysts were employed by bank trust departments and insurance companies. At the top of the list was Girard Trust, led by a remarkably distinguished group of investment professionals, ranging from Francis Nicholson to F.W. Elliott Farr to Frank Block—all top-grade, integrity-laden pros. Sadly, Girard is now long gone, taken over by Mellon Bank in 1983, which itself was absorbed by Citizens Bank in 2001. In fact, few of those old trust companies exist today—no Girard, no First Pennsylvania, no Provident Bank, no Fidelity Trust Company. They were succeeded by analysts at the few large-sized investment managers that remain here, including Wellington Management, Vanguard and just a few others. With $2.2 trillion of assets under management, and over 100 members of the CFA Society of Philadelphia, Vanguard has become the elephant in the room. Originally, our local money managers all worked in the city, but then started to move west of the city limits. Wellington moved to Valley Forge in 1974 when Vanguard began, and other firms followed. But we all remained part of the Greater Philadelphia region.

Drucker), Commander Watson noted that “people are driven by an intrinsic need to connect with a purpose larger than themselves,” and even quotes the authors of two best-selling business books: First hear Jim Collins, author of Built To Last: “The best executives aspire to create something bigger and more lasting than themselves—an on-going institution rooted in a set of timeless core values that exists for a purpose beyond just making money.” And now hear Tom Peters (whom we met at the start of my remarks today), author of “Search for Excellence” (with Bob Waterman): “We wonder whether it is possible to be an excellent company without clarity on values and without having the right sort of values.” Like many of you here today, I’ve read Commander Watson’s book with compelling interest. By providential coincidence, his book is organized around chapters reflecting the same sorts of values that I expressed in Enough., indeed the same sorts of values that I invested in Vanguard when I founded the firm back in 1974.Purpose

cost,” basis; and to operate with complete independence from their investment adviser. How would that work in practice? After an examination that lasted from 1977 until 1981, here’s how the SEC expected it to work, as described in its decision on the Vanguard plan: The Vanguard plan is consistent with the provisions, policies, and purposes of the Act. It actually furthers the Act’s objectives by ensuring that the Funds’ directors, with more specific information at their disposal concerning the cost and performance of the Funds, are better able to evaluate the quality of those services. The plan will foster improved disclosure to shareholders, enabling them to make a more informed judgment as to the Funds’ operations. In addition, the plan clearly enhances the Funds’ independence, permitting them to change investment advisers more readily as conditions may dictate. The plan also benefits each fund within a reasonable range of fairness. Specifically, the Vanguard plan . . . enables the Funds to realize substantial savings from advisory fee reductions; promotes savings from economies of scale; provides the Funds with direct and conflict-free control over distribution functions; (and) promotes a healthy and viable mutual fund complex within which each fund can better prosper. The approval of Vanguard’s structure by the five commissioners of the SEC was unanimous.

So I used the heavily-disguised opportunity created by my being fired to found a new firm built on those idealistic principles that I expressed in my thesis. (As it is said, “if you’re given a lemon, make lemonade.” No, that’s not Kipling.) I named the firm Vanguard, and ran it for the next 22 years. Our policies were based on honest disclosure, efficient management, and— above all—on economical operations. (Remember those words—“honest, efficient, and economical”—from my thesis?) We chose a unique and untested, truly mutual structure in which we eliminated conflicts of interest by having the fund shareholders own our management company; and we held our costs to the bare-bones minimum, by far the lowest in the field, saving them tens of billions of dollars over the years. And if our managed-fund peers couldn’t beat the market, well, we would—and did—create a “market fund” that would beat our managed-fund peers. Of course it did just that, and that first index mutual fund that we created is now essentially the largest fund on the face of the globe.our

∑ Lead by Listening ∑ Spread the Responsibility, Share the Profits ∑ Act with Audacity ∑ Make Joy Count A Word About Vanguard I have the temerity to mention Vanguard only because my invitation to receive this treasured “OTHERS” award compared the Salvation Army’s quest with my own humble quest to build a unique mutual (shareholder-owned) enterprise that would give investors a fair shake by “sharing the profits” with our stockholders. We also aimed to serve the average investor, a lesser version of the quest of Salvation Army founder William Booth—he of “Blood and Fire” fame—to serve hurting humanity. Similarly, both our quest and yours came in the face of considerable opposition. Of course it’s not possible to create a commercial enterprise that precisely matches The Salvation Army model. But Vanguard’s principles are virtually identical, and have been a vital factor in explaining what we have been able to achieve for those millions and millions of “honest-to-God, down-to-earth, human beings, with their own hopes, fears, and financial aspirations,” who have entrusted us with some $1.6 trillion of their savings in their quest to achieve financial independence.. Yes, we “Put People in our Purpose,” with a promise to provide investors with their fair share of whatever long-term investment returns the financial markets are kind enough to reward us with (and, alas, their fair share of whatever short-term dips the markets are mean enough to inflict upon us along the way).

industry oversaw only $2 ½ billion of assets under management. Today, industry assets are $12 trillion, with Vanguard’s $2 trillion now representing an amazing 16 percent of that total—one dollar of every six invested have been placed in our mutual funds. The thesis, I think, was a workmanlike—if hardly flawless—effort by a young man barely out of his teenage years.1 After analyzing the fund industry’s past, I offered my ideas of how to make it a better industry for investors in the future. Here are some verbatim quotations from the thesis. Listen carefully, please. [Mutual funds] should be operated in the most efficient, honest, and economical way possible . . . Future growth can be maximized by reducing sales charges and management fees . . . Funds can make no claim to superiority over the market averages . . . The principal function of investment companies is the management of [their] investment portfolios. Everything else is incidental . . . The principal role of the mutual fund should be to serve its shareholders. If you see today’s Vanguard described by those words of course you’re right. But if you see only the mouthings of a callow and idealistic college senior; you’re also right. But whatever the case, it was those naïve but noble goals expressed in my thesis—efficiency, honesty, economy, low costs, index funds, serving shareholders first, in all, a fair shake for investors—that set the stage for my entire career in finance.

So perhaps their strategy should be—I apologize for thinking like a business school professor here—to keep prices high on those funds in which costs are not particularly visible (i.e., funds that are not “closet” index funds); and to cut prices for their largest shareholders, particularly on funds where costs are the obvious differentiator in providing superior returns—obvious at least to the intelligent adviser or intelligent investor—index funds, bond funds, and money market funds. But this strategy has already been tried by several of our peers, and it has failed. Why? Because ever since 1992, when we introduced our first high-minimum-investment, minimal-expense-ratio Admiral shares, we’ve cut prices to stay a step ahead of the competition. As I said to our Vanguard crew in 1992, “the Admiral concept is (based on) the obvious insight that, since the costs of handling a shareholder account are relatively fixed, larger investors generate substantial economies of scale . . . (It is) our way of firing a shot across the enemy’s bow—letting our rivals know that they’d better get ready for even tougher price competition.” That 1992 strategy, to state the obvious, lies at the root of the continuing expansion of our Admiral franchise, most recently in lowering the asset threshold for individual index fund investors from $100,000 to $10,000, with expense ratios running as low as 0.07 percent (seven basis points).

This area continues to provide the perfect environment for growth—excellent colleges and universities, world-class health care facilities, and remarkable cultural institutions (including our National Constitution Center). Keeping our roots firmly planted in the Philadelphia region was—and still is—the perfect choice for Vanguard and many other financial organizations and this region remains a major factor in the financial firmament. Back in the 1950s and 60s, investment management was focused on long-term time horizons and minimizing the impact of high taxes—capital gains taxes were an especially important consideration for the trust companies. The professional culture was based largely on prudence and fiduciary duty.Robert

And it is now arguably the largest mutual fund in the world.6 Yet the Vanguard model has yet to be copied, and we remain a renegade in our field. We prefer to be noted for our stewardship rather than our salesmanship; for our management rather than our marketing; for our focus on long-term investment rather than short-term speculation. In this sense we parallel the career of Isaiah Williamson, who made his fortune in trade by his own efforts and straight business dealing, not by speculation. Labor and Capital When capital is used for speculation rather than investment, the relationship between capital and labor in our society is distorted. Of course, as Abraham Lincoln reminded us, capital 4 David P. Billington and David P. Billington Jr., Oxford University Press, 2005. 5 In fact, in my 1951 thesis at Princeton University, I urged that mutual funds be operated “in the most efficient, economical, and honest way possible.” If honesty is understood to represent a certain kind of elegance, the ideas are identical. 6 Assets of our Index 500 funds total $125 billion; assets of our Total Stock Market Index Funds total $95 billion, a total of $220 billion.

It was the final stamp of approval on what proved to be a new way of operating a fund complex that would ultimately lead to a major reordering of the fund industry. The rest, as they say, is history. “A Journey of a Thousand Miles” With that history as background, where are we today? In my view, the formation of Vanguard and its “shareholder first” structure marks the beginning of a long arc that is bending toward fiduciary duty. As it is said, “a journey of a thousand miles begins with a single step.” And thanks importantly to the determination of Assistant Secretary of Labor Phyllis Borzi, the DOL has given vital support to that fiduciary principle, recently approving a rule that requires both registered investment advisers (RIAs) and stock brokers to place the interests of their clients holding retirement plans before their own.

It’s worth dwelling on that phrase: “the critical functioning structure that defines how the world works.” As the New Yorker writer John Lanchester observed: “That’s a hell of a big thing to find a flaw in.” Here’s another way of describing that flaw, Lanchester continued: “the people in power thought they knew more than they did. The bankers evidently knew too much math and not enough history—or maybe they didn’t know enough of either.” But they must have know nthat their financial self-interest would result in private opulence for them, even as it was destined, finally, to result in public penury. Adam Smith II – The Impartial Spectator There has also been a societal change that underlies the failure of modern-day capitalism. It was well-described in a letter I received a while ago from a Vanguard shareholder, who described it as “a crisis of ethic proportions.” Substituting ethic for epic is not only a fine turn of phrase; it accurately places a heavy responsibility for the meltdown on a broad deterioration in traditional ethical standards. (The Wall Street Journal retained that phrase as the title of my op-ed essay that was published in April of this year.) But the characters of that traditional ethical behavior seemed to fade, replaced by new values in our national culture. Simply put, we became what has been called a “bottom line” society, one in which progress and success are largely measured in monetary terms.

6. Marketing Strategy ∑ Mutual— Demand pull. Minimal effort; low expense commitment. ∑ Manager— Supply push. Spend aggressively to gather assets. 7. Time Horizon Strategy ∑ Mutual—Long-term, value oriented; increase intrinsic values for fund shareholders; free from Wall Street pressures. ∑ Manager—Short-term and focused on price of the manager’s stock; subject to the whims of Wall Street. How Has It All Worked Out? The mutual structure—an experiment in mutual fund governance that has now had those strategies in place for more than 38 years—has yet to be emulated or copied. Vanguard’s structure remains unique in the annals of mutual fund history. How has it all worked out? The numbers tell the story. While I have no intention to “plug” the Vanguard line-up of mutual funds before this audience, I do believe you have a right to know whether our journey, so far, has been a productive one. So, let’s look at three facts: (1) Since our humble beginning with $1.4 billion of assets, today’s assets under management is now approaching $2 trillion—a compound annual growth rate of 21 percent. (Chart 5) As you can see, that growth has been almost a straight line, virtually uninterrupted.

That promise depends on the broadest possible diversification and on minimizing the costs of investing, the principal characteristics that drive our enterprise. I also resonated to Commander Watson’s goal, “Act with Audacity.” (We even have a building on our campus named “Audacious,” one of Lord Nelson’s ships-of-the-line in his brilliant victory aboard HMS Vanguard at the historic Battle of the Nile in 1798.) Of course it was audacious to create this new mutual structure, to eliminate so many of the conflicts of interest that plague our industry, to start the world’s first index mutual fund, and to create an innovative bond strategy that was almost immediately copied by our peers.

shareholders, in the miniscule costs that they bear, and in the overwhelming trust that our shareholders have placed in us. But I couldn’t forget Kipling’s implicit warning, “if you can meet both Triumph and Disaster, and treat those two imposters just the same.” After my earlier brush with Disaster in my career, it was easy for me to understand that Triumph too is an imposter. Far better than preening over the past, please realize that it is focusing on the future that must be the order of the day. Creating a new kind of fund company defied the conventional wisdom. So did creating a new kind of fund which would not trade stocks in the market, but simply buy all of the stocks in the stock market—owning corporate America, and holding it, well, forever. The world doubted that this tiny new firm called Vanguard would make a go of it. In fact, our index fund was called “Bogle’s Folly” for years. (But no longer!) So, yes, “when all men doubt you,” as Kipling put it, simply “trust yourself.” And when opportunity knocks, don’t forget to answer the door! Reflections on Today’s Crisis In our present financial and economic crisis, Vanguard’s simple strategies have paid off in spades. In a fund industry now deeply troubled by its aggressive marketing of investment fads, its speculative policies, its excessive costs, and its periodic scandals, our firm remains vibrant, healthy, and pristine.

Ogilvie (1951-52); Edwin Crysler, CFA (1959-60); John Neff, CFA (1971-72); Paul Mecray (1991-92); and the first Vanguard crew member to serve as your president, Walter Lenhard, CFA (2007-08). Perhaps because of my creation and leadership of Vanguard, along with my voluminous writings on finance and investing, in 1991 your Society invited me to introduce Walter L. Morgan, founder of Wellington Fund and my great mentor, when he was honored with your Lifetime Award of Distinction. Two years later, I was honored to receive that same prize from your Society. To my humble delight, your award was presented to me by the late Elliott Farr (mentioned earlier), the paradigm of the trust officer whom we would all, well, trust. Some of his words were prophetic. Referring to the “Boston situation” I described earlier, Elliott said it was “probably a serious business mistake at the time, but it ultimately engendered something much more dynamic than if the original combination had been reasonably successful. Restructuring is now a buzzword, but Vanguard’s creation and evolution represents the quintessence of dynamic restructuring before the word had any currency at all.” You were right, Elliott, and I’m honored to remind today’s analysts of the high standards you set for our profession. III. The CFA Institute2 Now, I’d like to turn to the development of the international CFA Institute itself. To do that, I’ll take you back in time in the annals of financial analysis.

By year-end, the assets of Admiral investors at Vanguard will likely top $450 billion, fully 30 percent of our asset base. Maintaining Leadership How long will Vanguard’s leadership last? Who really knows? But we’ve got a lot going for us in the years ahead: 1. Our rock-bottom costs will endure, and the idea that lower costs lead to higher returns will never go away.equals

Vanguard Asset Growth 1,000 10,000 100,000 1,000,000 10,000,000 1974 1980 1990 2000 2012 Total Assets 2012 Total Assets: $1.93T 2000 $561 Bil 1990 $55.7 Bil 1974 $1.4 Bil $ (2) Of course, we were part of a burgeoning fund industry, whose assets rose from $50 billion to $12.5 trillion, thanks largely to (a) the greatest two-decade bull market in U.S. history (1980- 2000); (b) to the development of the money market fund; and (c) the huge increase in tax- deferred investment options such as the IRA and the tax-deferred thrift plans. But Vanguard grew far faster, (Chart 6) and our market share of 6 percent of industry stock and bond fund assets—after declining slightly through the late 1980s—has grown in each of the 26 years since, to today’s 17.4 percent. As far as I can tell, the previous highs in asset share for the industry’s largest firms regularly topped out at between 10 percent and 13 percent. So we are breaking new ground on industry dominance. Market Share of Long-Term Fund Leaders 0% 2% 4% 6% 8% 10% 12% 14% 16% 18% 20% 1974 1980 1990 2000 2012 Vanguard Long-Term Market Share Market Share of Industry Leader* MFS 10.7% American 9.5% Fidelity 9.6% Vanguard 12.0% Vanguard 17.4% American 12.8% Fidelity 13.9% Fidelity 8.9% Fidelity 8.8% *Includes only firms with two or more years of leadership. Vanguard 4.1% Vanguard 10.6%

The moral of the story, then, is that successful investing is about owning all of America’s businesses and reaping the huge rewards provided by the dividends and earnings growth of our nation’s—and, for that matter, our world’s—corporations. The higher the level of our own activity by investors, the greater the costs of financial intermediation and taxes, the smaller the net returns that our business owners as a group receive. The lower the costs that investors as a group incur, the higher rewards that they reap. So to realize the winning returns generated by businesses over the long term, the intelligent investor will minimize to the bare bones the costs of our financial system. That’s what common sense tells us, and it’s the truth. 3. The Index Fund While on first impression it might seem intimidating to own a share in all of America’s businesses and thereby capture whatever returns our stock market is generous enough to deliver, in fact it is amazingly simple. It is, of course, by investing in an index mutual fund, that fund I mentioned early in these remarks, hinted at in my senior thesis and realized by Vanguard’s creation of the first index fund in 1975.

The original creation was a fund (“First Index Investment Trust,” now Vanguard 500 Index Fund) that tracked the returns of the Standard & Poor’s 500 Stock Index, whose blue-chip components represent about 80 percent of the value of the U.S. stock market. Later, we created a fund that held 100 percent of the U.S. market (Vanguard Total Stock Market Index Fund), and now also offer an index fund that holds the world’s non-U.S. stocks (Vanguard Total International Index Fund). In some combination of these last two funds, then, an investor can easily hold a pro rata share in the ownership of the world’s equity securities.2 All these index funds do is capture the returns of the stock market indexes they mirror. They deduct only trivial amounts of costs (less than 0.2 percent per year) from those gross returns. In a stock market that delivers 8 percent per year, for example, the investor would earn a return of about 7.8 percent. That 0.2 percent cost is represented by the fund’s expense ratio—the amount it costs to operate the fund. By way of contrast, the typical mutual fund has an expense ratio of about 1.4 percent. But this typical actively-managed equity fund also incurs two additional costs that the index fund does not entail.

What’s more, many account executives are leaving the commission-driven broker field to form their own investment adviser firms, focused on no-load funds. That trend, I believe, will continue, and even accelerate. 5. ETFs (exchange traded funds) are sort of a wild card. For most ETFs, low cost is a big selling point, but giving investors the ability to trade in a nanosecond seems even a bigger one. (Too bad, since the actual returns realized by investors in 162 of the 173 ETFs with 5-year records have fallen short of the returns of the index of their choice by an average of 30 percent—amazing!) But Vanguard’s low cost is now making a huge impact, and our share of net cash inflow this year is the largest in the field (36 percent). Whatever the future of ETFs, they seem more of an opportunity than threat to Vanguard.

(3) Remarkably, our present share seems likely not to level off, but to increase at an even more rapid rate. Since 2008, we have accounted for almost 80 percent of the industry’s total cash flows, (Chart 7) including 170 percent of equity fund flows, driven largely by the rapidly- growing acceptance of index funds and the increasingly-recognized importance of low costs, which, simply put, divert the allocation of stock market returns away from the money managers and croupiers of Wall Street, and into the pockets of the nation’s families who are investing their hard-earned dollars to secure their retirement. -329 -101 -42 -500 -400 -300 -200 -100 Index Funds Active Funds Total Equity $ Billions Vanguard Rest of the Industry Equity Fund Cash Flow—2008-2012 $ $ $ Vanguard accounts for 56% of inflows of equity index funds; only 11% of outflows of active equity outflows; and 170% of total equity fund flows. $ $ $ $ $519 $-371 $148 Yes, our mutual structure is different from yours, but we remain as one in the notion that cooperative forms of structure, finally, are so often the most effective ways of meeting the needs of our clients and customers. In the years ahead, this concept can only grow in importance.

If saying that I’ve been fighting this battle since I wrote that thesis in 1951 is a push (and it is!), it is clear that I’ve been at it since at least 1971 (note that earlier speech) and surely since 1974, with the formation of Vanguard as the first mutual, shareholder-owned firm, driven ahead largely by our 1975 creation of the first and ultimate fiduciary-oriented, consumer-oriented mutual fund: the index mutual fund. Our First Index Investment Trust was designed to track the S&P 500 Index. The beginning of an indexing strategy that was the logical, even obvious, result of our mutual structure. Indeed, it was our first strategic move. That index fund began with an IPO in 1976 that was, to be blunt, a flop, raising only $11 million—far less than the underwriters’ goal of $150 million. But, now known as Vanguard 500 Index Fund, its assets exceed $450 billion. With its sister index funds at Vanguard, indexing strategies now account for some $2.4 trillion of the firm’s $3.2 trillion asset base. Most of my books touch on (pound on?) the same theme: “Put the investor first.” Bogle on Mutual Funds (1993), Common Sense on Mutual Funds (1999/2009), and The Battle for the Soul of Capitalism (2005) all emphasize this message of fiduciary duty.

In recent years, BlackRock’s considerable success in the ETF marketplace has been increasingly threatened by competitors with far lower fee rates. A few weeks ago, Mr. Fink accepted the inevitable: slashing fees on some of BlackRocks ETFs, and offering other similar copy-cat funds at competitive costs while maintaining the present (higher) expense ratios of the originals. Forced by competition to make these decisions, Mr. Fink was not amused. According to The Wall Street Journal, he railed against competitors that “sell investment products at cost,” i.e., without profit to the manager. You can call that fee pressure, Mr. Fink said. But he also had another word for it: “stupidity.” As the creator of Vanguard’s mutual “at-cost” strategy way back in 1974, I accept the fact that, from his perspective, I’m stupid. But our tens of millions of Vanguard shareholders—now accounting for almost 20 percent of assets of all long-term mutual funds—don’t seem to feel the same way. Day after day, whether BlackRock likes it or not, investors are becoming more aware that costs matter. I call it the CMH—the Cost Matters Hypothesis—which simply reflects the obvious concept that investor returns are ultimately determined by, I emphasize again, the allocation of financial market returns between financial service providers and the investors they are duty- bound to serve. When investment costs are minimized, investors, in aggregate, maximize their returns.

Together, these advantages seem powerful and durable, and I believe that Vanguard is on the right side of history to maintain our leadership position, to wear the crown for a long time. What we’ll need is the wisdom to stick to our founding values; to revel in our mutual structure; to avoid marketing fads; to beware of complacency; to remember where we came from, and to do nothing to violate the remarkable level of trust that our clients have placed in us. Even then, I can’t guarantee that we’ll remain the market leader over the next quarter-century, for what keeps resonating deep within my mind and spirit is that unsettling phrase: Uneasy lies the head that wears the crown. So let’s all get together 25 years from now in 2035—heck, maybe I should be more realistic and say (optimistically!) 2015—and see who is wearing the crown of leadership.

We could hardly expect even a man with the wisdom, intelligence, logic and clear vision of Adam Smith to have anticipated in detail the various streams—really rivers—of commerce of today’s business and technological environment. But his overarching vision was surely a harbinger of this Age of the Consumer. As Adam Smith wrote in 1776: Consumption is the sole end and purpose of all production; and the interest of the producer ought to be attended to, only so far as it may be necessary for promoting that of the consumer. The maxim is so perfectly self-evident, that it would be absurd to attempt to prove it . . . [T]he interest of the consumer . . . [must be] the ultimate end and object of all industry and commence. Applying Smith’s insight to the investment industry, I firmly believe Smith would endorse not only the power of the consumer, but it’s implications for the principle of fiduciary duty. Paraphrasing that final sentence: The interest of the investor must be the ultimate end and object of the entire financial system. Whatever fabric the pattern of these threads of history ultimately weaves, many of you in this audience today can take pride in being, dare I say, in the vanguard of this movement. Today begins “The Campaign for Investors” of the Institute for the Fiduciary Standard. It will lead to greater financial freedom for America’s citizen/investors, and will serve, in the words of the Investment Company Act of 1940, “the national public interest” as well.

ICFA (Institute of Chartered Financial Analysts) and the FAF (Financial Analysts Federation, including the regional societies) had overlapping constituencies. But in form, function, and culture, they were very different. The ICFA, focused solely on the CFA program, was robust, growing, and fiscally sound. The FAF had grown significantly since its origins and had a broader mandate, but was struggling financially. Mergers are Never Easy! The debate over the merger continued for two years. It was at times heated and not always pleasant. In 1992, the final meeting regarding the merger was described as “contentious,” “frank,” “eloquent,” “fierce,” and “tense.” It also involved some old-fashioned, back-room “horse trading” for votes. At last, the initial deadlock was broken; the final vote 6 to 4 in favor of the merger—in my terms, a “landslide.” That’s a word I kept in mind during the various contentious board decisions that we faced in the creation of Vanguard, often a messier process than you could possibly imagine. But any victory, however narrow, was (for me) a landslide. The process of creating Vanguard and the CFA merger have many similarities. Both remind me of the song “Bui Doi” from the musical Miss Saigon, which describes the children of American soldiers born in Vietnam as "conceived in Hell and born in strife.” After our respective births, however, both the CFA merger and Vanguard’s creation proved to be remarkably durable. (Elliot Farr was right.)

So it is that through the deduction of a “mere” 2.5 percent in annual costs, the miracle of compounding returns is overwhelmed by the tyranny of compounding costs. For in the investment field, time doesn’t heal all wounds. It makes them worse. Where returns are concerned, time is your friend. But where costs are concerned, time is your enemy. The investor in this example, who put up 100 percent of the capital and assumed 100 percent of the risk, earned less than 30 percent of the market return. Our system of financial intermediation, which put up zero percent of the capital and assumed zero percent of the risk, essentially confiscated 70 percent of that return—surely the lion’s share. An investment in a low-cost index fund, held for the long term, eliminates all of the terribly harmful costs of financial intermediation, and thus guarantees that you’ll earn your fair share of whatever returns our stock market offers. If it sounds like I’m pushing Vanguard’s index funds on you, well, there’s something to that. But only because soundly-operated index funds are the ideal way to invest for the long- term, by reason of their rock-bottom costs and long record of tracking their respective indexes with a remarkable precision. But don’t take my word for it. The index fund has received incredibly strong endorsements from the most respected financial experts in the nation.

Not only are they more likely to be short-term speculators than long-term investors, but because they are managing the pension and thrift plans of the corporations whose stocks they hold, they are faced with a serious conflict of interest where controversial proxy issues are concerned. As one manager has said: “There are only two types of clients we don’t want to offend: actual and potential.” And in mutual fund America, an industry lost its way. Once a profession with elements of a business, mutual funds became a business with elements of a profession—and too few elements at that. Once dominated by small, privately-held organizations run by investment professionals, the mutual fund industry is now dominated by giant, publicly-held financial conglomerates run by businessmen hell-bent on earning a return on the firm’s capital, not the return on the capital invested by the fund shareholders. Result: over the past twenty years, the typical fund investor has captured only about 20 percent of the compound return on stocks there for the taking by holding a simple S&P 500 index fund. (I’m speaking, of course, about the Vanguard 500 Index Fund.)

Warren Buffett, his partner Charlie Munger, Nobel Laureates Paul Samuelson, William Sharpe, and Gary Becker (Princeton’51); respected endowment fund managers from Yale (David Swenson) and Harvard (Jack Meyer). Innumerable financial professors including Burton Malkiel (Princeton ’64). Journalists, financial authorities—the list is almost endless. What’s more, the giant $140 billion Federal Thrift Savings Plan is invested largely in index funds, along with trillions of dollars in the nation’s public and private pension plans. But perhaps the crowning endorsement comes from investors who have actually owned Vanguard 500 Index Fund during its entire history. Let me present a specific example: at a dinner held in September, 2006, celebrating the 30th anniversary of the fund’s initial public offering, the counsel for the fund’s underwriters reported that he had purchased 1,000 shares at the original offering price of $15.00 per share—a $15,000 investment. He proudly announced that the value of his holding that evening (including shares acquired through reinvestment of the fund’s dividends and distributions over the years) was $461,771. Of course that was a year ago. At the close of business yesterday, the value was $543,657. There’s a number that requires no comment!

Indeed, one Vanguard shareholder described it as “a crisis of ethic proportions” (a nice variation on the standard “epic” proportions), the title that I used for my op- ed essay published in The Wall Street Journal a week ago. For the decline in ethical values played a major role in the failure of managerial capitalism and—managerial capitalists—that led to the financial bubble, and the burst that inevitably followed. While former Federal Reserve Chairman Alan Greenspan believed that competition and free markets would reward trust and integrity, he seemed unmindful of this sea-change in capitalism that was occurring. To his credit, Greenspan admitted his mistake. In his testimony before Congress last October, he acknowledged that the crisis had been prompted by “ . . . the collapse of a whole intellectual edifice . . . Those of us who have looked to the self-interest of lending institutions to protect shareholders’ equity—myself especially—are in a state of shocked disbelief,” he said. This failure of self-interest to provide self-regulation was, he added, “a flaw in the model that I perceived as the critical functioning structure that defines how the world works.”

bracing snap that culminated in a 50 percent bear market decline. But although my new partners were the money managers who failed our shareholders, I was the chief executive of the firm. In January 1974, my new partners banded together, fired me, and took over Wellington Management Company. While that struck me then (as it does now) as political, capricious, and grossly unfair, I have to acknowledge that, in doing the merger, I had made a truly disgraceful decision, and I had paid a terrible price in return. But isn’t that the essence of fairness? Enter Vanguard The story of how Vanguard was born, phoenix-like, out of this cataclysm is too complicated to describe tonight. (You’ll find it all in The Clash of the Cultures.) All you really need to know is that I don’t take defeat easily. I quickly fought back with a passion, and took a new and untried approach to mutual fund management that had never existed before. Whether by accident or design, the values of the new firm I created were virtually identical to the values I had expressed in that Princeton thesis of 23 years earlier. (Continuing—if not pushing—my earlier analogy, Vanguard became the scissors that cut the Boston paper that had covered the Wellington rock.) Running funds for the exclusive benefit of shareholders would eliminate the inherent conflict of interest that prevails between principals and agents, between fund shareholders and fund management companies.

commissions and offering funds directly to investors; and emphasizing funds that focused on broad, discrete market sectors offering returns that are relatively predictable. Of course the apotheosis of this strategy is the market index mutual fund, which, given its minimal costs, can consistently and closely match the returns generated by the entire stock market (or the entire bond market). It’s fair to say that the fund industry hated these ideas. It’s also fair to say that, at the outset, even investors themselves barely understood their implications. But in September 1974 when the new firm began, I had no doubt that we would ultimately revolutionize mutual fund investing and become the industry leader. That’s why I chose the name “Vanguard.” Our first decision was to start the world’s first index mutual fund. Originally dubbed “Bogle’s Folly,” that once tiny index fund is now the largest equity fund of all. As I have often said, “I took on my new job as head of Vanguard under the same circumstances that I left my old job as head of Wellington: “Fired with enthusiasm.” And so I was indeed fired with enthusiasm as I set out to build a better mousetrap and, finally, to build a better financial world. The Financial Markets Today Now, let’s move from the human side of enterprise to the business side, and talk a bit about our American financial markets today. These lessons are also reflected in The Clash of the Cultures.

My candor may well have played a supporting role in my dismissal as chief executive of Wellington Management Company in January 1974. While it’s a saga too complex to detail this evening, my firing gave me the chance of a lifetime—the opportunity to create a new fiduciary- focused structure for our funds. I proposed just such a structure to the directors of the Wellington funds.* Wellington Management Company, of course, vigorously opposed my efforts. Nonetheless, after months of study, the directors of the funds accepted my recommendation that we separate the activities of the funds themselves from their adviser and distributor, so that the funds could operate solely in the interests of our fund shareholders. Our new structure involved the creation of a new firm, The Vanguard Group of Investment * This lecture at Columbia University is essentially the third part of a trilogy that chronicles the development of the fund industry and of Vanguard itself. The first two parts of the trilogy were my speech at Boston University Law School on January 21, 2004 (“Re-Mutualizing the Mutual Fund Industry—The Alpha and the Omega”); and my speech at George Washington University on February 19, 2008 (“A New Order of Things: Bringing Mutuality to the ‘Mutual’ Fund”).

me the chance of a lifetime—the opportunity to create a new fiduciary-focused structure for our funds. I proposed just such a structure to the directors of the Wellington funds. Wellington Management Company, of course, vigorously opposed my efforts. Nonetheless, after months of study, the directors of the funds accepted my recommendation that we separate the activities of the funds themselves from their adviser and distributor, so that the funds could operate solely in the interests of our fund shareholders. Our new structure involved the creation of a new firm, incorporated on September 24, 1974, The Vanguard Group of Investment Companies, owned by the funds, employing their own officers and staff, and operated on an “at-cost” basis, would be unique in the field, a truly mutual mutual fund organization. While Vanguard began with a limited mandate—to provide only administrative services to the funds—I realized that, if we were to control our own destiny, we would also have to provide both investment advisory and marketing services to our funds. So, almost immediately after Vanguard’s operations commenced in May 1975, we began our move to gain substantial control over these two essential functions. By year’s end, we had created the world’s first index mutual fund, run by Vanguard.

Companies, owned by the funds, employing their own officers and staff, and operated on an “at- cost” basis, a truly mutual mutual fund firm. While Vanguard began with a limited mandate—to provide only administrative services to the funds—I realized that, if we were to control our own destiny, we would also have to provide both investment advisory and marketing services to our funds. So, almost immediately after Vanguard’s operations commenced in May 1975, we began our move to gain substantial control over these two essential functions. By year’s end, we had created the world’s first index mutual fund, run by Vanguard. Early in 1977, we abandoned the supply-driven broker-dealer distribution system that had been operated by Wellington since 1928, in favor of a buyer-driven “no-load” approach under our own direction. Later that year, we created the first-ever series of defined-maturity bond funds, segmented into short-, intermediate-, and long-term maturities all focused on high investment quality. Then, in 1981, Vanguard assumed responsibility for providing the investment advisory services to our new fixed-income funds as well as our established money market funds. (As you can imagine, none of these moves was without controversy!) Let me give you some sense of the importance of those changes. Since our formation in 1974, the assets of the Vanguard funds have grown from $1 billion-plus to some $1 trillion today.

sending a message and persuading others to accept it; and even about presenting facts and figures and logic to elevate the level of discourse. For me, the hardest job in writing is to begin. So I get out the lined yellow legal pad, and put pen to paper. If I can do it, you can do it too. Organize your thoughts, chapter by chapter. In each chapter, try and have an interesting beginning, perhaps a familiar quotation, or a quotation not so familiar but perfect for the theme. Then make sure that sentence A leads to sentence B, that paragraph 1 leads to paragraph 2, and so on. Follow that process chapter after chapter, and when you’ve gotten your message across, well, write a conclusion. Follow the old saw and “tell them what you told them.” I happen to favor idealistic, even spiritually uplifting conclusions, which is why I shamelessly call on the great figures of history—especially American history—to pull it all together, just as I did in The Battle. Of course, when your book is published, there’s no thrill quite like holding that first copy in your hand. It’s a book, and I wrote it! Then, if you’re lucky, come the reviews. I’ve been lucky. But one must have a thick skin, for there are both good and bad reviews. The bad stings for a moment; I’ll confess that. But only for a moment. Mostly it’s more like rain bouncing off a duck’s back, but it can be tough. Here’s a review from The New York Times of Character Counts: The Creating and Building of the Vanguard Group.

Some 82 percent of that trillion—$820 billion—is represented by the passively-managed index funds, the bond funds, and the money market funds that we at Vanguard manage, distribute, and advise. Some 25 external investment advisers serve our remaining (actively-managed) funds, with Wellington advising by far the largest portion of those assets. (Most of these funds have multiple advisers, the better to spread the risk of underperformance relative to their peers.) More than parenthetically, that long string of business decisions was made in a situation in which Vanguard’s very existence was in doubt. For the Securities and Exchange Commission had initially refused to approve Vanguard’s assumption of marketing and distribution responsibilities. But after a struggle lasting six (interminable!) years, the SEC reversed itself in February 1981. By unanimous vote, the Commission declared that: The Vanguard plan is consistent with the provisions, policies, and purposes of the (Investment Company Act of 1940). It actually furthers the Act’s objectives . . . enhances the funds’ independence . . . benefits each fund within a reasonable range of fairness . . .

Early in 1977, we abandoned the supply-driven, commission-based, broker-dealer distribution system that had been operated by Wellington since 1928, in favor of a buyer-driven, “no-load” approach under our own direction. Later that year, we created the first-ever series of defined-maturity bond funds, segmented into short-, intermediate-, and long-term maturities, focused on high investment quality. Then, in 1981, Vanguard assumed responsibility for providing the investment advisory services to our new fixed-income funds as well as our established money market funds. (As you can imagine, none of these moves was without controversy!) Let me give you some sense of the importance of those changes. Since our formation, the assets of the Vanguard funds have grown from $1 billion-plus to some $1 trillion today. Some 82 percent of that trillion—$820 billion—is represented by our passively-managed index funds, bond funds, and money market funds that we at Vanguard manage, distribute, and advise.Wellington

“There is a compelling history to be written about the founding and evolution of the Vanguard Group: Unfortunately, Mr. Bogle’s latest book isn’t it…. (the book) feels like the leftovers from the files of one of investing’s great innovators.” While the 28 reader reviews of Bogle on Mutual Funds were also almost uniformly five- star on Amazon.com, the sole poor rating (three-stars) described it as having “useful ideas but poor conclusions. Like most MBAs, (Bogle) does not know how to use mathematics or empirical conclusions.” (For the record, I don’t even have an MBA.) Barron’s was also tough: “I liked this book the best, but reluctantly. Reluctantly because everyone from Warren Buffett to Money magazine loves it and it’s more fun to deflate the self-righteous than to encourage them.” And while the lion’s share of the 61 reader reviews on Amazon.com about Common Sense on Mutual Funds were also five-star, that didn’t keep one reader from writing “excellent but boring;” another, “Bogle is dead wrong;” and yet another, “save some cash and skip this book.”

. . (provides) substantial savings from advisory fee reductions (and) economies of scale . . . and promotes a healthy and viable mutual fund complex in which each fund can better prosper. A Prescient SEC? Indeed. The SEC’s words now seem prescient. In fact, “can best prosper” would have been more accurate. Measured by Morningstar’s peer-based rating system (comparing each of our funds with other funds having distinctly comparable policies and objectives), Vanguard ranked first in performance among the 50 largest fund complexes.* Advisory fee reductions and economies of scale? Once again, indeed. Vanguard’s low- costs are legendary, by far the lowest in the field. Last year, over all, our operating expense ratio came to 0.20 percent of average assets, compared to 1.30 percent for the average mutual fund. That 1.1 percentage point saving, applied to one trillion of assets, now gives our shareholders an average savings of $11 billion annually. Do low costs matter? Of course they do! As the world of investing is at last beginning to understand, low costs are the single most reliable indicator of superior fund performance. Yes, as we read in Homer’s The Odyssey, “fair dealing yields more profit in the end.

Our self-centered “bottom-line” society, focused on money over achievement, charisma over character, and the ephemeral over the eternal. And finally, the paucity of leaders who are willing to, well, lead—to defy the conventional wisdom of the day and to stand up for what is right and noble and true. So the risks are high; the uncertainties rife. Yet perhaps we’ll muddle through. After all, throughout our 230-year history, America has always done exactly that. Perhaps, once again, our society and our economy will continue to reflect the resilience that they have demonstrated in the past, often against all odds. And perhaps we’ll come to our collective senses and develop the courage to take arms against this sea of troubles I’ve described and by opposing, end them. If we do, the stock market will undoubtedly respond and resume the upward course that is based on the intrinsic economic value of business growth. Let me close by acknowledging that I’m conservative and, I’m well, getting on in years, I’ve followed my own advice and am about 68 percent in bonds and 32 percent in stocks—all Vanguard and overwhelmingly in index funds. But each of us is different. So even if risks are high and uncertainties abound, we must consider not only the probabilities of our investment decisions, but the consequences that we face if we are wrong.famous

advising by far the largest portion of those assets. (Most of these funds have multiple advisers, the better to mitigate the risk of underperformance relative to their peers.) More than parenthetically, that long string of business decisions was made during a long period in which Vanguard’s very existence was in doubt. For the Securities and Exchange Commission had initially refused to approve Vanguard’s assumption of marketing and distribution responsibilities. Only after a struggle lasting six (interminable!) years did the SEC reverse itself. In February 1981, by unanimous vote, the Commission declared that: The Vanguard plan is consistent with the provisions, policies, and purposes of the (Investment Company Act of 1940). It actually furthers the Act’s objectives . . . enhances the funds’ independence . . . benefits each fund within a reasonable range of fairness . . . . . . (provides) substantial savings from advisory fee reductions (and) economies of scale . . . and promotes a healthy and viable mutual fund complex in which each fund can better prosper. A Prescient SEC? Indeed! The SEC’s words now seem prescient. In fact, “can best (rather than better) prosper” would have been more accurate. Measured by Morningstar’s peer-based rating system— comparing each fund with other funds having distinctly comparable policies and objectives— Vanguard ranked first in performance among the 40 largest fund complexes.

” If you are willing to accept—based on that solid data—that Vanguard has achieved both commercial success (asset growth and market share) and artistic success (superior performance and low costs), you must wonder why, after nearly 35 years of existence, no other firm has elected to emulate our shareholder-oriented structure. (A particularly ironic outcome, since I chose the name Vanguard in part because of its conventional definition as “leader in a new trend.”) The answer, I think, can be expressed succinctly: under our at-cost structure, all of the darned profits go to the fund shareholders, not to the managers, resolving the transcendent conflict of interest of the mutual fund industry. In any event, the leader, as it were, has yet to find its first follower. * John Bogle speech at George Washington University on February 19, 2008 (“A New Order of Things: Bringing Mutuality to the ‘Mutual’ Fund”).

Largely because of the competitive returns that we’ve delivered to our fund shareholders, our market share of the assets of long-term funds (stock and bond funds) has risen from 4 percent of industry assets in our early years to 15 percent today. Advisory fee reductions and economies of scale? Once again, indeed. Vanguard’s low- costs are legendary, by far the lowest in the field. Last year, over all, our operating expense ratio came to 0.20 percent of average assets, compared to 1.30 percent for the average mutual fund. That 1.1 percentage point saving, applied to one trillion of assets, now gives our shareholders an average savings of $11 billion annually. Do low costs matter? Of course they do! As the world of investing is at last beginning to understand, low costs are the single most reliable indicator of superior fund performance. Yes, as we read in Homer’s The Odyssey, “fair dealing yields more profit in the end.”

∑ Too much speculation, not enough investment. ∑ Too much complexity, not enough simplicity. In Business— ∑ Too much counting, not enough trust. ∑ Too much business conduct, not enough professional conduct. ∑ Too much salesmanship, not enough stewardship. ∑ Too much management, not enough leadership. In our Lives— ∑ Too much focus on things, not enough focus on commitment. ∑ Too many twenty-first-century values, not enough eighteenth-century values. ∑ Too much “success,” not enough character. This is a book, as it has been said, laced with both searing criticism and soaring idealism, one might even say Adam Smithian (if only I had his gifts for the well-turned phrase.) And I believe that both TRF and Vanguard continue to share my basic values. We are as one, I think, in our belief that—if they are to benefit our society—economic markets must, finally, have a public purpose. You at TRF are an exemplar of one approach to implementing this concept, and I salute you for your commitment. We at Vanguard are an exemplar of a very different approach, but an approach in which acceptance in the marketplace of ideas (and investment strategies) are quite literally growing by the day. Let us both “Press on, Regardless.”

When Odysseus gets on home, he has to reclaim it from all the imposters who have been living off his estate while he was off fighting for his country. So it’s a story about property rights, about the risk takers getting their just reward, about valuing the higher ideals over the bottom line, about faith and family, and serving one’s customers and employees.” (“Clients” and “crew” in my Vanguard lexicon. Who says we can’t always find better words to convey our true meaning?) “(My) students” the professor adds, “are just beginning a great journey, and eternity’s principles will serve them well in all their intellectual and entrepreneurial endeavors . . . we must call on the muse to help us find the right words to inspire (and) I’m grateful that Homer and Bogle did such a great job, as they’ll be great companions on this voyage on out, during this Fellowship of Humble Heroes, where the students are invited to journey alongside those two everlasting leaders who exalted all in their humility before higher ideals.” Maybe that’s a bit over the top, but it’s surely nice!

Hevesi has pleaded guilty and awaits sentencing; Mr. Morris is said to have agreed to a guilty plea to a single felony. Mr. Rattner has not yet settled with New York or Federal regulators, but it can’t help his case that his former advisory firm, Quadrangle, has described his actions as “inappropriate, wrong and unethical.” His punishment, if any, remains to be seen. I’ve chosen these three examples out of scores—even hundreds—of examples, reluctantly leaving out that pillar of probity, Bernard Madoff. While his long jail sentence for his crimes surely is fair punishment, the hedge fund managers whose clients paid them some $500 million for the privilege of having Mr. Madoff defraud them remain scot-free. But the fact is that a disturbingly high percentage of the violations of law and of traditional ethics have occurred in the financial field, where the financial rewards are simply too tempting to ignore. The traditional emphasis on professional standards and fiduciary behavior focused on preserving and enhancing the wealth of clients has given way to business standards aimed at acquiring and accumulating wealth for agents, ethical principles be dammed. III. Vanguard – Structure, Strategy, and Values There is a better way. So in this third and final section of my remarks this afternoon, let me turn to some reflections on Vanguard and the structure, strategies, and values that have brought us to the pinnacle of the mutual fund industry—the largest fund manager in the world.

If you are willing to accept—based on that solid data—that Vanguard has achieved both commercial success (asset growth and market share) and artistic success (superior performance and low costs), you must wonder why, after nearly 35 years of existence, no other firm has elected to emulate our shareholder-oriented structure. (A particularly ironic outcome since I chose the name Vanguard in part because of its conventional definition as “leader in a new trend.”) The answer, I think, can be expressed succinctly: under our at-cost structure, all of the darned profits go not to the managers, but to the fund shareholders, resolving the transcendent conflict of interest that besets the mutual fund industry. In any event, the leader, as it were, has yet to find its first follower. To Build the Financial World Anew Vanguard represented my best effort to align the interests of fund investors and fund managers under established principles of fiduciary duty.

To Build the Financial World Anew Vanguard represented my best effort to align the interests of fund investors and fund managers under established principles of fiduciary duty. I leave it to wiser—and surely more objective—heads than mine to evaluate whether or not I overstate or hyperbolize what we have accomplished, even as I freely acknowledge that we owe our accomplishments to the three simple principles: the firm is (1) structurally correct (since we are owned by our fund investors); (2) mathematically correct (since it is a tautology that the lower the costs incurred in investing, the higher the returns); and (3) ethically correct (since we exist only by earning far greater trust and loyalty from our shareholders than any of our peers. There’s simply no close rival for our #1 position.) Please be appropriately skeptical of that self-serving claim, but look at the data. In a 2007 survey, an independent research group concluded, “Vanguard Group generates far more loyalty than any other company.”* As you have just learned, restructuring the firm was no easy task. Without determination, expertise, luck, timing, and the key roles played by just a handful of individuals, it never could have happened. So when I suggest to this forum that we must now go beyond restructuring the nature and values of a single firm to restructuring the nature and values of the entire money management business, I am well aware of how difficult as task it will be to accomplish that sweeping task.

The fact is that the Vanguard is simply different from our peers, unique in our field. We are in fact a group of truly mutual mutual funds, structured so that our management company is owned directly by our funds and their shareholders, operating on an at-cost basis for the benefit of our owners. Our rivals are not “mutual” in any sense of the word. (That is why in my recently published book Don’t Count On It!, the section on “What’s Wrong with ‘Mutual’ Funds” includes quotation marks around the word mutual.) They are operated for the benefit of profit- making corporations, in business to earn a profit on their own capital. Of course, they also want to earn profits for the shareholders of their funds. But in the long run, these managers as a group are destined to produce market-like performance before costs.and

forever; and own it through a company with a truly mutual structure, a company where serving two masters is anathema, and where the rewards of investing go to the investors rather than to the managers. In a sense, most of the funds Vanguard offers are products of simple arithmetic, a reflection of these words of Sophocles’: “Remember, O Stranger, that arithmetic is the first of the sciences, and the mother of safety.” Yes, arithmetic and engineering. So Next Let’s Consider the Culture of the Humanist Even as Princetonian David Billington became one of my guiding spirits on the culture of the engineer, so Elliot McGucken, Princeton Class of 1992, has lifted my spirits on the culture of the humanist. Dr. McGucken received a B.A. in Physics from Princeton, and earned a Ph.D. in physics at University North Carolina in Chapel Hill. Now teaching at Pepperdine University, he has created a business school course entitled “Artistic Entrepreneurship and Technology,” linking today’s Information Age to the great values of Western Civilization. His required reading list includes Homer’s Odyssey, and Dante’s Inferno. Believe it or not, “Dr. E.” discovered my 2005 book, The Battle for the Soul of Capitalism when he was browsing in a bookstore. It formed one of three foundations for reading in his course. When he told me that, of course I was thrilled. (Heck, truth told, astonished!)

” What’s more, I endorsed them to my partners at Wellington Management Company way back in 1971, three years before Vanguard was founded, with a structure—the management company owned by the funds and operated on an “at cost” basis—which represented my best effort to eliminate, or at least mitigate to the maximum extent possible, the many conflicts of interest in money management that I’ve described to you today. So I am hardly a newcomer to the idea of reforming our financial sector. I’ve done my best, and the record is clear that it has worked in the interest of Vanguard fund shareholders. But 1971 was a long time ago, and 1934 even longer. So let’s take advantage of this crisis so that we won’t have to hear a latter-day Justice Stone render that analysis all over again. Let’s take this opportunity to do big things. Whether we are, like most of you in this audience, serving as investment advisers to the human beings who need your help, or, as I am, part of the giant mutual fund industry that dominates our financial sector, we owe no less to our clients. We cannot fail again to honor this trust.

I leave it to wiser—and surely more objective—heads than mine to evaluate whether or not I overstate or hyperbolize what we have accomplished, even as I freely acknowledge that we owe our accomplishments to the three simple principles: the firm is (1) structurally correct (since we are owned by our fund investors); (2) mathematically correct (since it is a tautology that the lower the costs incurred in investing, the higher the returns); and (3) ethically correct (since we exist only by earning far greater trust and loyalty from our shareholders than any of our peers). Measured by repeated evaluations of loyalty by independent research firms, there’s simply no close rival for our #1 position. Please be appropriately skeptical of that self-serving claim, but look at the data. In a 2007 survey, one such group concluded, “Vanguard Group generates far more loyalty than any other company.”* Creating and restructuring Vanguard was no easy task. Without determination, expertise, luck, timing, and the key roles played by just a handful of individuals, it never could have happened. So when I suggest that we must now go beyond restructuring the nature and values of a single firm to restructuring the nature and values of the entire money management business, I am well aware of how difficult it will be to accomplish that sweeping task. *Cogent Research data, as reported in The Wall Street Journal, date March 15, 2007.

The Impact of Investment Costs on Fund Yields, October 2012 Net Percent of Yield Gross Yield Expense Ratio SEC Yield Consumed by ER LARGE-CAP STOCK FUNDS 2.09 1.22 0.87 58% Vanguard Total Stock Market Index Admiral 2.10 0.06 2.04 3% BALANCED FUNDS 1.91 1.29 0.59 68% Vanguard Balanced Index Admiral 1.93 0.10 1.83 5% INTERMEDIATE-TERM BOND FUNDS 1.74 0.65 1.09 37% Vanguard Total Bond Market Index Admiral 1.76 0.10 1.66 6% INTERMEDIATE-TERM MUNICIPAL BOND FUNDS 1.73 0.78 0.95 45% Vanguard Intermediate-Term Tax Exempt Admiral 1.74 0.12 1.62 7% Notes: Sales loads not included.2012

When one considers the ancient Biblical precept, “No man can serve two masters,” it is clear that the master who manages the funds—by definition—feeds at the top of the food chain of investing, paid before whatever profits remain are shared by the shareholders of the funds, who feeds at the bottom of the food chain. Under Vanguard’s mutual structure, our idea was to make the fund shareholder the master. It must be clear that the benefits of this mutual structure to shareholders, in financial terms, are not only larger, but mathematically certain. “The less the managers take, the more the shareholders make.” When I founded Vanguard in September 1974, it followed the idealistic principles that I outlined in my senior thesis at Princeton University, written in 1951 (when I was only a bit younger than most of you students here in this room today).Company:”

[Mutual funds] should be operated in the most efficient, honest, and economical way possible . . . Future growth can be maximized by reducing sales charges and management fees . . . Funds can make no claim to superiority over the market averages . . . the principal function of investment companies is the management of [their] investment portfolios. Everything else is incidental . . . The principal role of the mutual fund should be to serve its shareholders. What should one make of these words? The idealistic ruminations of an immature college senior? An intelligent design for a new fund management structure? Something in between? I’ll let you decide. Strategy Follows Structure Before you do decide about Vanguard’s origins (and don’t forget luck and determination!), let’s consider the far-reaching consequences that our unique structure—simply designed to minimize the costs of investing—has on the strategies followed by such a mutually- operated firm to maximize that compelling advantage. Here they are, and how they differ from our peers. 1. Profit. Higher profits for investors, rather than awesome profits for managers. 2. Pricing. On an at-cost basis, rather than whatever traffic will bear. 3. Service. Treating the client as an owner, rather than as a customer. 4. Risk. Limiting risk without sacrificing return, an option available because of the cost advantage. 5. “Products.

As my newest book, The Clash of the Cultures, makes clear, I am dissatisfied, disappointed, and angry about how our financial system is working today. But I am pleased with how those remarkably simple ideas that I expressed at Princeton all those years ago have proven themselves. Index equity fund assets are rapidly approaching one-half of the assets of active equity mutual funds, and growing apace. In these days of low market yields and high mutual fund expenses, I expect that growth to accelerate. A journalist recently reported that I take “almost childlike delight” in seeing my idealistic dreams come true, as the low-cost mutual model of mutual fund structure and the dominance of index funds have come into their own, reflecting two vital ingredients of fiduciary duty that our clients expect of their investment advisers and of their mutual fund providers. (He was accurate, I think, except for the almost!) But I’ve long since realized that what passes for success in this funny world of ours is really a journey, not a destination. My long journey continues, and I thank you for being in the, well, vanguard of the coming new order of fiduciary duty in the investment advisor field and the field of mutual fund management.

8. Marketing. Instead of vainly shouting-out implied promises based on evanescent short-term performance, spend as little as possible on this activity, which inevitably subtracts from fund returns. Yes, strategy follows structure, not only for Vanguard but for our rivals, whose vastly different structures demand very different strategies. I don’t need to turn this talk into a Vanguard commercial, but the fact is that those simple strategies are the very strategies that Vanguard has followed since its inception 36 years ago. They have served us well, not because of magic or genius, but because the “relentless rules of humble arithmetic” (Supreme Court Justice Louis Brandeis’s phrase) are eternal. So I look at Vanguard as an artistic success. Not just because our fund performance has, with considerable consistency, outpaced our peers (largely by reason of our low costs), in virtually every sector of fund investing—money markets, bonds, and equities, ranging from large-cap growth, to small- cap value, to international, and so on. This steady performance has earned us the industry’s highest scores in investor trust. Without going into the mechanics of a recent independent study, we have earned a “loyalty” rating of +44, with the #2 firm at +26, and the industry average at -12 (hardly a message that suggests that fund investors are satisfied.) The lowest-ranking firms had scores of -54, -48, and -47.

As consumers seek out better goods and services at ever lower costs, sometimes the competitive free market system works pretty well. In Vanguard’s case, our solid returns, our low costs, and our shareholder loyalty (that’s the artistic success) have resulted in commercial success. Our market share of industry assets has risen from 1.8 percent in 1981 to 13 percent currently, and we have become the world’s largest fund manager. (Happily, our passive management strategies don’t leave us muscle-bound and Gulliver-like, a challenge that our giant peers must deal with on a daily basis.) Since we are structurally sound, mathematically sound, and (I believe) ethically sound, and our strategies have followed our structure, it’s easy for me to make the case that “good ethics is good business.” Getting those simple ethical values across to a rapidly growing company is much easier when it’s part of the firm’s ethic since the day we began in September 1974, with $1.4 billion of fund assets (now at $1.4 trillion, 1000 times larger) and 28 crew members (now 12,000 in number, 400 times larger). Changing a firm’s character and value system is infinitely more difficult than embedding the character and values established at the outset.the

leaders not merely “talking the talk,” but “walking the walk,” every step of the way. It means communicating these values, over and over again, ad infinitum, in the simplest possible terms— Put the shareholder in the driver’s seat . . . Do what’s right. If you’re not sure, ask your boss . . . Keep Vanguard a place where judgment has at least a fighting chance to triumph over process . . . a company that stands for something—stewardship . . . Character counts. If we can build a crew that holds high those values, and focuses not on a job, but on a lifetime career, those veterans will pass the values along to those who follow them, and the firm’s character should endure for a long, long time, and with it—if we don’t lose our way— our industry preeminence. Food for Thought Summing up: One, we still seem to have plenty of ethical principles out there, but not nearly enough ethical principals. Two, business standards (such as they may be) have, in less than a half-century, come to supersede traditional professional ethics, at great cost to society. Three, a promising new structure in money management, focused on the positive ethics of placing shareholders rather than managers at the top of the food chain of investing, has carved out a now- dominant niche in money management. At some point, if only in order to survive, other firms will have to emulate the Vanguard model. But the task remains: to elevate the ethical behavior of we all-too-human beings.

1% many not seem like much in a year when we’re up over 80%, it is very meaningful in down years (yes, we’ll see a few of those) or even years when we barely eke out a positive return. These expense ratio declines have been accomplished while upgrading our service providers to best in class – like engaging PricewaterhouseCoopers to do the audit and tax work. As assets under management rise, PIF3 and PIF4 will get to 10 basis points as well. As a comparison, the wonderful Vanguard S&P 500 Index Fund has over $66 Billion in assets and an expense ratio of 0.18% - nearly double of PIF2. PIF2 is cheaper than Vanguard’s fund until we get to a return above about 6.3% for investors. With virtually all other mutual funds and hedge funds, Pabrai Funds is cheaper until annualized returns are above 10%. With the 1/20 structure of most hedge funds, Pabrai Funds has lower fees and expenses until annualized returns are over 50% a year. Next Opening – February 1, 2004 for US Investors There are 2 funds open to new investors to add funds - PIF3 and PIF4. To invest in PIF3, one needs to be a non-US accredited offshore investor. Tax-exempt accounts like IRAs, Roth IRAs and US Family Foundations can now invest in PIF3 as well. The minimum investment to join PIF3 as a new partner is $100,000 and the next opening is on January 1, 2004.5

A few years ago John Bogle wrote an outstanding book entitled Common Sense on Mutual Funds. John was the Chairman of Vanguard and an exceptionally brilliant and direct person. He’s an excellent writer as well. In the book, John gave a lot of good empirical data on the probabilities of the typical portfolio or fund manager beating the market. Over 85% of mutual and hedge funds lag the market after all fees and expenses. He further showed that the empirical data suggests that just 1 in 200 fund managers is able to beat the market by over an average of 3% annually. I am confident that the deeply rooted grounding in Buffett/Graham/Munger principles of investing that I have embraced will result is outperforming the three indices over the long haul. I don’t think a 25% annualized outperformance of these indices is a rational expectation for the Pabrai Funds. So, while the results of both funds have been exceptional so far, we should remember that: 1. The funds are just 26 months old. We can look back on the track record after 5+ years. 2. The stock market is nearly fully efficient. However, occasionally, Mr. Market will underprice a company or two substantially. Our investment style is very opportunistic. We play in the crevices of inefficiency within an otherwise nearly fully efficient market. Occasionally as I crawl through these crevices, I’m able to uncover great investment ideas. I’ll act upon a good idea when I see one.