N-CSR 1 malvern_final.htm malvern_final.htm - Generated by SEC Publisher for SEC Filing

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM N-CSR

CERTIFIED SHAREHOLDER REPORT
OF
REGISTERED MANAGEMENT INVESTMENT COMPANIES

 

 

Investment Company Act file number:  811-05628  

 

Name of Registrant:

Vanguard Malvern Funds

 

Address of Registrant:

P.O. Box 2600
  Valley Forge, PA 19482

 

Name and address of agent for service:

Anne E. Robinson, Esquire
  P.O. Box 876
  Valley Forge, PA 19482

 

Registrant’s telephone number, including area code: (610) 669-1000

 

Date of fiscal year end: September 30

 

 

Date of reporting period: October 1, 2016 – September 30, 2017

 

Item 1: Reports to Shareholders

 

 



Annual Report | September 30, 2017

Vanguard U.S. Value Fund


 

Vanguard’s Principles for Investing Success

We want to give you the best chance of investment success. These principles, grounded in Vanguard’s research and experience, can put you on the right path.

Goals. Create clear, appropriate investment goals.

Balance. Develop a suitable asset allocation using broadly diversified funds. Cost. Minimize cost.

Discipline. Maintain perspective and long-term discipline.

A single theme unites these principles: Focus on the things you can control.

We believe there is no wiser course for any investor.

Contents  
Your Fund’s Performance at a Glance. 1
Chairman’s Perspective. 3
Advisor’s Report. 7
Fund Profile. 9
Performance Summary. 10
Financial Statements. 12
Your Fund’s After-Tax Returns. 25
About Your Fund’s Expenses. 26
Glossary. 28

 

Please note: The opinions expressed in this report are just that—informed opinions. They should not be considered promises
or advice. Also, please keep in mind that the information and opinions cover the period through the date on the front of this
report. Of course, the risks of investing in your fund are spelled out in the prospectus.
See the Glossary for definitions of investment terms used in this report.
About the cover: Nautical images have been part of Vanguard’s rich heritage since its start in 1975. For an
incoming ship, a lighthouse offers a beacon and safe path to shore. You can similarly depend on Vanguard to put
you first––and light the way––as you strive to meet your financial goals. Our client focus and low costs,
stemming from our unique ownership structure, assure that your interests are paramount.


 

Your Fund’s Performance at a Glance

• For the 12 months ended September 30, 2017, Vanguard U.S. Value Fund
returned nearly 18%, outpacing both its benchmark index and the average return
of its peer group.

• Your fund’s stock selection model generated broad-based performance. The model
focuses on five signals that rank a universe of stocks. Four of those signals—valuation,
growth, sentiment, and management decisions—contributed to performance. In
particular, the valuation and growth signals were significant drivers of the fund’s return.

• Seven of the fund’s 11 industry sectors generated positive results, led by information
technology, materials, and health care.

• Stocks in the energy and consumer discretionary sectors were among those that
detracted most from performance. In addition, growth stocks outperformed their value
counterparts during the period.

Total Returns: Fiscal Year Ended September 30, 2017  
  Total
  Returns
Vanguard U.S. Value Fund 17.87%
Russell 3000 Value Index 15.53
Multi-Cap Value Funds Average 16.69

Multi-Cap Value Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.

 

 

Total Returns: Ten Years Ended September 30, 2017  
  Average
  Annual Return
U.S. Value Fund 6.53%
Russell 3000 Value Index 6.01
Multi-Cap Value Funds Average 5.39

 

Multi-Cap Value Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.

The figures shown represent past performance, which is not a guarantee of future results. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost.

1


 

Expense Ratios    
Your Fund Compared With Its Peer Group    
    Peer Group
  Fund Average
U.S. Value Fund 0.23% 1.10%

 

The fund expense ratio shown is from the prospectus dated January 26, 2017, and represents estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the fund’s expense ratio was 0.23%. The peer-group expense ratio is derived from data provided by Lipper, a Thomson Reuters Company, and captures information through year-end 2016.

Peer group: Multi-Cap Value Funds.

2


 

Chairman’s Perspective


Bill McNabb
Chairman and Chief Executive Officer

Dear Shareholder,

Our investors depend on Vanguard to be a responsible steward of their assets. This includes our obvious responsibilities—managing the funds, offering investment perspectives and advice, and assisting with questions and transactions.

But because a long-term perspective informs every aspect of our investment approach, we also work on your behalf in less obvious ways, such as by advocating for responsible governance among the companies in which Vanguard funds invest. Vanguard’s index funds are essentially permanent owners of thousands of publicly traded companies, and we have a special obligation to be engaged stewards actively focused on the long term.

Simply put, we believe that well-governed companies are more likely to perform well over the long run.

Although Vanguard has always been an advocate for strong corporate governance, we have expanded our efforts recently as our investor base continues to grow. Our Investment Stewardship team has doubled in size since 2015, and we continue to add analysts, researchers, and operations team members. The team guides our engagement activities and our funds’ proxy voting by analyzing corporate governance practices in companies around the world.

3


 

Our four Investment Stewardship pillars

As we evaluate company responsiveness to governance matters, including environmental and social concerns, we focus on four key areas—what we call our Investment Stewardship pillars:

• The board: A high-functioning, well-composed, independent, diverse, and experienced board with effective ongoing evaluation practices.

• Governance structures: Provisions and structures that empower shareholders and protect their rights.

• Appropriate compensation: Pay that incentivizes relative outperformance over the long term.

• Risk oversight: Effective, integrated, and ongoing oversight of relevant industry-and company-specific risks.

Guided by these pillars, our Investment Stewardship team conducted more than 950 engagements, or discussions, with company directors and leaders worldwide during the 12 months ended June 30, 2017.

Market Barometer      
    Average Annual Total Returns
  Periods Ended September 30, 2017
  One Year Three Years Five Years
Stocks      
Russell 1000 Index (Large-caps) 18.54% 10.63% 14.27%
Russell 2000 Index (Small-caps) 20.74 12.18 13.79
Russell 3000 Index (Broad U.S. market) 18.71 10.74 14.23
FTSE All-World ex US Index (International) 19.49 5.11 7.35
 
Bonds      
Bloomberg Barclays U.S. Aggregate Bond Index      
(Broad taxable market) 0.07% 2.71% 2.06%
Bloomberg Barclays Municipal Bond Index      
(Broad tax-exempt market) 0.87 3.19 3.01
Citigroup Three-Month U.S. Treasury Bill Index 0.64 0.28 0.18
 
CPI      
Consumer Price Index 2.23% 1.22% 1.30%

 

4


 

We also cast more than 171,000 votes on behalf of Vanguard funds at more than 18,000 shareholder meetings.

Gender diversity on boards and climate risk

As we engage with companies, we are devoting increased attention to two specific topics. The first is gender diversity on boards. It’s no secret that the right combination of talent, skills, and experience leads to better results, so we pay close attention to how company boards are structured and managed, and how they evolve.

In recent years, a growing body of research has demonstrated that greater diversity on boards can lead to improved governance and company performance. We are advocating for boards to incorporate diverse perspectives and experience into their strategic planning and decision-making. One example of our commitment to more diverse boards is our participation in the 30% Club, a global coalition working to increase the representation of women in boardrooms and leadership roles.

The second issue is climate risk. We will continue to engage with companies to understand their responses to this risk. Regardless of one’s perspective on the issue, the potential is real for changing regulations, demographics, and consumption behavior to affect business results for companies in many sectors.

We want to ensure that such business and regulatory risks are sufficiently disclosed so investors can value companies appropriately. In the past year, we have voted for shareholder proposals at several energy companies that called for management to improve its climate risk assessment and planning, and we will consider supporting similar proposals if we believe they are beneficial to long-term shareholder value. When a proposal from a shareholder presents a strong case for change, we’re more than willing to fully consider it. And even if the case falls short, these proposals often catalyze a discussion that generates meaningful change over time.

In addition to considering activists’ proposals, we consult research providers and our own network of experts. When we detect material risks to a company’s long-term value (such as bad leadership, poor disclosure, misaligned compensation structures, or threats to shareholder rights), we act with our voice and our vote.

Our stewardship reflects our mission

But we don’t act as independent agents with our own agenda. Every time we speak with a company chairman, CEO, or director, we’re acutely aware of the role we play in representing the economic interests of more than 20 million Vanguard investors. So you can expect us to speak out when we detect threats to the economic interests of our shareholders.

5


 

We take positions on these matters not because they are inherently good or noble but because they are tied to the long-term economic value of your funds’ investments.

You trust us to represent your interests across the globe. You can be confident we act on that responsibility with the seriousness and dedication it deserves.

To learn more about our Investment Stewardship program, including how our funds have voted, visit https://about. vanguard.com/investment-stewardship/.

As always, thank you for investing with Vanguard.


F. William McNabb III
Chairman and Chief Executive Officer
October 13, 2017

6


 

Advisor’s Report

For the 12 months ended September 30, 2017, Vanguard U.S. Value Fund returned nearly 18%. The fund bested its benchmark index, the Russell 3000 Value Index, which returned well over 15%. It also outperformed the average return of its peer group.

Investment environment

As the period began, investors cheered stronger-than-expected third-quarter economic growth that stood in contrast to disappointing results earlier in 2016. That exuberance gained steam after the U.S. presidential election as investors anticipated the benefits of the new administration’s policy initiatives focused on tax reform, infrastructure spending, and greater deregulation. That optimism fueled a move toward riskier assets, propelling many bellwether stock indexes to record highs in 2017.

The Federal Reserve also acknowledged the strength of the U.S. economy. In December, as inflation inched closer to the Fed’s 2% target level, it raised the federal funds rate by a quarter percentage point—only the second increase in a decade. Optimism waned a bit in early 2017 as investors realized policy initiatives would take longer to materialize than had been anticipated. But consumers continued to open their wallets and unemployment continued to decline.

Those developments played a large part in the Fed’s decision to raise rates in March and June, pushing its target range to 1%–1.25%. Those moves, along with the

establishment of a framework for trimming its $4.5 trillion balance sheet, took the Fed closer to normalizing monetary policy after its emergency intervention in response to the Great Recession.

Despite those positive developments, disappointing inflation measures confounded some market outlooks. Annualized core inflation softened a little during the spring. In response, the Fed scaled back its 2017 inflation forecast but still expected inflation to move closer to its 2% target over the medium term. Further tightening in the labor market should help, although wage gains have been modest.

Over the period, the broad U.S. equity market (as measured by the Russell 3000 Index) returned nearly 19%. U.S. stock market performance was broad-based; nine of 11 market sectors advanced, led by financials, materials, and industrials. Growth stocks outperformed their value counterparts, small-capitalization stocks topped large-caps, and international and emerging-market equities outperformed their U.S. peers.

Many other countries posted decent growth, but major central banks such as the Bank of Japan, the Bank of England, and the European Central Bank remained in accommodative policy mode as they struggled to balance growth and inflation concerns. Even with a weaker U.S. dollar, comparatively low yields across many developed markets kept U.S. bonds attractive to international investors.

7


 

Investment objective and strategy

Although it’s important to understand how overall performance is affected by the macroeconomic factors we’ve described, our strategy focuses on company-specific fundamentals—not technical analysis. Our stock selection model evaluates companies within our investment universe to identify those with attractive characteristics that we believe will outperform over the long run.

To do this, we use a strict quantitative process that focuses on a combination of five key themes: high quality—healthy balance sheets and consistent cash-flow generation; effective use of capital—sound investment policies that favor internal over external funding; consistent earnings growth—a demonstrated ability to grow earnings year after year; strong market sentiment—market confirmation of our view; and reasonable valuation—avoidance of overpriced stocks.

The interaction of these themes generates an opinion on all the stocks in our universe each day. We monitor our portfolio based on those rankings and adjust when appropriate. Our approach also includes a dynamic weighting process that shifts the relative importance of the themes over time. Using the results of our model, we then construct our portfolio with the goal of maximizing expected return, while minimizing exposure to risks that our research indicates do not improve returns, such as industry selection and other risks relative to our benchmark.

Our successes and failures

The fund’s outperformance was driven by our valuation signal, especially in the beginning of the period, and our growth signal. The sentiment and management decisions signals contributed to a lesser degree.

Stock selection results were positive in seven sectors, with information technology, materials, and health care leading the way. Energy and consumer discretionary were among the sectors that detracted the most.

Our overweighting of semiconductor manufacturer NVIDIA contributed significantly to our strength in information technology. AK Steel, Chemours, Advanced Micro Devices, and Bank of America were also top contributors.

Energy sector companies such as Denbury Resources, Newfield Exploration, Sanchez Energy, and Chesapeake Energy hurt most.

Portfolio Managers:

James P. Stetler

Binbin Guo, Principal,
Head of Alpha Equity Investments

Vanguard Quantitative Equity Group

October 12, 2017

8


 

U.S. Value Fund

Fund Profile
As of September 30, 2017

Portfolio Characteristics    
      DJ
      U.S.
    Russell Total
    3000 Market
    Value FA
  Fund Index Index
Number of Stocks 230 2,110 3,808
Median Market Cap $36.6B $55.2B $61.4B
Price/Earnings Ratio 18.0x 18.8x 21.9x
Price/Book Ratio 2.1x 1.9x 2.9x
Return on Equity 11.5% 10.9% 15.1%
Earnings Growth      
Rate 7.4% 6.3% 9.6%
Dividend Yield 2.2% 2.3% 1.8%
Foreign Holdings 0.2% 0.0% 0.0%
Turnover Rate 95%
Ticker Symbol VUVLX
Expense Ratio1 0.23%
30-Day SEC Yield 2.07%
Short-Term Reserves 0.2%

 

Sector Diversification (% of equity exposure)
    Russell DJ
    3000 U.S. Total 
    Value Market
  Fund Index FA Index 
Consumer Discretionary 7.0% 7.0% 12.3%
Consumer Staples 8.3 8.2 7.3
Energy 10.4 10.5 5.8
Financials 26.2 26.4 15.0
Health Care 13.3 13.3 14.0
Industrials 8.9 8.8 10.8
Information Technology 8.4 8.3 22.3
Materials 2.9 3.0 3.4
Real Estate 5.4 5.3 4.0
Telecommunication      
Services 3.0 3.0 2.0
Utilities 6.2 6.2 3.1

 

Volatility Measures    
  Russell DJ
  3000 U.S. Total
  Value Market
  Index FA Index
R-Squared 0.94 0.86
Beta 1.01 0.98

These measures show the degree and timing of the fund’s
fluctuations compared with the indexes over 36 months.

 

 

Ten Largest Holdings (% of total net assets)
Exxon Mobil Corp. Integrated Oil & Gas 3.1%
JPMorgan Chase & Co. Diversified Banks 3.1
Chevron Corp. Integrated Oil & Gas 2.2
Procter & Gamble Co. Household Products 2.2
Berkshire Hathaway Inc. Multi-Sector  
  Holdings 2.1
Pfizer Inc. Pharmaceuticals 2.1
Bank of America Corp. Diversified Banks 2.1
Citigroup Inc. Diversified Banks 2.1
AT&T Inc. Integrated  
  Telecommunication  
  Services 2.0
Johnson & Johnson Pharmaceuticals 1.9
Top Ten   22.9%

The holdings listed exclude any temporary cash investments and
equity index products.

 

 



Investment Focus


Sector categories are based on the Global Industry Classification
Standard (“GICS”), except for the “Other” category (if applicable),
which includes securities that have not been provided a GICS
classification as of the effective reporting period.

1 The expense ratio shown is from the prospectus dated January 26, 2017, and represents estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the expense ratio was 0.23%.

9


 

U.S. Value Fund

Performance Summary

All of the returns in this report represent past performance, which is not a guarantee of future results that may be achieved by the fund. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost. The returns shown do not reflect taxes that a shareholder would pay on fund distributions or on the sale of fund shares.

Cumulative Performance: September 30, 2007, Through September 30, 2017
Initial Investment of $10,000


    Average Annual Total Returns  
    Periods Ended September 30, 2017  
          Final Value
    One Five Ten of a $10,000
    Year Years Years Investment
  U.S. Value Fund* 17.87% 14.01% 6.53% $18,830
• • • • • • • • Russell 3000 Value Index 15.53 13.20 6.01 17,926
– – – – Multi-Cap Value Funds Average 16.69 12.32 5.39 16,908
  Dow Jones U.S. Total Stock Market        
  Float Adjusted Index 18.67 14.15 7.64 20,887
Multi-Cap Value Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.    

 

See Financial Highlights for dividend and capital gains information.

10


 

U.S. Value Fund

Fiscal-Year Total Returns (%): September 30, 2007, Through September 30, 2017


11


 

U.S. Value Fund

Financial Statements

Statement of Net Assets
As of September 30, 2017

The fund reports a complete list of its holdings in regulatory filings four times in each fiscal year, at the quarter-ends. For the second and fourth fiscal quarters, the lists appear in the fund’s semiannual and annual reports to shareholders. For the first and third fiscal quarters, the fund files the lists with the Securities and Exchange Commission on Form N-Q. Shareholders can look up the fund’s Forms N-Q on the SEC’s website at sec.gov. Forms N-Q may also be reviewed and copied at the SEC’s Public Reference Room (see the back cover of this report for further information).

      Market
      Value
    Shares ($000)
Common Stocks (99.5%)1    
Consumer Discretionary (7.0%)  
  Best Buy Co. Inc. 184,448 10,506
  Comcast Corp. Class A 263,023 10,121
  Coach Inc. 232,498 9,365
  Lear Corp. 54,053 9,356
  Carnival Corp. 141,480 9,135
* Liberty Media Corp-    
  Liberty SiriusXM Class    
  A Shares 210,839 8,834
* Burlington Stores Inc. 87,400 8,343
* Discovery    
  Communications Inc.    
  Class A 299,521 6,377
  New York Times Co.    
  Class A 316,333 6,200
  General Motors Co. 143,549 5,797
  Royal Caribbean    
  Cruises Ltd. 47,745 5,660
  Hasbro Inc. 41,730 4,076
* Cooper-Standard    
  Holdings Inc. 26,268 3,046
  Twenty-First Century    
  Fox Inc. Class A 108,834 2,871
  MDC Holdings Inc. 84,154 2,795
  Office Depot Inc. 601,483 2,731
  Ralph Lauren Corp.    
  Class A 25,591 2,259
  Twenty-First Century    
  Fox Inc. 52,971 1,366
  Target Corp. 19,185 1,132
^ Big 5 Sporting Goods    
  Corp. 145,850 1,116
  Time Warner Inc. 10,030 1,028
* Iconix Brand Group Inc. 175,125 996
  Aaron’s Inc. 20,592 898
  Tailored Brands Inc. 59,475 859
* Gray Television Inc. 36,005 565

 

  KB Home 23,075 557
  Toll Brothers Inc. 11,389 472
      116,461
Consumer Staples (8.2%)    
  Procter & Gamble Co. 397,545 36,169
  Philip Morris    
  International Inc. 213,172 23,664
  Wal-Mart Stores Inc. 274,463 21,447
  Walgreens Boots    
  Alliance Inc. 148,670 11,480
  Conagra Brands Inc. 289,686 9,774
  Sanderson Farms Inc. 57,160 9,232
  Hershey Co. 64,543 7,046
  PepsiCo Inc. 44,280 4,934
  Bunge Ltd. 55,176 3,832
* Pilgrim’s Pride Corp. 112,317 3,191
  CVS Health Corp. 39,202 3,188
  Universal Corp. 19,523 1,119
* HRG Group Inc. 57,067 891
  Campbell Soup Co. 17,676 828
  Kimberly-Clark Corp. 7,010 825
      137,620
Energy (10.4%)    
  Exxon Mobil Corp. 640,325 52,494
  Chevron Corp. 316,482 37,187
  Valero Energy Corp. 174,527 13,426
  Halliburton Co. 220,379 10,144
  Williams Cos. Inc. 333,707 10,015
*,^ Chesapeake Energy    
  Corp. 1,809,458 7,781
  Devon Energy Corp. 168,409 6,182
  Baker Hughes a GE Co. 134,641 4,931
^ RPC Inc. 197,635 4,899
* Newfield Exploration Co. 157,753 4,680
* Peabody Energy Corp. 155,297 4,505
  Phillips 66 43,157 3,954
  Schlumberger Ltd. 49,084 3,424
* Exterran Corp. 99,487 3,145

 

12


 

U.S. Value Fund

      Market
      Value
    Shares ($000)
* Laredo Petroleum Inc. 149,318 1,931
* Abraxas Petroleum Corp. 516,877 972
  Delek US Holdings Inc. 31,474 841
* Denbury Resources Inc. 602,127 807
* W&T Offshore Inc. 257,786 786
* SandRidge Energy Inc. 32,793 659
* McDermott International    
  Inc. 76,382 555
* REX American Resources    
  Corp. 5,003 469
  CVR Energy Inc. 17,177 445
      174,232
Financials (26.1%)    
  JPMorgan Chase & Co. 540,838 51,655
* Berkshire Hathaway Inc.    
  Class B 193,497 35,472
  Bank of America Corp. 1,388,345 35,181
  Citigroup Inc. 475,238 34,569
  Wells Fargo & Co. 464,484 25,616
  Goldman Sachs Group Inc. 85,230 20,216
  PNC Financial Services    
  Group Inc. 128,872 17,368
  Morgan Stanley 356,198 17,158
  Bank of New York    
  Mellon Corp. 293,952 15,585
  State Street Corp. 137,477 13,135
  Aflac Inc. 148,012 12,047
  Regions Financial Corp. 764,727 11,647
  Citizens Financial    
  Group Inc. 307,046 11,628
  Allstate Corp. 123,602 11,360
  Lincoln National Corp. 151,072 11,101
  T. Rowe Price Group Inc. 120,522 10,925
  Unum Group 206,536 10,560
  Comerica Inc. 127,670 9,736
  Everest Re Group Ltd. 42,594 9,728
  Ameriprise Financial Inc. 61,656 9,157
  Assured Guaranty Ltd. 224,235 8,465
* Walker & Dunlop Inc. 130,529 6,831
  Discover Financial    
  Services 105,159 6,781
  Zions Bancorporation 143,376 6,764
  Leucadia National Corp. 211,444 5,339
  Universal Insurance    
  Holdings Inc. 217,019 4,991
  American Express Co. 51,238 4,635
  SunTrust Banks Inc. 57,003 3,407
  CNO Financial Group Inc. 138,788 3,239
  Torchmark Corp. 28,164 2,256
  US Bancorp 40,502 2,170
  East West Bancorp Inc. 32,318 1,932
  Primerica Inc. 19,997 1,631
  Raymond James    
  Financial Inc. 10,558 890
  Ally Financial Inc. 35,344 857

 

* Credit Acceptance Corp. 3,036 851
  Principal Financial Group    
  Inc. 12,925 832
  American Financial Group    
  Inc. 7,995 827
  Federal Agricultural    
  Mortgage Corp. 10,908 793
  Capital One Financial Corp. 6,843 579
      437,914
Health Care (13.3%)    
  Pfizer Inc. 991,878 35,410
  Johnson & Johnson 250,973 32,629
  Merck & Co. Inc. 457,173 29,273
  Bristol-Myers Squibb Co. 251,719 16,044
  Anthem Inc. 75,730 14,380
* Centene Corp. 108,191 10,470
  Agilent Technologies Inc. 158,181 10,155
  Cigna Corp. 50,260 9,396
  Humana Inc. 35,454 8,638
* WellCare Health Plans Inc. 49,772 8,548
* Quintiles IMS Holdings Inc. 89,051 8,466
  Baxter International Inc. 134,006 8,409
  Aetna Inc. 49,648 7,894
* Express Scripts Holding Co. 124,595 7,889
  Medtronic plc 56,027 4,357
  Amgen Inc. 22,337 4,165
  Abbott Laboratories 39,877 2,128
* Exelixis Inc. 60,640 1,469
* INC Research Holdings    
  Inc. Class A 17,240 902
  Allergan plc 3,939 807
* OraSure Technologies Inc. 26,786 603
      222,032
Industrials (8.8%)    
  Honeywell International    
  Inc. 99,030 14,037
  General Electric Co. 570,370 13,792
  Oshkosh Corp. 121,671 10,043
  Spirit AeroSystems    
  Holdings Inc. Class A 128,241 9,967
  Caterpillar Inc. 79,655 9,934
  Owens Corning 122,641 9,486
* United Rentals Inc. 67,229 9,327
  Lockheed Martin Corp. 29,826 9,255
  SkyWest Inc. 179,152 7,865
  Quad/Graphics Inc. 301,013 6,806
* United Continental    
  Holdings Inc. 101,363 6,171
  Global Brass & Copper    
  Holdings Inc. 177,763 6,008
  Copa Holdings SA Class A 42,473 5,289
  Waste Management Inc. 56,484 4,421
  Wabash National Corp. 183,039 4,177
* Meritor Inc. 147,959 3,848
  Timken Co. 67,507 3,277

 

13


 

U.S. Value Fund

      Market
      Value
    Shares ($000)
* Rush Enterprises Inc.    
  Class A 60,929 2,820
  United Technologies Corp. 20,219 2,347
  GATX Corp. 32,163 1,980
* Hawaiian Holdings Inc. 44,826 1,683
  American Airlines    
  Group Inc. 34,805 1,653
  Allison Transmission    
  Holdings Inc. 32,313 1,213
* Harsco Corp. 54,845 1,146
  Rockwell Automation Inc. 4,662 831
  CECO Environmental Corp. 46,275 392
      147,768
Information Technology (8.3%)  
  Intel Corp. 362,945 13,821
  HP Inc. 670,001 13,373
  Cisco Systems Inc. 376,386 12,658
  Applied Materials Inc. 188,617 9,825
  Booz Allen Hamilton    
  Holding Corp. Class A 247,213 9,243
*,^ VMware Inc. Class A 84,151 9,188
*,^ Advanced Micro Devices    
  Inc. 626,522 7,988
  Oracle Corp. 160,329 7,752
  CDW Corp. 115,793 7,642
* TTM Technologies Inc. 463,242 7,120
* Extreme Networks Inc. 443,102 5,268
  DXC Technology Co. 59,226 5,086
  Travelport Worldwide Ltd. 273,100 4,288
* CACI International Inc.    
  Class A 27,637 3,851
  SYNNEX Corp. 27,238 3,446
* ON Semiconductor Corp. 140,265 2,591
* Anixter International Inc. 29,302 2,491
* Amkor Technology Inc. 234,081 2,470
* Dell Technologies Inc.    
  Class V 31,693 2,447
  Western Digital Corp. 21,144 1,827
* Micron Technology Inc. 34,667 1,363
  QUALCOMM Inc. 26,000 1,348
* Ultra Clean Holdings Inc. 40,914 1,253
* Sigma Designs Inc. 165,961 1,046
  Convergys Corp. 23,908 619
* Unisys Corp. 58,504 497
* Alpha & Omega    
  Semiconductor Ltd. 19,824 327
* Sykes Enterprises Inc. 9,568 279
      139,107
Materials (2.9%)    
* Freeport-McMoRan Inc. 697,621 9,794
  Huntsman Corp. 342,172 9,382
  Chemours Co. 182,453 9,234
* Owens-Illinois Inc. 345,192 8,685
* Louisiana-Pacific Corp. 312,512 8,463

 

* AdvanSix Inc. 43,990 1,749
  DowDuPont Inc. 19,627 1,359
* Alcoa Corp. 9,095 424
      49,090
Real Estate (5.4%)    
^ Omega Healthcare    
  Investors Inc. 284,946 9,093
  Hospitality Properties    
  Trust 308,949 8,802
  Lexington Realty Trust 705,509 7,210
  Senior Housing    
  Properties Trust 348,210 6,808
  CoreCivic Inc. 229,070 6,132
  Sabra Health Care    
  REIT Inc. 270,866 5,943
  GEO Group Inc. 219,073 5,893
*,2 Forestar Group Inc. 274,347 4,719
  Xenia Hotels & Resorts    
  Inc. 216,625 4,560
  Sunstone Hotel Investors    
  Inc. 283,139 4,550
  CorEnergy Infrastructure    
  Trust Inc. 117,483 4,153
  Government Properties    
  Income Trust 211,584 3,971
  LaSalle Hotel Properties 134,889 3,914
  Select Income REIT 119,680 2,803
  Prologis Inc. 35,223 2,235
  NorthStar Realty Europe    
  Corp. 153,722 1,969
^ Uniti Group Inc. 116,709 1,711
  National Health    
  Investors Inc. 20,588 1,591
  Getty Realty Corp. 35,690 1,021
  Essex Property Trust Inc. 3,629 922
  Ashford Hospitality    
  Trust Inc. 128,054 854
  Park Hotels & Resorts Inc. 15,667 432
  Chesapeake Lodging Trust 12,749 344
  Tier REIT Inc. 17,398 336
      89,966
Telecommunication Services (3.0%)  
  AT&T Inc. 841,647 32,967
* T-Mobile US Inc. 144,633 8,918
* Sprint Corp. 496,059 3,859
  Verizon Communications    
  Inc. 72,669 3,597
      49,341
Utilities (6.1%)    
  NextEra Energy Inc. 114,889 16,837
  PG&E Corp. 187,919 12,795
  CenterPoint Energy Inc. 349,101 10,197
  FirstEnergy Corp. 320,282 9,874
  Entergy Corp. 129,275 9,872

 

14


 

U.S. Value Fund

      Market
      Value
    Shares ($000)
  Ameren Corp. 170,225 9,846
  National Fuel Gas Co. 154,473 8,745
  NRG Energy Inc. 239,855 6,138
  DTE Energy Co. 51,184 5,495
  MDU Resources Group Inc. 179,041 4,646
  Xcel Energy Inc. 76,688 3,629
  PNM Resources Inc. 56,434 2,274
  AES Corp. 146,749 1,617
  Avangrid Inc. 19,456 923
      102,888
Total Common Stocks    
(Cost $1,407,471)   1,666,419
Temporary Cash Investments (1.4%)1  
Money Market Fund (1.3%)    
3,4 Vanguard Market Liquidity    
  Fund, 1.223% 222,053 22,210
 
    Face  
    Amount  
    ($000)  
U. S. Government and Agency Obligations (0.1%)
5 United States Cash    
  Management Bill,    
  1.048%, 1/2/18 1,000 997
5 United States Treasury Bill,    
  1.107%, 12/28/17 400 399
      1,396
Total Temporary Cash Investments  
(Cost $23,604)   23,606
Total Investments (100.9%)    
(Cost $1,431,075)   1,690,025

 

  Amount
  ($000)
Other Assets and Liabilities (-0.9%)  
Other Assets  
Receivables for Investment Securities Sold 265
Investment in Vanguard 102
Receivables for Accrued Income 1,947
Receivables for Capital Shares Issued 597
Variation Margin Receivable-Futures  
Contracts 32
Other Assets 3,202
Total Other Assets 6,145
Liabilities  
Payables for Investment Securities  
Purchased (6,724)
Collateral for Securities on Loan (11,837)
Payables for Capital Shares Redeemed (914)
Payables to Vanguard (1,380)
Other Liabilities (4)
Total Liabilities (20,859)
Net Assets (100%)  
Applicable to 85,358,971 outstanding  
$.001 par value shares of beneficial  
interest (unlimited authorization) 1,675,311
Net Asset Value Per Share $19.63

 

15


 

U.S. Value Fund

At September 30, 2017, net assets consisted of:
  Amount
  ($000)
Paid-in Capital 1,301,912
Undistributed Net Investment Income 23,033
Accumulated Net Realized Gains 91,362
Unrealized Appreciation (Depreciation)  
Investment Securities 258,950
Futures Contracts 54
Net Assets 1,675,311

 

See Note A in Notes to Financial Statements.
* Non-income-producing security.
^ Includes partial security positions on loan to broker-dealers.
The total value of securities on loan is $11,344,000.
1 The fund invests a portion of its cash reserves in equity
markets through the use of index futures contracts. After
giving effect to futures investments, the fund’s effective
common stock and temporary cash investment positions
represent 100.0% and 0.9%, respectively, of net assets.
2 Security value determined using significant unobservable
inputs.
3 Affiliated money market fund available only to Vanguard funds
and certain trusts and accounts managed by Vanguard. Rate
shown is the 7-day yield.
4 Includes $11,837,000 of collateral received for securities
on loan.
5 Securities with a value of $509,000 have been segregated as
initial margin for open futures contracts.
REIT—Real Estate Investment Trust.

Derivative Financial Instruments Outstanding as of Period End    
 
Futures Contracts        
        ($000)
        Value and
    Number of   Unrealized
    Long (Short) Notional Appreciation
  Expiration Contracts Amount (Depreciation)
Long Futures Contracts        
E-mini S&P 500 Index December 2017 69 8,681 54

 

Unrealized appreciation (depreciation) on open futures contracts is required to be treated as realized gain (loss) for tax purposes.

See accompanying Notes, which are an integral part of the Financial Statements.

16


 

U.S. Value Fund

Statement of Operations  
 
  Year Ended
  September 30, 2017
  ($000)
Investment Income  
Income  
Dividends 39,716
Interest1 79
Securities Lending—Net 725
Total Income 40,520
Expenses  
The Vanguard Group—Note B  
Investment Advisory Services 1,034
Management and Administrative 2,146
Marketing and Distribution 270
Custodian Fees 24
Auditing Fees 35
Shareholders’ Reports and Proxy 87
Trustees’ Fees and Expenses 2
Total Expenses 3,598
Net Investment Income 36,922
Realized Net Gain (Loss)  
Investment Securities Sold1 99,442
Futures Contracts 1,349
Realized Net Gain (Loss) 100,791
Change in Unrealized Appreciation (Depreciation)  
Investment Securities1 109,838
Futures Contracts 38
Change in Unrealized Appreciation (Depreciation) 109,876
Net Increase (Decrease) in Net Assets Resulting from Operations 247,589

 

1 Interest income, realized net gain (loss), and change in unrealized appreciation (depreciation) from an affiliated company of the fund were $74,000, $3,000, and $0, respectively.

See accompanying Notes, which are an integral part of the Financial Statements.

17


 

U.S. Value Fund

Statement of Changes in Net Assets    
 
  Year Ended September 30,
  2017 2016
  ($000) ($000)
Increase (Decrease) in Net Assets    
Operations    
Net Investment Income 36,922 34,546
Realized Net Gain (Loss) 100,791 23,090
Change in Unrealized Appreciation (Depreciation) 109,876 81,526
Net Increase (Decrease) in Net Assets Resulting from Operations 247,589 139,162
Distributions    
Net Investment Income (30,933) (26,754)
Realized Capital Gain1 (22,230) (48,800)
Total Distributions (53,163) (75,554)
Capital Share Transactions    
Issued 422,683 306,212
Issued in Lieu of Cash Distributions 50,256 71,550
Redeemed (365,711) (282,648)
Net Increase (Decrease) from Capital Share Transactions 107,228 95,114
Total Increase (Decrease) 301,654 158,722
Net Assets    
Beginning of Period 1,373,657 1,214,935
End of Period2 1,675,311 1,373,657

 

1 Includes fiscal 2017 and 2016 short-term gain distributions totaling $0 and $0, respectively. Short-term gain distributions are treated as ordinary income dividends for tax purposes.

2 Net Assets—End of Period includes undistributed (overdistributed) net investment income of $23,033,000 and $20,151,000.

See accompanying Notes, which are an integral part of the Financial Statements.

18


 

U.S. Value Fund          
 
 
Financial Highlights          
 
 
For a Share Outstanding     Year Ended September 30,
Throughout Each Period 2017 2016 2015 2014 2013
Net Asset Value, Beginning of Period $17.25 $16.48 $16.95 $14.41 $11.89
Investment Operations          
Net Investment Income . 4371 .440 .355 .299 .304
Net Realized and Unrealized Gain (Loss)          
on Investments 2.606 1.341 (.543) 2.531 2.506
Total from Investment Operations 3.043 1.781 (.188) 2.830 2.810
Distributions          
Dividends from Net Investment Income (. 386) (. 358) (. 282) (. 290) (. 290)
Distributions from Realized Capital Gains (.277) (.653)
Total Distributions (. 663) (1.011) (. 282) (. 290) (. 290)
Net Asset Value, End of Period $19.63 $17.25 $16.48 $16.95 $14.41
 
Total Return2 17.87% 11.09% -1.18% 19.89% 24.16%
 
Ratios/Supplemental Data          
Net Assets, End of Period (Millions) $1,675 $1,374 $1,215 $1,117 $829
Ratio of Total Expenses to Average Net Assets 0.23% 0.23% 0.26% 0.29% 0.29%
Ratio of Net Investment Income to          
Average Net Assets 2.36% 2.63% 2.10% 1.92% 2.26%
Portfolio Turnover Rate 95% 76% 66% 57% 75%

 

1 Calculated based on average shares outstanding.

2 Total returns do not include account service fees that may have applied in the periods shown. Fund prospectuses provide information about any applicable account service fees.

See accompanying Notes, which are an integral part of the Financial Statements.

19


 

U.S. Value Fund

Notes to Financial Statements

Vanguard U.S. Value Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund.

A. The following significant accounting policies conform to generally accepted accounting principles for U.S. investment companies. The fund consistently follows such policies in preparing its financial statements.

1. Security Valuation: Securities are valued as of the close of trading on the New York Stock Exchange (generally 4 p.m., Eastern time) on the valuation date. Equity securities are valued at the latest quoted sales prices or official closing prices taken from the primary market in which each security trades; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Securities for which market quotations are not readily available, or whose values have been materially affected by events occurring before the fund’s pricing time but after the close of the securities’ primary markets, are valued by methods deemed by the board of trustees to represent fair value. Investments in Vanguard Market Liquidity Fund are valued at that fund’s net asset value. Temporary cash investments are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services.

2. Futures Contracts: The fund uses index futures contracts to a limited extent, with the objective of maintaining full exposure to the stock market while maintaining liquidity. The fund may purchase or sell futures contracts to achieve a desired level of investment, whether to accommodate portfolio turnover or cash flows from capital share transactions. The primary risks associated with the use of futures contracts are imperfect correlation between changes in market values of stocks held by the fund and the prices of futures contracts, and the possibility of an illiquid market. Counterparty risk involving futures is mitigated because a regulated clearinghouse is the counterparty instead of the clearing broker. To further mitigate counterparty risk, the fund trades futures contracts on an exchange, monitors the financial strength of its clearing brokers and clearinghouse, and has entered into clearing agreements with its clearing brokers. The clearinghouse imposes initial margin requirements to secure the fund’s performance and requires daily settlement of variation margin representing changes in the market value of each contract.

Futures contracts are valued at their quoted daily settlement prices. The notional amounts of the contracts are not recorded in the Statement of Net Assets. Fluctuations in the value of the contracts are recorded in the Statement of Net Assets as an asset (liability) and in the Statement of Operations as unrealized appreciation (depreciation) until the contracts are closed, when they are recorded as realized futures gains (losses).

During the year ended September 30, 2017, the fund’s average investments in long and short futures contracts represented less than 1% and 0% of net assets, respectively, based on the average of the notional amounts at each quarter-end during the period.

3. Federal Income Taxes: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Management has analyzed the fund’s tax positions taken for all open federal income tax years (September 30, 2014–2017), and has concluded that no provision for federal income tax is required in the fund’s financial statements.

20


 

U.S. Value Fund

4. Distributions: Distributions to shareholders are recorded on the ex-dividend date.

5. Securities Lending: To earn additional income, the fund lends its securities to qualified institutional borrowers. Security loans are subject to termination by the fund at any time, and are required to be secured at all times by collateral in an amount at least equal to the market value of securities loaned. Daily market fluctuations could cause the value of loaned securities to be more or less than the value of the collateral received. When this occurs, the collateral is adjusted and settled on the next business day. The fund further mitigates its counterparty risk by entering into securities lending transactions only with a diverse group of prequalified counterparties, monitoring their financial strength, and entering into master securities lending agreements with its counterparties. The master securities lending agreements provide that, in the event of a counterparty’s default (including bankruptcy), the fund may terminate any loans with that borrower, determine the net amount owed, and sell or retain the collateral up to the net amount owed to the fund; however, such actions may be subject to legal proceedings. While collateral mitigates counterparty risk, in the event of a default, the fund may experience delays and costs in recovering the securities loaned. The fund invests cash collateral received in Vanguard Market Liquidity Fund, and records a liability in the Statement of Net Assets for the return of the collateral, during the period the securities are on loan. Securities lending income represents fees charged to borrowers plus income earned on invested cash collateral, less expenses associated with the loan. During the term of the loan, the fund is entitled to all distributions made on or in respect of the loaned securities.

6. Credit Facility: The fund and certain other funds managed by The Vanguard Group (“Vanguard”) participate in a $3.1 billion committed credit facility provided by a syndicate of lenders pursuant to a credit agreement that may be renewed annually; each fund is individually liable for its borrowings, if any, under the credit facility. Borrowings may be utilized for temporary and emergency purposes, and are subject to the fund’s regulatory and contractual borrowing restrictions. The participating funds are charged administrative fees and an annual commitment fee of 0.10% of the undrawn amount of the facility; these fees are allocated to the funds based on a method approved by the fund’s board of trustees and included in Management and Administrative expenses on the fund’s Statement of Operations. Any borrowings under this facility bear interest at a rate based upon the higher of the one-month London Interbank Offered Rate, federal funds effective rate, or overnight bank funding rate plus an agreed-upon spread.

The fund had no borrowings outstanding at September 30, 2017, or at any time during the period then ended.

7. Other: Dividend income is recorded on the ex-dividend date. Interest income includes income distributions received from Vanguard Market Liquidity Fund and is accrued daily. Premiums and discounts on debt securities purchased are amortized and accreted, respectively, to interest income over the lives of the respective securities. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold.

B. In accordance with the terms of a Funds’ Service Agreement (the “FSA”) between Vanguard and the fund, Vanguard furnishes to the fund investment advisory, corporate management, administrative, marketing, and distribution services at Vanguard’s cost of operations (as defined by the FSA). These costs of operations are allocated to the fund based on methods and guidelines approved by the board of trustees. Vanguard does not require reimbursement in the current period

21


 

U.S. Value Fund

for certain costs of operations (such as deferred compensation/benefits and risk/insurance costs); the fund’s liability for these costs of operations is included in Payables to Vanguard on the Statement of Net Assets.

Upon the request of Vanguard, the fund may invest up to 0.40% of its net assets as capital in Vanguard. At September 30, 2017, the fund had contributed to Vanguard capital in the amount of $102,000, representing 0.01% of the fund’s net assets and 0.04% of Vanguard’s capitalization. The fund’s trustees and officers are also directors and employees, respectively, of Vanguard.

C. Various inputs may be used to determine the value of the fund’s investments. These inputs are summarized in three broad levels for financial statement purposes. The inputs or methodologies used to value securities are not necessarily an indication of the risk associated with investing in those securities.

Level 1—Quoted prices in active markets for identical securities.

Level 2—Other significant observable inputs (including quoted prices for similar securities, interest rates, prepayment speeds, credit risk, etc.).

Level 3—Significant unobservable inputs (including the fund’s own assumptions used to determine the fair value of investments). Any investments valued with significant unobservable inputs are noted on the Statement of Net Assets.

The following table summarizes the market value of the fund’s investments as of September 30, 2017, based on the inputs used to value them:

  Level 1 Level 2 Level 3
Investments ($000) ($000) ($000)
Common Stocks 1,661,700 4,719
Temporary Cash Investments 22,210 1,396
Futures Contracts—Assets1 32
Total 1,683,942 1,396 4,719
1 Represents variation margin on the last day of the reporting period.      

 

D. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. Differences may be permanent or temporary. Permanent differences are reclassified among capital accounts in the financial statements to reflect their tax character. Temporary differences arise when certain items of income, expense, gain, or loss are recognized in different periods for financial statement and tax purposes. These differences will reverse at some time in the future. Differences in classification may also result from the treatment of short-term gains as ordinary income for tax purposes.

The fund used a tax accounting practice to treat a portion of the price of capital shares redeemed during the year as distributions from net investment income and realized capital gains. Accordingly, the fund has reclassified $3,107,000 from undistributed net investment income, and $8,471,000 from accumulated net realized gains, to paid-in capital.

For tax purposes, at September 30, 2017, the fund had $46,927,000 of ordinary income and $68,731,000 of long-term capital gains available for distribution.

22


 

U.S. Value Fund

At September 30, 2017, the cost of investment securities for tax purposes was $1,431,075,000. Net unrealized appreciation of investment securities for tax purposes was $258,950,000, consisting of unrealized gains of $285,019,000 on securities that had risen in value since their purchase and $26,069,000 in unrealized losses on securities that had fallen in value since their purchase.

E. During the year ended September 30, 2017, the fund purchased $1,564,356,000 of investment securities and sold $1,473,193,000 of investment securities, other than temporary cash investments.

F. Capital shares issued and redeemed were:

  Year Ended September 30,
  2017 2016
  Shares Shares
  (000) (000)
Issued 22,746 18,669
Issued in Lieu of Cash Distributions 2,714 4,339
Redeemed (19,713) (17,113)
Net Increase (Decrease) in Shares Outstanding 5,747 5,895

 

G. Management has determined that no material events or transactions occurred subsequent to September 30, 2017, that would require recognition or disclosure in these financial statements.

23


 

Report of Independent Registered
Public Accounting Firm

To the Board of Trustees of Vanguard Malvern Funds and the Shareholders of Vanguard U.S.
Value Fund

In our opinion, the accompanying statement of net assets and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Vanguard U.S. Value Fund (constituting a separate portfolio of Vanguard Malvern Funds, hereafter referred to as the “Fund”) as of September 30, 2017, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended and the financial highlights for each of the five years in the period then ended, in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as “financial statements”) are the responsibility of the Fund’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities as of September 30, 2017 by correspondence with the custodian and brokers and by agreement to the underlying ownership records of the transfer agent, provide a reasonable basis for our opinion.

/s/PricewaterhouseCoopers LLP
Philadelphia, Pennsylvania
November 13, 2017

 

 


 

Special 2017 tax information (unaudited) for Vanguard U.S. Value Fund

This information for the fiscal year ended September 30, 2017, is included pursuant to provisions
of the Internal Revenue Code.

The fund distributed $28,657,000 as capital gain dividends (20% rate gain distributions)
to shareholders during the fiscal year.

The fund distributed $27,329,000 of qualified dividend income to shareholders during the
fiscal year.

For corporate shareholders, 54.7% of investment income (dividend income plus short-term gains,
if any) qualifies for the dividends-received deduction.

24


 

Your Fund’s After-Tax Returns

This table presents returns for your fund both before and after taxes. The after-tax returns are shown in two ways: (1) assuming that an investor owned the fund during the entire period and paid taxes on the fund’s distributions, and (2) assuming that an investor paid taxes on the fund’s distributions and sold all shares at the end of each period.

Calculations are based on the highest individual federal income tax and capital gains tax rates in effect at the times of the distributions and the hypothetical sales. State and local taxes were not considered. After-tax returns reflect any qualified dividend income, using actual prior-year figures and estimates for 2017. (In the example, returns after the sale of fund shares may be higher than those assuming no sale. This occurs when the sale would have produced a capital loss. The calculation assumes that the investor received a tax deduction for the loss.)

Please note that your actual after-tax returns will depend on your tax situation and may differ from those shown. Also note that if you own the fund in a tax-deferred account, such as an individual retirement account or a 401(k) plan, this information does not apply to you. Such accounts are not subject to current taxes.

Finally, keep in mind that a fund’s performance—whether before or after taxes—does not guarantee future results.

Average Annual Total Returns: U.S. Value Fund      
Periods Ended September 30, 2017      
  One Five Ten
  Year Years Years
Returns Before Taxes 17.87% 14.01% 6.53%
Returns After Taxes on Distributions 16.85 13.23 5.71
Returns After Taxes on Distributions and Sale of Fund Shares 10.79 11.15 5.07

 

25


 

About Your Fund’s Expenses

As a shareholder of the fund, you incur ongoing costs, which include costs for portfolio management, administrative services, and shareholder reports (like this one), among others. Operating expenses, which are deducted from a fund’s gross income, directly reduce the investment return of the fund.

A fund’s expenses are expressed as a percentage of its average net assets. This figure is known as the expense ratio. The following examples are intended to help you understand the ongoing costs (in dollars) of investing in your fund and to compare these costs with those of other mutual funds. The examples are based on an investment of $1,000 made at the beginning of the period shown and held for the entire period.

The accompanying table illustrates your fund’s costs in two ways:

Based on actual fund return. This section helps you to estimate the actual expenses that you paid over the period. The ”Ending Account Value“ shown is derived from the fund‘s actual return, and the third column shows the dollar amount that would have been paid by an investor who started with $1,000 in the fund. You may use the information here, together with the amount you invested, to estimate the expenses that you paid over the period.

To do so, simply divide your account value by $1,000 (for example, an $8,600 account value divided by $1,000 = 8.6), then multiply the result by the number given for your fund under the heading ”Expenses Paid During Period.“

Based on hypothetical 5% yearly return. This section is intended to help you compare your fund‘s costs with those of other mutual funds. It assumes that the fund had a yearly return of 5% before expenses, but that the expense ratio is unchanged. In this case—because the return used is not the fund’s actual return—the results do not apply to your investment. The example is useful in making comparisons because the Securities and Exchange Commission requires all mutual funds to calculate expenses based on a 5% return. You can assess your fund’s costs by comparing this hypothetical example with the hypothetical examples that appear in shareholder reports of other funds.

Note that the expenses shown in the table are meant to highlight and help you compare ongoing costs only and do not reflect transaction costs incurred by the fund for buying and selling securities. Further, the expenses do not include any purchase, redemption, or account service fees described in the fund prospectus. If such fees were applied to your account, your costs would be higher. Your fund does not carry a “sales load.”

The calculations assume no shares were bought or sold during the period. Your actual costs may have been higher or lower, depending on the amount of your investment and the timing of any purchases or redemptions.

You can find more information about the fund’s expenses, including annual expense ratios, in the Financial Statements section of this report. For additional information on operating expenses and other shareholder costs, please refer to your fund’s current prospectus.

26


 

Six Months Ended September 30, 2017      
  Beginning Ending Expenses
  Account Value Account Value Paid During
U.S. Value Fund 3/31/2017 9/30/2017 Period
Based on Actual Fund Return $1,000.00 $1,046.93 $1.13
Based on Hypothetical 5% Yearly Return 1,000.00 1,023.97 1.12

 

The calculations are based on expenses incurred in the most recent six-month period. The fund’s annualized six-month expense ratio for that period is 0.22%. The dollar amounts shown as “Expenses Paid” are equal to the annualized expense ratio multiplied by the average account value over the period, multiplied by the number of days in the most recent six-month period, then divided by the number of days in the most recent 12-month period (183/365).

27


 

Glossary

30-Day SEC Yield. A fund’s 30-day SEC yield is derived using a formula specified by the U.S. Securities and Exchange Commission. Under the formula, data related to the fund’s security holdings in the previous 30 days are used to calculate the fund’s hypothetical net income for that period, which is then annualized and divided by the fund’s estimated average net assets over the calculation period. For the purposes of this calculation, a security’s income is based on its current market yield to maturity (for bonds), its actual income (for asset-backed securities), or its projected dividend yield (for stocks). Because the SEC yield represents hypothetical annualized income, it will differ—at times significantly—from the fund’s actual experience. As a result, the fund’s income distributions may be higher or lower than implied by the SEC yield.

Beta. A measure of the magnitude of a fund’s past share-price fluctuations in relation to the ups and downs of a given market index. The index is assigned a beta of 1.00. Compared with a given index, a fund with a beta of 1.20 typically would have seen its share price rise or fall by 12% when the index rose or fell by 10%. For this report, beta is based on returns over the past 36 months for both the fund and the index. Note that a fund’s beta should be reviewed in conjunction with its R-squared (see definition). The lower the R-squared, the less correlation there is between the fund and the index, and the less reliable beta is as an indicator of volatility.

Dividend Yield. Dividend income earned by stocks, expressed as a percentage of the aggregate market value (or of net asset value, for a fund). The yield is determined by dividing the amount of the annual dividends by the aggregate value (or net asset value) at the end of the period. For a fund, the dividend yield is based solely on stock holdings and does not include any income produced by other investments.

Earnings Growth Rate. The average annual rate of growth in earnings over the past five years for the stocks now in a fund.

Equity Exposure. A measure that reflects a fund’s investments in stocks and stock futures. Any holdings in short-term reserves are excluded.

Expense Ratio. A fund’s total annual operating expenses expressed as a percentage of the fund’s average net assets. The expense ratio includes management and administrative expenses, but does not include the transaction costs of buying and selling portfolio securities.

Foreign Holdings. The percentage of a fund represented by securities or depositary receipts of companies based outside the United States.

Inception Date. The date on which the assets of a fund (or one of its share classes) are first invested in accordance with the fund’s investment objective. For funds with a subscription period, the inception date is the day after that period ends. Investment performance is measured from the inception date.

Median Market Cap. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund’s stocks, weighted by the proportion of the fund’s assets invested in each stock. Stocks representing half of the fund’s assets have market capitalizations above the median, and the rest are below it.

Price/Book Ratio. The share price of a stock divided by its net worth, or book value, per share.

For a fund, the weighted average price/book ratio of the stocks it holds.

28


 

Price/Earnings Ratio. The ratio of a stock’s current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company’s future growth.

R-Squared. A measure of how much of a fund’s past returns can be explained by the returns from the market in general, as measured by a given index. If a fund’s total returns were precisely synchronized with an index’s returns, its R-squared would be 1.00. If the fund’s returns bore no relationship to the index’s returns, its R-squared would be 0. For this report, R-squared is based on returns over the past 36 months for both the fund and the index.

Return on Equity. The annual average rate of return generated by a company during the past five years for each dollar of shareholder’s equity (net income divided by shareholder’s equity). For a fund, the weighted average return on equity for the companies whose stocks it holds.

Short-Term Reserves. The percentage of a fund invested in highly liquid, short-term securities that can be readily converted to cash.

Turnover Rate. An indication of the fund’s trading activity. Funds with high turnover rates incur higher transaction costs and may be more likely to distribute capital gains (which may be taxable to investors). The turnover rate excludes in-kind transactions, which have minimal impact on costs.

29


 

The Global Industry Classification Standard (“GICS”) was developed by and is the exclusive property and a service mark of MSCI Inc. (“MSCI”) and Standard and Poor’s, a division of McGraw-Hill Companies, Inc. (“S&P”), and is licensed for use by Vanguard. Neither MSCI, S&P nor any third party involved in making or compiling the GICS or any GICS classification makes any express or implied warranties or representations with respect to such standard or classification (or the results to be obtained by the use thereof), and all such parties hereby expressly disclaim all warranties of originality, accuracy, completeness, merchantability or fitness for a particular purpose with respect to any such standard or classification. Without limiting any of the foregoing, in no event shall MSCI, S&P, any of its affiliates or any third party involved in making or compiling the GICS or any GICS classification have any liability for any direct, indirect, special, punitive, consequential or any other damages (including lost profits) even if notified of the possibility of such damages.

30


 

The People Who Govern Your Fund

The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund’s trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard funds and provides services to them on an at-cost basis.

A majority of Vanguard’s board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. The independent board members have distinguished backgrounds in business, academia, and public service. Each of the trustees and executive officers oversees 198 Vanguard funds.

Information for each trustee and executive officer of the fund appears below. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482. More information about the trustees is in the Statement of Additional Information, which can be obtained, without charge, by contacting Vanguard at 800-662-7447, or online at vanguard.com.

Interested Trustee1

F. William McNabb III

Born 1957. Trustee Since July 2009. Chairman of the Board. Principal Occupation(s) During the Past Five Years and Other Experience: Chairman of the Board of The Vanguard Group, Inc., and of each of the investment companies served by The Vanguard Group, since January 2010; Chief Executive Officer and Director of The Vanguard Group and President and Chief Executive Officer of each of the investment companies served by The Vanguard Group, since 2008; Director of Vanguard Marketing Corporation; President of The Vanguard Group (2008–2017); Managing Director of The Vanguard Group (1995–2008).

Independent Trustees

Emerson U. Fullwood

Born 1948. Trustee Since January 2008. Principal Occupation(s) During the Past Five Years and Other Experience: Executive Chief Staff and Marketing Officer for North America and Corporate Vice President (retired 2008) of Xerox Corporation (document management products and services);

Executive in Residence and 2009–2010 Distinguished Minett Professor at the Rochester Institute of Technology; Lead Director of SPX FLOW, Inc. (multi-industry manufacturing); Director of the United Way of Rochester, the University of Rochester Medical Center, Monroe Community College Foundation, North Carolina A&T University, and Roberts Wesleyan College; Trustee of the University of Rochester.

Rajiv L. Gupta

Born 1945. Trustee Since December 2001.2 Principal Occupation(s) During the Past Five Years and Other Experience: Chairman and Chief Executive Officer (retired 2009) and President (2006–2008) of Rohm and Haas Co. (chemicals); Director of Arconic Inc. (diversified manufacturer), HP Inc. (printer and personal computer manufacturing), and Delphi Automotive plc (automotive components); Senior Advisor at New Mountain Capital.

Amy Gutmann

Born 1949. Trustee Since June 2006. Principal Occupation(s) During the Past Five Years and Other Experience: President of the University of Pennsylvania; Christopher H. Browne

1 Mr. McNabb is considered an “interested person,” as defined in the Investment Company Act of 1940, because he is an officer of the Vanguard funds.

2 December 2002 for Vanguard Equity Income Fund, the Vanguard Municipal Bond Funds, and the Vanguard State Tax-Exempt Funds.


 

Distinguished Professor of Political Science, School of Arts and Sciences, and Professor of Communication, Annenberg School for Communication, with secondary faculty appointments in the Department of Philosophy, School of Arts and Sciences, and at the Graduate School of Education, University of Pennsylvania; Trustee of the National Constitution Center.

JoAnn Heffernan Heisen

Born 1950. Trustee Since July 1998. Principal Occupation(s) During the Past Five Years and Other Experience: Corporate Vice President and Member of the Executive Committee (1997–2008), Chief Global Diversity Officer (retired 2008), Vice President and Chief Information Officer (1997–2006), Controller (1995–1997), Treasurer (1991–1995), and Assistant Treasurer (1989–1991) of Johnson & Johnson (pharmaceuticals/medical devices/ consumer products); Director of Skytop Lodge Corporation (hotels) and the Robert Wood Johnson Foundation; Member of the Advisory Board of the Institute for Women’s Leadership at Rutgers University.

F. Joseph Loughrey

Born 1949. Trustee Since October 2009. Principal Occupation(s) During the Past Five Years and Other Experience: President and Chief Operating Officer (retired 2009) of Cummins Inc. (industrial machinery); Chairman of the Board of Hillenbrand, Inc. (specialized consumer services), Oxfam America, and the Lumina Foundation for Education; Director of the V Foundation for Cancer Research; Member of the Advisory Council for the College of Arts and Letters and Chair of the Advisory Board to the Kellogg Institute for International Studies, both at the University of Notre Dame.

Mark Loughridge

Born 1953. Trustee Since March 2012. Principal Occupation(s) During the Past Five Years and Other Experience: Senior Vice President and Chief Financial Officer (retired 2013) at IBM (information technology services); Fiduciary Member of IBM’s Retirement Plan Committee (2004–2013); Member of the Council on Chicago Booth.

Scott C. Malpass

Born 1962. Trustee Since March 2012. Principal Occupation(s) During the Past Five Years and Other Experience: Chief Investment Officer and Vice President at the University of Notre Dame; Assistant Professor of Finance at the Mendoza College of Business at Notre Dame; Member of the Notre Dame 403(b) Investment Committee, the Board of Advisors for Spruceview Capital Partners, the Board of Catholic Investment Services, Inc. (investment advisor), and the Board of Superintendence of the Institute for the Works of Religion; Chairman of the Board of TIFF Advisory Services, Inc. (investment advisor).

André F. Perold

Born 1952. Trustee Since December 2004. Principal Occupation(s) During the Past Five Years and Other Experience: George Gund Professor of Finance and Banking, Emeritus at the Harvard Business School (retired 2011); Chief Investment Officer and Co-Managing Partner of HighVista Strategies LLC (private investment firm); Overseer of the Museum of Fine Arts Boston.

Peter F. Volanakis

Born 1955. Trustee Since July 2009. Principal Occupation(s) During the Past Five Years and Other Experience: President and Chief Operating Officer (retired 2010) of Corning Incorporated (communications equipment); Chairman of the Board of Trustees of Colby-Sawyer College; Member of the Board of Hypertherm, Inc. (industrial cutting systems, software, and consumables).


 

Executive Officers

Glenn Booraem

Born 1967. Investment Stewardship Officer Since February 2017. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Treasurer (2015–2017), Controller (2010–2015), and Assistant Controller (2001–2010) of each of the investment companies served by The Vanguard Group.

Thomas J. Higgins

Born 1957. Chief Financial Officer Since September 2008. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Chief Financial Officer of each of the investment companies served by The Vanguard Group; Treasurer of each of the investment companies served by The Vanguard Group (1998–2008).

Peter Mahoney

Born 1974. Controller Since May 2015. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Controller of each of the investment companies served by The Vanguard Group; Head of International Fund Services at The Vanguard Group (2008–2014).

Anne E. Robinson

Born 1970. Secretary Since September 2016. Principal Occupation(s) During the Past Five Years and Other Experience: Managing Director of The Vanguard Group, Inc.; General Counsel of The Vanguard Group; Secretary of The Vanguard Group and of each of the investment companies served by The Vanguard Group; Director and Senior Vice President of Vanguard Marketing Corporation; Managing Director and General Counsel of Global Cards and Consumer Services at Citigroup (2014–2016); Counsel at American Express (2003–2014).

Michael Rollings

Born 1963. Treasurer Since February 2017. Principal Occupation(s) During the Past Five Years and Other Experience: Managing Director of The Vanguard Group, Inc.; Treasurer of each of the investment companies served by The Vanguard Group; Director of Vanguard Marketing Corporation; Executive Vice President and Chief Financial Officer of MassMutual Financial Group (2006–2016).

Vanguard Senior Management Team
 
Mortimer J. Buckley Chris D. McIsaac
Gregory Davis James M. Norris
John James Thomas M. Rampulla
Martha G. King Karin A. Risi
John T. Marcante  

 

Chairman Emeritus and Senior Advisor

John J. Brennan
Chairman, 1996–2009
Chief Executive Officer and President, 1996–2008

Founder

John C. Bogle
Chairman and Chief Executive Officer, 1974–1996


 

 

 
  P.O. Box 2600
  Valley Forge, PA 19482-2600
 
 
 
Connect with Vanguard® > vanguard.com
 
 
 
Fund Information > 800-662-7447 CFA® is a registered trademark owned by CFA Institute.
Direct Investor Account Services > 800-662-2739
Institutional Investor Services > 800-523-1036
Text Telephone for People  
Who Are Deaf or Hard of Hearing> 800-749-7273
 
This material may be used in conjunction
with the offering of shares of any Vanguard
fund only if preceded or accompanied by
the fund’s current prospectus.  
 
All comparative mutual fund data are from Lipper, a
Thomson Reuters Company, or Morningstar, Inc., unless
otherwise noted.  
 
You can obtain a free copy of Vanguard’s proxy voting
guidelines by visiting vanguard.com/proxyreporting or by
calling Vanguard at 800-662-2739. The guidelines are
also available from the SEC’s website, sec.gov. In
addition, you may obtain a free report on how your fund
voted the proxies for securities it owned during the 12
months ended June 30. To get the report, visit either
vanguard.com/proxyreporting or sec.gov.
 
You can review and copy information about your fund at
the SEC’s Public Reference Room in Washington, D.C. To
find out more about this public service, call the SEC at
202-551-8090. Information about your fund is also
available on the SEC’s website, and you can receive
copies of this information, for a fee, by sending a
request in either of two ways: via email addressed to
publicinfo@sec.gov or via regular mail addressed to the
Public Reference Section, Securities and Exchange
Commission, Washington, DC 20549-1520.
  © 2017 The Vanguard Group, Inc.
  All rights reserved.
  Vanguard Marketing Corporation, Distributor.
 
  Q1240 112017

 



Annual Report | September 30, 2017

Vanguard Capital Value Fund


 

Vanguard’s Principles for Investing Success

We want to give you the best chance of investment success. These
principles, grounded in Vanguard’s research and experience, can put you on
the right path.

Goals. Create clear, appropriate investment goals.

Balance. Develop a suitable asset allocation using broadly diversified funds.

Cost. Minimize cost.

Discipline. Maintain perspective and long-term discipline.

A single theme unites these principles: Focus on the things you can control.
We believe there is no wiser course for any investor.

Contents  
Your Fund’s Performance at a Glance. 1
Chairman’s Perspective. 3
Advisor’s Report. 7
Fund Profile. 11
Performance Summary. 12
Financial Statements. 14
Your Fund’s After-Tax Returns. 26
About Your Fund’s Expenses. 27
Glossary. 29

 

Please note: The opinions expressed in this report are just that—informed opinions. They should not be considered promises or advice. Also, please keep in mind that the information and opinions cover the period through the date on the front of this report. Of course, the risks of investing in your fund are spelled out in the prospectus.

See the Glossary for definitions of investment terms used in this report.

About the cover: Nautical images have been part of Vanguard’s rich heritage since its start in 1975. For an incoming ship, a lighthouse offers a beacon and safe path to shore. You can similarly depend on Vanguard to put you first––and light the way––as you strive to meet your financial goals. Our client focus and low costs, stemming from our unique ownership structure, assure that your interests are paramount.


 

Your Fund’s Performance at a Glance

• Vanguard Capital Value Fund returned 14.56% for the 12 months ended
September 30, 2017, trailing its benchmark and the average return of its peers.

• Eight of 11 industry sectors represented in the fund recorded positive results.
The highest total returns came from financials (+37%), the fund’s largest sector,
and materials (+32%); both sectors outperformed their benchmark counterparts.
Industrials (+26%) and utilities (+17%) also provided a relative boost.

• The fund’s health care stocks (–3%) were notable underperformers compared
with their benchmark counterparts. This result was driven mainly by holdings
among health care providers and services, as well as pharmaceutical companies,
which declined on concerns over potential regulatory changes. Energy (–6%) and
consumer staples (–3%) also lost ground and underperformed.

• Among other sectors, information technology (+16%) slightly underperformed,
while real estate (+6%) outperformed.

Total Returns: Fiscal Year Ended September 30, 2017  
  Total
  Returns
Vanguard Capital Value Fund 14.56%
Russell 3000 Value Index 15.53
Multi-Cap Value Funds Average 16.69
Multi-Cap Value Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.  
 
 
Total Returns: Ten Years Ended September 30, 2017  
  Average
  Annual Return
Capital Value Fund 5.29%
Russell 3000 Value Index 6.01
Multi-Cap Value Funds Average 5.39
Multi-Cap Value Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.  

 

The figures shown represent past performance, which is not a guarantee of future results. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost.

1


 

Expense Ratios    
Your Fund Compared With Its Peer Group    
    Peer Group
  Fund Average
Capital Value Fund 0.25% 1.10%

 

The fund expense ratio shown is from the prospectus dated January 26, 2017, and represents estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the fund’s expense ratio was 0.27%. The peer-group expense ratio is derived from data provided by Lipper, a Thomson Reuters Company, and captures information through year-end 2016.

Peer group: Multi-Cap Value Funds.

2


 

Chairman’s Perspective


Bill McNabb
Chairman and Chief Executive Officer

Dear Shareholder,

Our investors depend on Vanguard to be a responsible steward of their assets. This includes our obvious responsibilities—managing the funds, offering investment perspectives and advice, and assisting with questions and transactions.

But because a long-term perspective informs every aspect of our investment approach, we also work on your behalf in less obvious ways, such as by advocating for responsible governance among the companies in which Vanguard funds invest. Vanguard’s index funds are essentially permanent owners of thousands of publicly traded companies, and we have a special obligation to be engaged stewards actively focused on the long term.

Simply put, we believe that well-governed companies are more likely to perform well over the long run.

Although Vanguard has always been an advocate for strong corporate governance, we have expanded our efforts recently as our investor base continues to grow. Our Investment Stewardship team has doubled in size since 2015, and we continue to add analysts, researchers, and operations team members. The team guides our engagement activities and our funds’ proxy voting by analyzing corporate governance practices in companies around the world.

3


 

Our four Investment Stewardship pillars

As we evaluate company responsiveness to governance matters, including environmental and social concerns, we focus on four key areas—what we call our Investment Stewardship pillars:

• The board: A high-functioning, well-composed, independent, diverse, and experienced board with effective ongoing evaluation practices.

• Governance structures: Provisions and structures that empower shareholders and protect their rights.

• Appropriate compensation: Pay that incentivizes relative outperformance over the long term.

• Risk oversight: Effective, integrated, and ongoing oversight of relevant industry-and company-specific risks.

Guided by these pillars, our Investment Stewardship team conducted more than 950 engagements, or discussions, with company directors and leaders worldwide during the 12 months ended June 30, 2017.

Market Barometer      
    Average Annual Total Returns
  Periods Ended September 30, 2017
  One Year Three Years Five Years
Stocks      
Russell 1000 Index (Large-caps) 18.54% 10.63% 14.27%
Russell 2000 Index (Small-caps) 20.74 12.18 13.79
Russell 3000 Index (Broad U.S. market) 18.71 10.74 14.23
FTSE All-World ex US Index (International) 19.49 5.11 7.35
 
Bonds      
Bloomberg Barclays U.S. Aggregate Bond Index      
(Broad taxable market) 0.07% 2.71% 2.06%
Bloomberg Barclays Municipal Bond Index      
(Broad tax-exempt market) 0.87 3.19 3.01
Citigroup Three-Month U.S. Treasury Bill Index 0.64 0.28 0.18
 
CPI      
Consumer Price Index 2.23% 1.22% 1.30%

 

4


 

We also cast more than 171,000 votes on behalf of Vanguard funds at more than 18,000 shareholder meetings.

Gender diversity on boards and climate risk

As we engage with companies, we are devoting increased attention to two specific topics. The first is gender diversity on boards. It’s no secret that the right combination of talent, skills, and experience leads to better results, so we pay close attention to how company boards are structured and managed, and how they evolve.

In recent years, a growing body of research has demonstrated that greater diversity on boards can lead to improved governance and company performance. We are advocating for boards to incorporate diverse perspectives and experience into their strategic planning and decision-making. One example of our commitment to more diverse boards is our participation in the 30% Club, a global coalition working to increase the representation of women in boardrooms and leadership roles.

The second issue is climate risk. We will continue to engage with companies to understand their responses to this risk. Regardless of one’s perspective on the issue, the potential is real for changing regulations, demographics, and consumption behavior to affect business results for companies in many sectors.

We want to ensure that such business and regulatory risks are sufficiently disclosed so investors can value companies appropriately. In the past year, we have voted for shareholder proposals at several energy companies that called for management to improve its climate risk assessment and planning, and we will consider supporting similar proposals if we believe they are beneficial to long-term shareholder value. When a proposal from a shareholder presents a strong case for change, we’re more than willing to fully consider it. And even if the case falls short, these proposals often catalyze a discussion that generates meaningful change over time.

In addition to considering activists’ proposals, we consult research providers and our own network of experts. When we detect material risks to a company’s long-term value (such as bad leadership, poor disclosure, misaligned compensation structures, or threats to shareholder rights), we act with our voice and our vote.

Our stewardship reflects our mission

But we don’t act as independent agents with our own agenda. Every time we speak with a company chairman, CEO, or director, we’re acutely aware of the role we play in representing the economic interests of more than 20 million Vanguard investors. So you can expect us to speak out when we detect threats to the economic interests of our shareholders.

5


 

We take positions on these matters not because they are inherently good or noble but because they are tied to the long-term economic value of your funds’ investments.

You trust us to represent your interests across the globe. You can be confident we act on that responsibility with the seriousness and dedication it deserves.

To learn more about our Investment Stewardship program, including how our funds have voted, visit https://about. vanguard.com/investment-stewardship/.

As always, thank you for investing with Vanguard.


F. William McNabb III
Chairman and Chief Executive Officer
October 13, 2017

6


 

Advisor’s Report

For the 12 months ended September 30, 2017, Vanguard Capital Value Fund returned 14.56%. The fund’s performance reflects the management of the fund by Wellington Management Company llp. The fund’s manager, David W. Palmer, has prepared the following discussion of the investment environment that existed during the 12-month period and of how the portfolio positioning reflects his assessment. These comments were prepared on October 23, 2017.

Portfolio Manager:

David W. Palmer, CFA
Senior Managing Director

The fund focuses on stocks that trade at a discounted multiple to the broad market, based either on current earnings or on those we expect within a reasonable investment horizon. We search for companies with pronounced negative sentiment, controversy, or perceived event risk that, through fundamental research and analysis, we find to be temporary or overstated. Because individual holdings can be out of phase with the market for extended periods, we seek to build a portfolio of stocks with unique drivers, diversified across capitalization sizes and industries.

Equities performed very well over the fiscal year, with the Russell 3000 Value Index returning more than 15%. Valuation measures expanded somewhat during the year as the index’s return outpaced the

consensus growth forecast in the reported earnings of quoted companies in calendar 2017 compared with 2016.

Despite a slowdown in some economic indicators during the spring and early summer, investors generally favored economically sensitive sectors. The sectors included those expected to benefit from a boost in infrastructure spending, corporate tax rate cuts, and trade policies favoring domestically produced goods. The three highest-returning sectors, each of which far exceeded the total return of the Russell 3000 Value Index, included the cyclical industry groups financials, materials, and industrials.

The environment for corporate earnings growth has remained favorable as consumers have seen growth in disposable incomes, yet without wage and benefit costs spiking sufficiently to become a severe headwind to company profit margins. Our expectations are for both GDP growth and inflation to be in the range of 2.3% annually for 2017 and 2018. These are very comfortable levels for the U.S. economy and for company managements to model when making investment decisions, but there is always the risk that events deviate from these encouraging forecasts.

Where we have seen investors extrapolating good news well into the future we have reduced the portfolio’s weighting in these outperforming stocks

7


 

or sectors, recycling the assets into areas of the market where controversy and skepticism have produced what we believe to be a more attractive combination of value and appreciation potential. Those movements were made first in the financial sector in the months after the 2016 U.S. election, when we reduced the exposure as markets started to price in both higher interest rates and more lenient regulation. More recently, we have also reduced some of the holdings in information technology, as many of those stocks have seen improved sentiment and positive price momentum.

We feel very optimistic today looking at the coiled-spring nature of many of Capital Value’s holdings; we believe there is potential for the expansion of valuation measures among many of the beaten-down but well-managed companies we have added to the portfolio this year.

Our security selection decisions were strongest in industrials, real estate, materials, and financials, and were most challenging in health care, energy, and consumer staples. Sector allocation decisions added to total return, most notably by emphasizing the outperforming materials group while underweighting the lagging energy, consumer staples, and telecommunication services sectors.

Holdings in regional bank PNC Financial Services, money center bank Citigroup, insurer MetLife, and financial advisor Raymond James were all large contributors

to performance, although, admittedly, most financials did well during the year. Celanese, an intermediate-products and specialty-chemicals maker, provided a total return of nearly 60% amid strong earnings, shareholder-friendly capital returns, and earnings-accretive acquisitions of complementary assets. In information technology, Western Digital, a disk and flash-storage provider, performed well. Its newly acquired SanDisk business proved highly additive to earnings during a period of tight supply and demand for NAND storage chips.

The greatest detractor from relative performance during the fiscal year came from the health care sector. Holdings in Teva Pharmaceutical, a generics and branded-drugs producer, suffered on the loss of patent protection for Copaxone, a widely used drug for the treatment of multiple sclerosis. However, Teva and the portfolio’s position in rival generics maker Mylan also were challenged by rising competition in the market for more commodity-oriented generic drugs. The Food and Drug Administration’s focus on approving a fourth or fifth generic competitor crushed the profitability of those products in many instances, taking their margins to breakeven or below. While we believe that the coming approval cycle for more complex-to-manufacture generics and biosimilars will reinvigorate profit growth for the sector, we also acknowledge that the near term will continue to bring pricing pressure on commoditized products.

8


 

Shares of natural gas producer Southwestern Energy were hit hard by a warm winter, with gas inventories ending the season at high levels. That left investors pessimistic about future realization prices for the company’s output.

In consumer staples, Coty, a fragrance, cosmetics, and hair care manufacturer, struggled through the early stages of its acquisition of several brands from Procter & Gamble that will require reinvestment in innovation and marketing.

At the end of September, the Capital Value portfolio was most overweight relative to the Russell 3000 Value Index in the materials, information technology, and real estate sectors. Again, compared with the benchmark, over the past year we added the most relative exposure to consumer staples and telecommunication services, while the largest reductions to relative exposure were in health care and financials.

Within consumer staples, we initiated new positions in food retailer Kroger and drugstore operator Walgreens Boots Alliance, as well as in Campbell Soup. Both Kroger and Walgreens had meaningfully trailed the market’s advance because of competitive concerns. Most notably, the imminent arrival or expansion of Amazon into that retail category compounded what was already a difficult business. Kroger and Walgreens are seasoned operators, trading at considerable valuation discounts to the broad market on current earnings,

as the investment community believes those earnings levels will be challenged to show future growth. We believe the Capital Value shareholder is being well compensated to take on these risks at today’s prices.

In information technology, we purchased a holding in communications chip-maker Qualcomm amid controversy about the future level of royalties the company would receive for its intellectual property from the dominant mobile device developers. In our view, Qualcomm is well-positioned to earn royalty income from its patents on both 4G and the coming 5G wireless technology, and we expect the company will settle its disputes with these customers at rates that will allow for growth in the earnings power of the business.

In the year ahead, we see economic growth continuing to boost earnings, helped by an improvement in capital investment spending and the potential for a tailwind from restocking somewhat lean inventories. While value stocks have so far meaningfully lagged their growth counterparts in 2017, we see a wide range of intriguing risk–reward opportunities for the portfolio, some of which have been discussed above.

We are constantly analyzing the subset of the market where concerns are roiling and other investors are jumping ship in order to find underpriced values that will be evident once the seas settle. Our team greatly appreciates the trust of Vanguard

9


 

and the Capital Value shareholders, and we believe that confidence will be rewarded through the future performance of the portfolio over the market cycle.

10


 

Capital Value Fund

Fund Profile
As of September 30, 2017

Portfolio Characteristics    
      DJ
      U.S.
    Russell Total
    3000 Market
    Value FA
  Fund Index Index
Number of Stocks 90 2,110 3,808
Median Market Cap $25.4B $55.2B $61.4B
Price/Earnings Ratio 18.6x 18.8x 21.9x
Price/Book Ratio 1.8x 1.9x 2.9x
Return on Equity 11.2% 10.9% 15.1%
Earnings Growth      
Rate 6.3% 6.3% 9.6%
Dividend Yield 2.3% 2.3% 1.8%
Foreign Holdings 9.4% 0.0% 0.0%
Turnover Rate 41%
Ticker Symbol VCVLX
Expense Ratio1 0.25%
30-Day SEC Yield 2.06%
Short-Term Reserves 0.8%

 

Sector Diversification (% of equity exposure)
    Russell DJ
    3000 U.S. Total
    Value Market
  Fund Index FA Index
Consumer Discretionary 8.1% 7.0% 12.3%
Consumer Staples 7.5 8.2 7.3
Energy 10.5 10.5 5.8
Financials 22.5 26.4 15.0
Health Care 11.0 13.3 14.0
Industrials 7.0 8.8 10.8
Information Technology 10.9 8.3 22.3
Materials 6.4 3.0 3.4
Real Estate 6.6 5.3 4.0
Telecommunication      
Services 2.9 3.0 2.0
Utilities 6.6 6.2 3.1

 

Volatility Measures    
  Russell DJ
  3000 U.S. Total
  Value Market
  Index FA Index
R-Squared 0.84 0.80
Beta 1.28 1.28

These measures show the degree and timing of the fund’s
fluctuations compared with the indexes over 36 months.

 

 

Ten Largest Holdings (% of total net assets)
Citigroup Inc. Diversified Banks 3.9%
MetLife Inc. Life & Health  
  Insurance 3.6
Wells Fargo & Co. Diversified Banks 3.4
PNC Financial Services    
Group Inc. Regional Banks 2.9
QUALCOMM Inc. Semiconductors 2.7
Arthur J Gallagher & Co. Insurance Brokers 2.1
Verizon Communications Integrated  
Inc. Telecommunication  
  Services 1.9
Reliance Steel &    
Aluminum Co. Steel 1.9
Celanese Corp. Specialty Chemicals 1.9
STORE Capital Corp. Diversified REITs 1.8
Top Ten   26.1%

The holdings listed exclude any temporary cash investments and
equity index products.

 

 



Investment Focus


Sector categories are based on the Global Industry Classification Standard (“GICS”), except for the “Other” category (if applicable), which includes securities that have not been provided a GICS classification as of the effective reporting period.

1 The expense ratio shown is from the prospectus dated January 26, 2017, and represents estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the expense ratio was 0.27%.

11


 

Capital Value Fund

Performance Summary

All of the returns in this report represent past performance, which is not a guarantee of future results that may be achieved by the fund. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost. The returns shown do not reflect taxes that a shareholder would pay on fund distributions or on the sale of fund shares.

Cumulative Performance: September 30, 2007, Through September 30, 2017
Initial Investment of $10,000


    Average Annual Total Returns  
    Periods Ended September 30, 2017  
          Final Value
    One Five Ten of a $10,000
    Year Years Years Investment
  Capital Value Fund* 14.56% 11.94% 5.29% $16,750
• • • • • • • • Russell 3000 Value Index 15.53 13.20 6.01 17,926
– – – – Multi-Cap Value Funds Average 16.69 12.32 5.39 16,908
  Dow Jones U.S. Total Stock Market        
  Float Adjusted Index 18.67 14.15 7.64 20,887

 

Multi-Cap Value Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.

See Financial Highlights for dividend and capital gains information.

12


 

Capital Value Fund

Fiscal-Year Total Returns (%): September 30, 2007, Through September 30, 2017


13


 

Capital Value Fund

Financial Statements

Statement of Net Assets
As of September 30, 2017

The fund reports a complete list of its holdings in regulatory filings four times in each fiscal year, at
the quarter-ends. For the second and fourth fiscal quarters, the lists appear in the fund’s semiannual
and annual reports to shareholders. For the first and third fiscal quarters, the fund files the lists with
the Securities and Exchange Commission on Form N-Q. Shareholders can look up the fund’s Forms
N-Q on the SEC’s website at sec.gov. Forms N-Q may also be reviewed and copied at the SEC’s
Public Reference Room (see the back cover of this report for further information).

      Market
      Value
    Shares ($000)
Common Stocks (99.3%)    
Consumer Discretionary (8.0%)  
  Las Vegas Sands Corp. 198,334 12,725
  General Motors Co. 314,577 12,703
  SES SA Class A 550,083 12,043
  Coach Inc. 194,200 7,822
  VF Corp. 117,742 7,485
  L Brands Inc. 168,400 7,007
  John Wiley & Sons Inc.    
  Class A 85,941 4,598
  Expedia Inc. 29,435 4,237
* Global Brands Group    
  Holding Ltd. 38,380,000 3,704
      72,324
Consumer Staples (7.4%)    
  British American    
  Tobacco plc 254,308 15,921
  Kroger Co. 658,059 13,201
  Walgreens Boots    
  Alliance Inc. 170,800 13,189
  Coty Inc. Class A 547,989 9,058
  Campbell Soup Co. 133,600 6,255
* Simply Good Foods Co. 480,100 5,622
* Hostess Brands Inc.    
  Class A 292,300 3,993
      67,239
Energy (10.4%)    
  Halliburton Co. 276,817 12,742
  Anadarko Petroleum    
  Corp. 236,212 11,539
  HollyFrontier Corp. 304,797 10,964
  Cimarex Energy Co. 88,300 10,037
  Canadian Natural    
  Resources Ltd.    
  (New York Shares) 257,347 8,619
* Diamondback Energy Inc. 72,871 7,138

 

  Pioneer Natural    
  Resources Co. 41,041 6,055
  Hess Corp. 119,498 5,603
* Laredo Petroleum Inc. 427,900 5,533
  Marathon Oil Corp. 401,543 5,445
  Helmerich & Payne Inc. 94,565 4,928
* Southwestern Energy Co. 458,475 2,801
* Trican Well Service Ltd. 764,396 2,793
      94,197
Financials (22.4%)    
  Citigroup Inc. 483,809 35,192
  MetLife Inc. 629,922 32,724
  Wells Fargo & Co. 553,502 30,526
  PNC Financial Services    
  Group Inc. 196,222 26,445
  Arthur J Gallagher & Co. 303,768 18,697
  American International    
  Group Inc. 268,645 16,492
  XL Group Ltd. 305,873 12,067
  M&T Bank Corp. 52,632 8,476
  Principal Financial Group    
  Inc. 109,160 7,023
  Unum Group 126,785 6,483
  Raymond James    
  Financial Inc. 55,400 4,672
* Brighthouse Financial Inc. 57,492 3,495
      202,292
Health Care (10.9%)    
  Bristol-Myers Squibb Co. 246,211 15,694
  McKesson Corp. 99,133 15,228
* Mylan NV 407,149 12,772
  Allergan plc 54,985 11,269
* Biogen Inc. 27,851 8,721
* Envision Healthcare Corp. 175,251 7,878
  STERIS plc 84,734 7,490
* AMN Healthcare    
  Services Inc. 139,000 6,352

 

14


 

Capital Value Fund    
 
 
 
      Market
      Value
    Shares ($000)
  Eli Lilly & Co. 66,600 5,697
* Regeneron    
  Pharmaceuticals Inc. 11,701 5,232
* Alder Biopharmaceuticals    
  Inc. 175,058 2,144
      98,477
Industrials (7.0%)    
* Genesee & Wyoming Inc.    
  Class A 173,509 12,841
  Steelcase Inc. Class A 649,154 9,997
  Herman Miller Inc. 258,896 9,294
  Sanwa Holdings Corp. 754,000 8,659
  JB Hunt Transport    
  Services Inc. 72,598 8,064
  Eaton Corp. plc 100,468 7,715
* Clean Harbors Inc. 85,900 4,871
  Dun & Bradstreet Corp. 14,200 1,653
      63,094
Information Technology (10.9%)  
  QUALCOMM Inc. 463,503 24,028
  Western Digital Corp. 131,477 11,360
  Genpact Ltd. 355,971 10,234
* Keysight Technologies    
  Inc. 233,800 9,740
  Cisco Systems Inc. 261,215 8,785
  Silicon Motion    
  Technology Corp. ADR 172,512 8,286
*,^ Acacia Communications    
  Inc. 172,000 8,101
* GoDaddy Inc. Class A 178,352 7,760
  Amdocs Ltd. 104,200 6,702
  Skyworks Solutions Inc. 31,384 3,198
      98,194
Materials (6.4%)    
  Reliance Steel &    
  Aluminum Co. 228,162 17,379
  Celanese Corp. Class A 163,223 17,019
  PPG Industries Inc. 84,158 9,145
  CRH plc 230,555 8,756
^ Southern Copper Corp. 128,900 5,125
      57,424
Other (0.0%)    
*,1,2 Allstar Co-Invest LLC    
  Private Placement NA
 
Real Estate (6.6%)    
  STORE Capital Corp. 666,607 16,579
  Host Hotels & Resorts    
  Inc. 705,128 13,038

 

Columbia Property Trust    
Inc. 433,583 9,439
American Tower Corp. 65,707 8,981
Simon Property Group Inc. 45,938 7,396
Taubman Centers Inc. 76,000 3,777
    59,210
Telecommunication Services (2.8%)  
Verizon Communications    
Inc. 352,191 17,430
Nippon Telegraph &    
Telephone Corp. 177,700 8,142
    25,572
Utilities (6.5%)    
PG&E Corp. 240,409 16,369
Exelon Corp. 411,338 15,495
OGE Energy Corp. 294,896 10,625
Sempra Energy 77,107 8,800
Iberdrola SA 988,017 7,683
    58,972
Total Common Stocks    
(Cost $782,466)   896,995
Temporary Cash Investments (1.7%)  
Money Market Fund (0.9%)    
3,4 Vanguard Market Liquidity    
Fund, 1.223% 83,813 8,383
 
  Face  
  Amount  
  ($000)  
Repurchase Agreement (0.8%)  
RBS Securities, Inc.    
1.040%, 10/2/17    
(Dated 9/29/17,    
Repurchase Value    
$7,001,000, collateralized    
by U.S. Treasury    
Note/Bond 1.000%,    
2/15/18, with a value of    
$7,143,000) 7,000 7,000
Total Temporary Cash Investments  
(Cost $15,383)   15,383
Total Investments (101.0%)    
(Cost $797,849)   912,378

 

15


 

Capital Value Fund

  Amount
  ($000)
Other Assets and Liabilities (-1.0%)  
Other Assets  
Investment in Vanguard 55
Receivables for Investment Securities Sold 2,805
Receivables for Accrued Income 1,468
Receivables for Capital Shares Issued 194
Unrealized Appreciation—Forward Currency
Contracts 252
Other Assets 230
Total Other Assets 5,004
Liabilities  
Payables for Investment Securities  
Purchased (3,194)
Collateral for Securities on Loan (8,382)
Payables to Investment Advisor (97)
Payables for Capital Shares Redeemed (307)
Payables to Vanguard (2,053)
Total Liabilities (14,033)
Net Assets (100%)  
Applicable to 69,708,924 outstanding  
$.001 par value shares of beneficial  
interest (unlimited authorization) 903,349
Net Asset Value Per Share $12.96

 

At September 30, 2017, net assets consisted of:
  Amount
  ($000)
Paid-in Capital 874,803
Undistributed Net Investment Income 11,533
Accumulated Net Realized Losses (97,758)
Unrealized Appreciation (Depreciation)  
Investment Securities 114,529
Forward Currency Contracts 252
Foreign Currencies (10)
Net Assets 903,349

 

See Note A in Notes to Financial Statements.
* Non-income-producing security.
^ Includes partial security positions on loan to broker-dealers.
The total value of securities on loan is $8,080,000.
1 Security value determined using significant unobservable
inputs.
2 Restricted security represents 0.0% of net assets. Shares not
applicable for this private placement.
3 Affiliated money market fund available only to Vanguard funds
and certain trusts and accounts managed by Vanguard. Rate
shown is the 7-day yield.
4 Includes $8,382,000 of collateral received for securities
on loan.
ADR—American Depositary Receipt.

Derivative Financial Instruments Outstanding as of Period End

Forward Currency Contracts
Unrealized
Contract Appreciation
Settlement Contract Amount (000) (Depreciation)
Counterparty Date Receive Deliver ($000)
Citibank, N.A. 12/20/17 USD 10,088 EUR 8,413 98
Barclays Bank 12/20/17 USD 7,305 JPY 801,276 154
252
EUR—Euro.
JPY—Japanese yen.
USD—U.S. dollar.

Unrealized appreciation (depreciation) on open forward currency contracts is treated as realized gain (loss) for tax purposes.

16


 

Capital Value Fund  
 
 
Statement of Operations  
 
  Year Ended
  September 30, 2017
  ($000)
Investment Income  
Income  
Dividends1 20,171
Interest 2 38
Securities Lending—Net 507
Total Income 20,716
Expenses  
Investment Advisory Fees—Note B  
Basic Fee 2,091
Performance Adjustment (1,764)
The Vanguard Group—Note C  
Management and Administrative 1,852
Marketing and Distribution 130
Custodian Fees 37
Auditing Fees 37
Shareholders’ Reports and Proxy 69
Trustees’ Fees and Expenses 3
Total Expenses 2,455
Net Investment Income 18,261
Realized Net Gain (Loss)  
Investment Securities Sold 2 69,838
Foreign Currencies and Forward Currency Contracts (380)
Realized Net Gain (Loss) 69,458
Change in Unrealized Appreciation (Depreciation)  
Investment Securities 2 38,771
Foreign Currencies and Forward Currency Contracts 110
Change in Unrealized Appreciation (Depreciation) 38,881
Net Increase (Decrease) in Net Assets Resulting from Operations 126,600

 

1 Dividends are net of foreign withholding taxes of $271,000.

2 Interest income, realized net gain (loss), and change in unrealized appreciation (depreciation) from an affiliated company of the fund were $0, $1,000, and $0, respectively.

See accompanying Notes, which are an integral part of the Financial Statements.

17


 

Capital Value Fund    
 
 
Statement of Changes in Net Assets    
 
  Year Ended September 30,
  2017 2016
  ($000) ($000)
Increase (Decrease) in Net Assets    
Operations    
Net Investment Income 18,261 14,932
Realized Net Gain (Loss) 69,458 (164,848)
Change in Unrealized Appreciation (Depreciation) 38,881 254,302
Net Increase (Decrease) in Net Assets Resulting from Operations 126,600 104,386
Distributions    
Net Investment Income (15,817) (12,846)
Realized Capital Gain1 (93,310)
Total Distributions (15,817) (106,156)
Capital Share Transactions    
Issued 80,436 100,481
Issued in Lieu of Cash Distributions 14,657 99,619
Redeemed (235,684) (323,723)
Net Increase (Decrease) from Capital Share Transactions (140,591) (123,623)
Total Increase (Decrease) (29,808) (125,393)
Net Assets    
Beginning of Period 933,157 1,058,550
End of Period2 903,349 933,157

 

1 Includes fiscal 2017 and 2016 short-term gain distributions totaling $0 and $27,386,000, respectively. Short-term gain distributions are treated as ordinary income dividends for tax purposes.

2 Net Assets—End of Period includes undistributed (overdistributed) net investment income of $11,533,000 and $9,068,000.

See accompanying Notes, which are an integral part of the Financial Statements.

18


 

Capital Value Fund          
 
 
Financial Highlights          
 
 
For a Share Outstanding     Year Ended September 30,
Throughout Each Period 2017 2016 2015 2014 2013
Net Asset Value, Beginning of Period $11.50 $11.45 $15.32 $14.57 $10.58
Investment Operations          
Net Investment Income . 2411 .180 .1291 .1782 .138
Net Realized and Unrealized Gain (Loss)          
on Investments 1.420 1.060 (2.330) 2.055 4.051
Total from Investment Operations 1.661 1.240 (2.201) 2.233 4.189
Distributions          
Dividends from Net Investment Income (.201) (.144) (.175) (.111) (.199)
Distributions from Realized Capital Gains (1.046) (1.494) (1.372)
Total Distributions (.201) (1.190) (1.669) (1.483) (.199)
Net Asset Value, End of Period $12.96 $11.50 $11.45 $15.32 $14.57
 
Total Return 3 14.56% 11.36% -15.67% 16.50% 40.21%
 
Ratios/Supplemental Data          
Net Assets, End of Period (Millions) $903 $933 $1,059 $1,784 $1,249
Ratio of Total Expenses to Average Net Assets4 0.27% 0.25% 0.50% 0.47% 0.41%
Ratio of Net Investment Income to          
Average Net Assets 1.97% 1.51% 0.93% 1.19%2 1.03%
Portfolio Turnover Rate 41% 134% 90% 90% 132%

 

1 Calculated based on average shares outstanding.

2 Net investment income per share and the ratio of net investment income to average net assets include $0.18 and 0.12%, respectively, resulting from a special dividend from Vodafone Group plc in the form of cash and shares in Verizon Communications Inc. in February 2014.

3 Total returns do not include account service fees that may have applied in the periods shown. Fund prospectuses provide information about any applicable account service fees.

4 Includes performance-based investment advisory fee increases (decreases) of (0.19%), (0.20%), 0.06%, 0.02%, and (0.05%).

See accompanying Notes, which are an integral part of the Financial Statements.

19


 

Capital Value Fund

Notes to Financial Statements

Vanguard Capital Value Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund.

A. The following significant accounting policies conform to generally accepted accounting principles for U.S. investment companies. The fund consistently follows such policies in preparing its financial statements.

1. Security Valuation: Securities are valued as of the close of trading on the New York Stock Exchange (generally 4 p.m., Eastern time) on the valuation date. Equity securities are valued at the latest quoted sales prices or official closing prices taken from the primary market in which each security trades; such securities not traded on the valuation date are valued at the mean of the latest quoted bid and asked prices. Securities for which market quotations are not readily available, or whose values have been affected by events occurring before the fund’s pricing time but after the close of the securities’ primary markets, are valued at their fair values calculated according to procedures adopted by the board of trustees. These procedures include obtaining quotations from an independent pricing service, monitoring news to identify significant market- or security-specific events, and evaluating changes in the values of foreign market proxies (for example, ADRs, futures contracts, or exchange-traded funds), between the time the foreign markets close and the fund’s pricing time. When fair-value pricing is employed, the prices of securities used by a fund to calculate its net asset value may differ from quoted or published prices for the same securities. Investments in Vanguard Market Liquidity Fund are valued at that fund’s net asset value. Temporary cash investments are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services.

2. Foreign Currency: Securities and other assets and liabilities denominated in foreign currencies are translated into U.S. dollars using exchange rates obtained from an independent third party as of the fund’s pricing time on the valuation date. Realized gains (losses) and unrealized appreciation (depreciation) on investment securities include the effects of changes in exchange rates since the securities were purchased, combined with the effects of changes in security prices. Fluctuations in the value of other assets and liabilities resulting from changes in exchange rates are recorded as unrealized foreign currency gains (losses) until the assets or liabilities are settled in cash, at which time they are recorded as realized foreign currency gains (losses).

3. Forward Currency Contracts: The fund enters into forward currency contracts to protect the value of securities and related receivables and payables against changes in future foreign exchange rates. The fund’s risks in using these contracts include movement in the values of the foreign currencies relative to the U.S. dollar and the ability of the counterparties to fulfill their obligations under the contracts. The fund mitigates its counterparty risk by entering into forward currency contracts only with a diverse group of prequalified counterparties, monitoring their financial strength, entering into master netting arrangements with its counterparties, and requiring its counterparties to transfer collateral as security for their performance. In the absence of a default, the collateral pledged or received by the fund cannot be repledged, resold, or rehypothecated.

The master netting arrangements provide that, in the event of a counterparty’s default (including bankruptcy), the fund may terminate the forward currency contracts, determine the net amount owed by either party in accordance with its master netting arrangements, and sell or retain any collateral held up to the net amount owed to the fund under the master netting arrangements. The forward currency contracts contain provisions whereby a counterparty may terminate open contracts if the fund’s net assets decline below a certain level, triggering a payment by the fund

20


 

Capital Value Fund

if the fund is in a net liability position at the time of the termination. The payment amount would be reduced by any collateral the fund has pledged. Any assets pledged as collateral for open contracts are noted in the Statement of Net Assets. The value of collateral received or pledged is compared daily to the value of the forward currency contracts exposure with each counterparty, and any difference, if in excess of a specified minimum transfer amount, is adjusted and settled within two business days.

Forward currency contracts are valued at their quoted daily prices obtained from an independent third party, adjusted for currency risk based on the expiration date of each contract. The notional amounts of the contracts are not recorded in the Statement of Net Assets. Fluctuations in the value of the contracts are recorded in the Statement of Net Assets as an asset (liability) and in the Statement of Operations as unrealized appreciation (depreciation) until the contracts are closed, when they are recorded as realized forward currency contract gains (losses).

During the year ended September 30, 2017, the fund’s average investment in forward currency contracts represented 2% of net assets, based on the average of notional amounts at each quarter-end during the period.

4. Repurchase Agreements: The fund enters into repurchase agreements with institutional counterparties. Securities pledged as collateral to the fund under repurchase agreements are held by a custodian bank until the agreements mature, and in the absence of a default, such collateral cannot be repledged, resold, or rehypothecated. Each agreement requires that the market value of the collateral be sufficient to cover payments of interest and principal. The fund further mitigates its counterparty risk by entering into repurchase agreements only with a diverse group of prequalified counterparties, monitoring their financial strength, and entering into master repurchase agreements with its counterparties. The master repurchase agreements provide that, in the event of a counterparty’s default (including bankruptcy), the fund may terminate any repurchase agreements with that counterparty, determine the net amount owed, and sell or retain the collateral up to the net amount owed to the fund. Such action may be subject to legal proceedings, which may delay or limit the disposition of collateral.

5. Federal Income Taxes: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Management has analyzed the fund’s tax positions taken for all open federal income tax years (September 30, 2014–2017), and has concluded that no provision for federal income tax is required in the fund’s financial statements.

6. Distributions: Distributions to shareholders are recorded on the ex-dividend date.

7. Securities Lending: To earn additional income, the fund lends its securities to qualified institutional borrowers. Security loans are subject to termination by the fund at any time, and are required to be secured at all times by collateral in an amount at least equal to the market value of securities loaned. Daily market fluctuations could cause the value of loaned securities to be more or less than the value of the collateral received. When this occurs, the collateral is adjusted and settled on the next business day. The fund further mitigates its counterparty risk by entering into securities lending transactions only with a diverse group of prequalified counterparties, monitoring their financial strength, and entering into master securities lending agreements with its counterparties. The master securities lending agreements provide that, in the event of a counterparty’s default (including bankruptcy), the fund may terminate any loans with that borrower, determine the net amount owed, and sell or retain the collateral up to the net amount owed to the fund; however, such actions may be subject to legal proceedings. While

21


 

Capital Value Fund

collateral mitigates counterparty risk, in the event of a default, the fund may experience delays and costs in recovering the securities loaned. The fund invests cash collateral received in Vanguard Market Liquidity Fund, and records a liability in the Statement of Net Assets for the return of the collateral, during the period the securities are on loan. Securities lending income represents fees charged to borrowers plus income earned on invested cash collateral, less expenses associated with the loan. During the term of the loan, the fund is entitled to all distributions made on or in respect of the loaned securities.

8. Credit Facility: The fund and certain other funds managed by The Vanguard Group (“Vanguard”) participate in a $3.1 billion committed credit facility provided by a syndicate of lenders pursuant to a credit agreement that may be renewed annually; each fund is individually liable for its borrowings, if any, under the credit facility. Borrowings may be utilized for temporary and emergency purposes, and are subject to the fund’s regulatory and contractual borrowing restrictions. The participating funds are charged administrative fees and an annual commitment fee of 0.10% of the undrawn amount of the facility; these fees are allocated to the funds based on a method approved by the fund’s board of trustees and included in Management and Administrative expenses on the fund’s Statement of Operations. Any borrowings under this facility bear interest at a rate based upon the higher of the one-month London Interbank Offered Rate, federal funds effective rate, or overnight bank funding rate plus an agreed-upon spread.

The fund had no borrowings outstanding at September 30, 2017, or at any time during the period then ended.

9. Other: Dividend income is recorded on the ex-dividend date. Interest income is accrued daily. Premiums and discounts on debt securities purchased are amortized and accreted, respectively, to interest income over the lives of the respective securities. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold.

B. Wellington Management Company llp provides investment advisory services to the fund for a fee calculated at an annual percentage rate of average net assets. The basic fee is subject to quarterly adjustments based on the fund’s performance relative to the Dow Jones U.S. Total Stock Market Float Adjusted Index for the preceding three years. For the year ended September 30, 2017, the investment advisory fee represented an effective annual basic rate of 0.23% of the fund’s average net assets before a decrease of $1,764,000 (0.19%) based on performance.

C. In accordance with the terms of a Funds’ Service Agreement (the “FSA”) between Vanguard and the fund, Vanguard furnishes to the fund corporate management, administrative, marketing, and distribution services at Vanguard’s cost of operations (as defined by the FSA). These costs of operations are allocated to the fund based on methods and guidelines approved by the board of trustees. Vanguard does not require reimbursement in the current period for certain costs of operations (such as deferred compensation/benefits and risk/insurance costs); the fund’s liability for these costs of operations is included in Payables to Vanguard on the Statement of Net Assets.

Upon the request of Vanguard, the fund may invest up to 0.40% of its net assets as capital in Vanguard. At September 30, 2017, the fund had contributed to Vanguard capital in the amount of $55,000, representing 0.01% of the fund’s net assets and 0.02% of Vanguard’s capitalization. The fund’s trustees and officers are also directors and employees, respectively, of Vanguard.

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Capital Value Fund

D. Various inputs may be used to determine the value of the fund’s investments. These inputs are summarized in three broad levels for financial statement purposes. The inputs or methodologies used to value securities are not necessarily an indication of the risk associated with investing in those securities.

Level 1—Quoted prices in active markets for identical securities.

Level 2—Other significant observable inputs (including quoted prices for similar securities, interest rates, prepayment speeds, credit risk, etc.).

Level 3—Significant unobservable inputs (including the fund’s own assumptions used to determine the fair value of investments). Any investments valued with significant unobservable inputs are noted on the Statement of Net Assets.

The following table summarizes the market value of the fund’s investments as of September 30, 2017, based on the inputs used to value them:

  Level 1 Level 2 Level 3
Investments ($000) ($000) ($000)
Common Stocks 832,087 64,908
Preferred Stocks
Temporary Cash Investments 8,383 7,000
Forward Currency Contracts—Assets 252
Total 840,470 72,160

 

E. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. Differences may be permanent or temporary. Permanent differences are reclassified among capital accounts in the financial statements to reflect their tax character. Temporary differences arise when certain items of income, expense, gain, or loss are recognized in different periods for financial statement and tax purposes. These differences will reverse at some time in the future. Differences in classification may also result from the treatment of short-term gains as ordinary income for tax purposes.

For tax purposes, at September 30, 2017, the fund had $13,698,000 of ordinary income available for distribution. The fund used capital loss carryforwards of $69,547,000 to offset taxable capital gains realized during the year ended September 30, 2017. At September 30, 2017, the fund had available capital losses totaling $97,717,000 that may be carried forward indefinitely to offset future net capital gains.

At September 30, 2017, the cost of investment securities for tax purposes was $797,849,000.

Net unrealized appreciation of investment securities for tax purposes was $114,529,000, consisting of unrealized gains of $149,101,000 on securities that had risen in value since their purchase and $34,572,000 in unrealized losses on securities that had fallen in value since their purchase.

F. During the year ended September 30, 2017, the fund purchased $382,086,000 of investment securities and sold $516,955,000 of investment securities, other than temporary cash investments.

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Capital Value Fund

G. Capital shares issued and redeemed were:    
  Year Ended September 30,
  2017 2016
  Shares Shares
  (000) (000)
Issued 6,622 9,076
Issued in Lieu of Cash Distributions 1,209 9,106
Redeemed (19,274) (29,458)
Net Increase (Decrease) in Shares Outstanding (11,443) (11,276)

 

H. Management has determined that no material events or transactions occurred subsequent to September 30, 2017, that would require recognition or disclosure in these financial statements.

24


 

Report of Independent Registered Public Accounting Firm

To the Board of Trustees of Vanguard Malvern Funds and the Shareholders of Vanguard Capital Value Fund

In our opinion, the accompanying statement of net assets and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Vanguard Capital Value Fund (constituting a separate portfolio of Vanguard Malvern Funds, hereafter referred to as the “Fund”) as of September 30, 2017, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended and the financial highlights for each of the five years in the period then ended, in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as “financial statements”) are the responsibility of the Fund’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities as of September 30, 2017 by correspondence with the custodians and brokers and by agreement to the underlying ownership records of the transfer agent, provide a reasonable basis for our opinion.

/s/PricewaterhouseCoopers LLP
Philadelphia, Pennsylvania
November 13, 2017

 

 


 

Special 2017 tax information (unaudited) for Vanguard Capital Value Fund

This information for the fiscal year ended September 30, 2017, is included pursuant to provisions
of the Internal Revenue Code.

The fund distributed $15,817,000 of qualified dividend income to shareholders during the
fiscal year.

For corporate shareholders, 77.7% of investment income (dividend income plus short-term gains,
if any) qualifies for the dividends-received deduction.

25


 

Your Fund’s After-Tax Returns

This table presents returns for your fund both before and after taxes. The after-tax returns are shown in two ways: (1) assuming that an investor owned the fund during the entire period and paid taxes on the fund’s distributions, and (2) assuming that an investor paid taxes on the fund’s distributions and sold all shares at the end of each period.

Calculations are based on the highest individual federal income tax and capital gains tax rates in effect at the times of the distributions and the hypothetical sales. State and local taxes were not considered. After-tax returns reflect any qualified dividend income, using actual prior-year figures and estimates for 2017. (In the example, returns after the sale of fund shares may be higher than those assuming no sale. This occurs when the sale would have produced a capital loss. The calculation assumes that the investor received a tax deduction for the loss.)

Please note that your actual after-tax returns will depend on your tax situation and may differ from those shown. Also note that if you own the fund in a tax-deferred account, such as an individual retirement account or a 401(k) plan, this information does not apply to you. Such accounts are not subject to current taxes.

Finally, keep in mind that a fund’s performance—whether before or after taxes—does not guarantee future results.

Average Annual Total Returns: Capital Value Fund      
Periods Ended September 30, 2017      
  One Five Ten
  Year Years Years
Returns Before Taxes 14.56% 11.94% 5.29%
Returns After Taxes on Distributions 14.12 9.46 3.76
Returns After Taxes on Distributions and Sale of Fund Shares 8.57 8.64 3.72

 

26


 

About Your Fund’s Expenses

As a shareholder of the fund, you incur ongoing costs, which include costs for portfolio management, administrative services, and shareholder reports (like this one), among others. Operating expenses, which are deducted from a fund’s gross income, directly reduce the investment return of the fund.

A fund’s expenses are expressed as a percentage of its average net assets. This figure is known as the expense ratio. The following examples are intended to help you understand the ongoing costs (in dollars) of investing in your fund and to compare these costs with those of other mutual funds. The examples are based on an investment of $1,000 made at the beginning of the period shown and held for the entire period.

The accompanying table illustrates your fund’s costs in two ways:

Based on actual fund return. This section helps you to estimate the actual expenses that you paid over the period. The ”Ending Account Value“ shown is derived from the fund‘s actual return, and the third column shows the dollar amount that would have been paid by an investor who started with $1,000 in the fund. You may use the information here, together with the amount you invested, to estimate the expenses that you paid over the period.

To do so, simply divide your account value by $1,000 (for example, an $8,600 account value divided by $1,000 = 8.6), then multiply the result by the number given for your fund under the heading ”Expenses Paid During Period.“

Based on hypothetical 5% yearly return. This section is intended to help you compare your fund‘s costs with those of other mutual funds. It assumes that the fund had a yearly return of 5% before expenses, but that the expense ratio is unchanged. In this case—because the return used is not the fund’s actual return—the results do not apply to your investment. The example is useful in making comparisons because the Securities and Exchange Commission requires all mutual funds to calculate expenses based on a 5% return. You can assess your fund’s costs by comparing this hypothetical example with the hypothetical examples that appear in shareholder reports of other funds.

Note that the expenses shown in the table are meant to highlight and help you compare ongoing costs only and do not reflect transaction costs incurred by the fund for buying and selling securities. Further, the expenses do not include any purchase, redemption, or account service fees described in the fund prospectus. If such fees were applied to your account, your costs would be higher. Your fund does not carry a “sales load.”

The calculations assume no shares were bought or sold during the period. Your actual costs may have been higher or lower, depending on the amount of your investment and the timing of any purchases or redemptions.

You can find more information about the fund’s expenses, including annual expense ratios, in the Financial Statements section of this report. For additional information on operating expenses and other shareholder costs, please refer to your fund’s current prospectus.

27


 

Six Months Ended September 30, 2017      
  Beginning Ending Expenses
  Account Value Account Value Paid During
Capital Value Fund 3/31/2017 9/30/2017 Period
Based on Actual Fund Return $1,000.00 $1,043.48 $1.38
Based on Hypothetical 5% Yearly Return 1,000.00 1,023.71 1.37

 

The calculations are based on expenses incurred in the most recent six-month period. The fund’s annualized six-month expense ratio for that period is 0.27%. The dollar amounts shown as “Expenses Paid” are equal to the annualized expense ratio multiplied by the average account value over the period, multiplied by the number of days in the most recent six-month period, then divided by the number of days in the most recent 12-month period (183/365).

28


 

Glossary

30-Day SEC Yield. A fund’s 30-day SEC yield is derived using a formula specified by the U.S. Securities and Exchange Commission. Under the formula, data related to the fund’s security holdings in the previous 30 days are used to calculate the fund’s hypothetical net income for that period, which is then annualized and divided by the fund’s estimated average net assets over the calculation period. For the purposes of this calculation, a security’s income is based on its current market yield to maturity (for bonds), its actual income (for asset-backed securities), or its projected dividend yield (for stocks). Because the SEC yield represents hypothetical annualized income, it will differ—at times significantly—from the fund’s actual experience. As a result, the fund’s income distributions may be higher or lower than implied by the SEC yield.

Beta. A measure of the magnitude of a fund’s past share-price fluctuations in relation to the ups and downs of a given market index. The index is assigned a beta of 1.00. Compared with a given index, a fund with a beta of 1.20 typically would have seen its share price rise or fall by 12% when the index rose or fell by 10%. For this report, beta is based on returns over the past 36 months for both the fund and the index. Note that a fund’s beta should be reviewed in conjunction with its R-squared (see definition). The lower the R-squared, the less correlation there is between the fund and the index, and the less reliable beta is as an indicator of volatility.

Dividend Yield. Dividend income earned by stocks, expressed as a percentage of the aggregate market value (or of net asset value, for a fund). The yield is determined by dividing the amount of the annual dividends by the aggregate value (or net asset value) at the end of the period. For a fund, the dividend yield is based solely on stock holdings and does not include any income produced by other investments.

Earnings Growth Rate. The average annual rate of growth in earnings over the past five years for the stocks now in a fund.

Equity Exposure. A measure that reflects a fund’s investments in stocks and stock futures. Any holdings in short-term reserves are excluded.

Expense Ratio. A fund’s total annual operating expenses expressed as a percentage of the fund’s average net assets. The expense ratio includes management and administrative expenses, but does not include the transaction costs of buying and selling portfolio securities.

Foreign Holdings. The percentage of a fund represented by securities or depositary receipts of companies based outside the United States.

Inception Date. The date on which the assets of a fund (or one of its share classes) are first invested in accordance with the fund’s investment objective. For funds with a subscription period, the inception date is the day after that period ends. Investment performance is measured from the inception date.

Median Market Cap. An indicator of the size of companies in which a fund invests; the midpoint of market capitalization (market price x shares outstanding) of a fund’s stocks, weighted by the proportion of the fund’s assets invested in each stock. Stocks representing half of the fund’s assets have market capitalizations above the median, and the rest are below it.

Price/Book Ratio. The share price of a stock divided by its net worth, or book value, per share.

For a fund, the weighted average price/book ratio of the stocks it holds.

29


 

Price/Earnings Ratio. The ratio of a stock’s current price to its per-share earnings over the past year. For a fund, the weighted average P/E of the stocks it holds. P/E is an indicator of market expectations about corporate prospects; the higher the P/E, the greater the expectations for a company’s future growth.

R-Squared. A measure of how much of a fund’s past returns can be explained by the returns from the market in general, as measured by a given index. If a fund’s total returns were precisely synchronized with an index’s returns, its R-squared would be 1.00. If the fund’s returns bore no relationship to the index’s returns, its R-squared would be 0. For this report, R-squared is based on returns over the past 36 months for both the fund and the index.

Return on Equity. The annual average rate of return generated by a company during the past five years for each dollar of shareholder’s equity (net income divided by shareholder’s equity). For a fund, the weighted average return on equity for the companies whose stocks it holds.

Short-Term Reserves. The percentage of a fund invested in highly liquid, short-term securities that can be readily converted to cash.

Turnover Rate. An indication of the fund’s trading activity. Funds with high turnover rates incur higher transaction costs and may be more likely to distribute capital gains (which may be taxable to investors). The turnover rate excludes in-kind transactions, which have minimal impact on costs.

30


 

The Global Industry Classification Standard (“GICS”) was developed by and is the exclusive property and a service mark of MSCI Inc. (“MSCI”) and Standard and Poor’s, a division of McGraw-Hill Companies, Inc. (“S&P”), and is licensed for use by Vanguard. Neither MSCI, S&P nor any third party involved in making or compiling the GICS or any GICS classification makes any express or implied warranties or representations with respect to such standard or classification (or the results to be obtained by the use thereof), and all such parties hereby expressly disclaim all warranties of originality, accuracy, completeness, merchantability or fitness for a particular purpose with respect to any such standard or classification. Without limiting any of the foregoing, in no event shall MSCI, S&P, any of its affiliates or any third party involved in making or compiling the GICS or any GICS classification have any liability for any direct, indirect, special, punitive, consequential or any other damages (including lost profits) even if notified of the possibility of such damages.

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The People Who Govern Your Fund

The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund’s trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard funds and provides services to them on an at-cost basis.

A majority of Vanguard’s board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. The independent board members have distinguished backgrounds in business, academia, and public service. Each of the trustees and executive officers oversees 198 Vanguard funds.

Information for each trustee and executive officer of the fund appears below. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482. More information about the trustees is in the Statement of Additional Information, which can be obtained, without charge, by contacting Vanguard at 800-662-7447, or online at vanguard.com.

Interested Trustee1

F. William McNabb III

Born 1957. Trustee Since July 2009. Chairman of the Board. Principal Occupation(s) During the Past Five Years and Other Experience: Chairman of the Board of The Vanguard Group, Inc., and of each of the investment companies served by The Vanguard Group, since January 2010; Chief Executive Officer and Director of The Vanguard Group and President and Chief Executive Officer of each of the investment companies served by The Vanguard Group, since 2008; Director of Vanguard Marketing Corporation; President of The Vanguard Group (2008–2017); Managing Director of The Vanguard Group (1995–2008).

Independent Trustees

Emerson U. Fullwood

Born 1948. Trustee Since January 2008. Principal Occupation(s) During the Past Five Years and Other Experience: Executive Chief Staff and Marketing Officer for North America and Corporate Vice President (retired 2008) of Xerox Corporation (document management products and services);

Executive in Residence and 2009–2010 Distinguished Minett Professor at the Rochester Institute of Technology; Lead Director of SPX FLOW, Inc. (multi-industry manufacturing); Director of the United Way of Rochester, the University of Rochester Medical Center, Monroe Community College Foundation, North Carolina A&T University, and Roberts Wesleyan College; Trustee of the University of Rochester.

Rajiv L. Gupta

Born 1945. Trustee Since December 2001.2 Principal Occupation(s) During the Past Five Years and Other Experience: Chairman and Chief Executive Officer (retired 2009) and President (2006–2008) of Rohm and Haas Co. (chemicals); Director of Arconic Inc. (diversified manufacturer), HP Inc. (printer and personal computer manufacturing), and Delphi Automotive plc (automotive components); Senior Advisor at New Mountain Capital.

Amy Gutmann

Born 1949. Trustee Since June 2006. Principal Occupation(s) During the Past Five Years and Other Experience: President of the University of Pennsylvania; Christopher H. Browne

1 Mr. McNabb is considered an “interested person,” as defined in the Investment Company Act of 1940, because he is an officer of the Vanguard funds.

2 December 2002 for Vanguard Equity Income Fund, the Vanguard Municipal Bond Funds, and the Vanguard State Tax-Exempt Funds.


 

Distinguished Professor of Political Science, School of Arts and Sciences, and Professor of Communication, Annenberg School for Communication, with secondary faculty appointments in the Department of Philosophy, School of Arts and Sciences, and at the Graduate School of Education, University of Pennsylvania; Trustee of the National Constitution Center.

JoAnn Heffernan Heisen

Born 1950. Trustee Since July 1998. Principal Occupation(s) During the Past Five Years and Other Experience: Corporate Vice President and Member of the Executive Committee (1997–2008), Chief Global Diversity Officer (retired 2008), Vice President and Chief Information Officer (1997–2006), Controller (1995–1997), Treasurer (1991–1995), and Assistant Treasurer (1989–1991) of Johnson & Johnson (pharmaceuticals/medical devices/ consumer products); Director of Skytop Lodge Corporation (hotels) and the Robert Wood Johnson Foundation; Member of the Advisory Board of the Institute for Women’s Leadership at Rutgers University.

F. Joseph Loughrey

Born 1949. Trustee Since October 2009. Principal Occupation(s) During the Past Five Years and Other Experience: President and Chief Operating Officer (retired 2009) of Cummins Inc. (industrial machinery); Chairman of the Board of Hillenbrand, Inc. (specialized consumer services), Oxfam America, and the Lumina Foundation for Education; Director of the V Foundation for Cancer Research; Member of the Advisory Council for the College of Arts and Letters and Chair of the Advisory Board to the Kellogg Institute for International Studies, both at the University of Notre Dame.

Mark Loughridge

Born 1953. Trustee Since March 2012. Principal Occupation(s) During the Past Five Years and Other Experience: Senior Vice President and Chief Financial Officer (retired 2013) at IBM (information technology services); Fiduciary Member of IBM’s Retirement Plan Committee (2004–2013); Member of the Council on Chicago Booth.

Scott C. Malpass

Born 1962. Trustee Since March 2012. Principal Occupation(s) During the Past Five Years and Other Experience: Chief Investment Officer and Vice President at the University of Notre Dame; Assistant Professor of Finance at the Mendoza College of Business at Notre Dame; Member of the Notre Dame 403(b) Investment Committee, the Board of Advisors for Spruceview Capital Partners, the Board of Catholic Investment Services, Inc. (investment advisor), and the Board of Superintendence of the Institute for the Works of Religion; Chairman of the Board of TIFF Advisory Services, Inc. (investment advisor).

André F. Perold

Born 1952. Trustee Since December 2004. Principal Occupation(s) During the Past Five Years and Other Experience: George Gund Professor of Finance and Banking, Emeritus at the Harvard Business School (retired 2011); Chief Investment Officer and Co-Managing Partner of HighVista Strategies LLC (private investment firm); Overseer of the Museum of Fine Arts Boston.

Peter F. Volanakis

Born 1955. Trustee Since July 2009. Principal Occupation(s) During the Past Five Years and Other Experience: President and Chief Operating Officer (retired 2010) of Corning Incorporated (communications equipment); Chairman of the Board of Trustees of Colby-Sawyer College; Member of the Board of Hypertherm, Inc. (industrial cutting systems, software, and consumables).


 

Executive Officers

Glenn Booraem

Born 1967. Investment Stewardship Officer Since February 2017. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Treasurer (2015–2017), Controller (2010–2015), and Assistant Controller (2001–2010) of each of the investment companies served by The Vanguard Group.

Thomas J. Higgins

Born 1957. Chief Financial Officer Since September 2008. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Chief Financial Officer of each of the investment companies served by The Vanguard Group; Treasurer of each of the investment companies served by The Vanguard Group (1998–2008).

Peter Mahoney

Born 1974. Controller Since May 2015. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Controller of each of the investment companies served by The Vanguard Group; Head of International Fund Services at The Vanguard Group (2008–2014).

Anne E. Robinson

Born 1970. Secretary Since September 2016. Principal Occupation(s) During the Past Five Years and Other Experience: Managing Director of The Vanguard Group, Inc.; General Counsel of The Vanguard Group; Secretary of The Vanguard Group and of each of the investment companies served by The Vanguard Group; Director and Senior Vice President of Vanguard Marketing Corporation; Managing Director and General Counsel of Global Cards and Consumer Services at Citigroup (2014–2016); Counsel at American Express (2003–2014).

Michael Rollings

Born 1963. Treasurer Since February 2017. Principal Occupation(s) During the Past Five Years and Other Experience: Managing Director of The Vanguard Group, Inc.; Treasurer of each of the investment companies served by The Vanguard Group; Director of Vanguard Marketing Corporation; Executive Vice President and Chief Financial Officer of MassMutual Financial Group (2006–2016).

Vanguard Senior Management Team
 
Mortimer J. Buckley Chris D. McIsaac
Gregory Davis James M. Norris
John James Thomas M. Rampulla
Martha G. King Karin A. Risi
John T. Marcante  

 

Chairman Emeritus and Senior Advisor

John J. Brennan
Chairman, 1996–2009
Chief Executive Officer and President, 1996–2008

Founder

John C. Bogle
Chairman and Chief Executive Officer, 1974–1996


 

 

 
  P.O. Box 2600
  Valley Forge, PA 19482-2600
 
 
 
Connect with Vanguard® > vanguard.com
 
 
 
Fund Information > 800-662-7447 CFA® is a registered trademark owned by CFA Institute.
Direct Investor Account Services > 800-662-2739
Institutional Investor Services > 800-523-1036
Text Telephone for People  
Who Are Deaf or Hard of Hearing> 800-749-7273
 
This material may be used in conjunction
with the offering of shares of any Vanguard
fund only if preceded or accompanied by
the fund’s current prospectus.  
 
All comparative mutual fund data are from Lipper, a
Thomson Reuters Company, or Morningstar, Inc., unless
otherwise noted.  
 
You can obtain a free copy of Vanguard’s proxy voting
guidelines by visiting vanguard.com/proxyreporting or by
calling Vanguard at 800-662-2739. The guidelines are
also available from the SEC’s website, sec.gov. In
addition, you may obtain a free report on how your fund
voted the proxies for securities it owned during the 12
months ended June 30. To get the report, visit either
vanguard.com/proxyreporting or sec.gov.
 
You can review and copy information about your fund at
the SEC’s Public Reference Room in Washington, D.C. To
find out more about this public service, call the SEC at
202-551-8090. Information about your fund is also
available on the SEC’s website, and you can receive
copies of this information, for a fee, by sending a
request in either of two ways: via email addressed to
publicinfo@sec.gov or via regular mail addressed to the
Public Reference Section, Securities and Exchange
Commission, Washington, DC 20549-1520.
  © 2017 The Vanguard Group, Inc.
  All rights reserved.
  Vanguard Marketing Corporation, Distributor.
 
  Q3280 112017

 



Annual Report | September 30, 2017

Vanguard Short-Term Inflation-Protected

Securities Index Fund


 

Vanguard’s Principles for Investing Success

We want to give you the best chance of investment success. These principles, grounded in Vanguard’s research and experience, can put you on the right path.

Goals. Create clear, appropriate investment goals.

Balance. Develop a suitable asset allocation using broadly diversified funds. Cost. Minimize cost.

Discipline. Maintain perspective and long-term discipline.

A single theme unites these principles: Focus on the things you can control.

We believe there is no wiser course for any investor.

Contents  
Your Fund’s Performance at a Glance. 1
Chairman’s Perspective. 3
Fund Profile. 7
Performance Summary. 9
Financial Statements. 12
About Your Fund’s Expenses. 26
Glossary. 28

 

Please note: The opinions expressed in this report are just that—informed opinions. They should not be considered promises or advice. Also, please keep in mind that the information and opinions cover the period through the date on the front of this report. Of course, the risks of investing in your fund are spelled out in the prospectus.

See the Glossary for definitions of investment terms used in this report.

About the cover: Nautical images have been part of Vanguard’s rich heritage since its start in 1975. For an incoming ship, a lighthouse offers a beacon and safe path to shore. You can similarly depend on Vanguard to put you first––and light the way––as you strive to meet your financial goals. Our client focus and low costs, stemming from our unique ownership structure, assure that your interests are paramount.


 

Your Fund’s Performance at a Glance

• For the 12 months ended September 30, 2017, Vanguard Short-Term Inflation-Protected Securities Index Fund returned 0.31% for Investor Shares, tracking its benchmark index (+0.51%) and exceeding the average return of its peer funds (–0.14%). The 30-day SEC yield for Investor Shares began the period at –0.40% and ended at –0.20%.

• Prices of regular U.S. Treasury securities fell during the period as economic prospects brightened and interest rates rose. However, Treasury Inflation-Protected Securities (TIPS) outperformed regular Treasuries as inflation expectations increased, a development that typically favors TIPS over nominal Treasuries.

• A measure of expected inflation over the next five years (the gap between nominal and TIPS yields) widened from 1.42% to 1.82%.

• To minimize the risk of overdistributing income, the fund withheld income distribution in March, June, and September in light of the low-interest-rate environment. Distributions will be made when sufficient income is available.

Total Returns: Fiscal Year Ended September 30, 2017      
  30-Day SEC Income Capital Total
  Yield Returns Returns Returns
Vanguard Short-Term Inflation-Protected Securities Index Fund      
Investor Shares -0.20% 0.55% -0.24% 0.31%
ETF Shares -0.12      
Market Price       0.38
Net Asset Value       0.40
Admiral™ Shares -0.12 0.76 -0.36 0.40
Institutional Shares -0.12 0.80 -0.36 0.44
Bloomberg Barclays U.S. Treasury Inflation-Protected        
Securities (TIPS) 0–5 Year Index       0.51
Inflation-Protected Bond Funds Average       -0.14

 

Inflation-Protected Bond Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.

Admiral Shares carry lower expenses and are available to investors who meet certain account-balance requirements. Institutional Shares are available to certain institutional investors who meet specific administrative, service, and account-size criteria. The Vanguard ETF® Shares shown are traded on the Nasdaq exchange and are available only through brokers. The table provides ETF returns based on both the Nasdaq market price and the net asset value for a share. U.S. Pat. Nos. 6,879,964; 7,337,138; 7,720,749; 7,925,573; 8,090,646; and 8,417,623.

For the ETF Shares, the market price is determined by the midpoint of the bid-offer spread as of the closing time of the New York Stock Exchange (generally 4 p.m., Eastern time). The net asset value is also determined as of the NYSE closing time. For more information about how the ETF Shares' market prices have compared with their net asset value, visit vanguard.com, select your ETF, and then select the Price and Performance tab. The ETF premium/discount analysis there shows the percentages of days on which the ETF Shares' market price was above or below the NAV.

1


 

Total Returns: Inception Through September 30, 2017  
  Average
  Annual Return
Short-Term Inflation-Protected Securities Index Fund Investor Shares (Returns since inception:  
10/16/2012) 0.09%
Bloomberg Barclays U.S. Treasury Inflation-Protected Securities (TIPS) 0–5 Year Index 0.18
Inflation-Protected Bond Funds Average -0.54
Inflation-Protected Bond Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.  

The figures shown represent past performance, which is not a guarantee of future results. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost.

 

 

Expense Ratios          
Your Fund Compared With Its Peer Group          
  Investor ETF Admiral  Institutional Peer Group 
  Shares Shares Shares Shares Average 
Short-Term Inflation-Protected Securities Index          
Fund 0.16% 0.07% 0.07% 0.04% 0.74%

 

The fund expense ratios shown are from the prospectus dated January 26, 2017, and represent estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the expense ratios were 0.15% for Investor Shares, 0.06% for ETF Shares, 0.06% for Admiral Shares, and 0.04% for Institutional Shares. The peer-group expense ratio is derived from data provided by Lipper, a Thomson Reuters Company, and captures information through year-end 2016.

Peer group: Inflation-Protected Bond Funds.

2


 

Chairman’s Perspective


Bill McNabb

Chairman and Chief Executive Officer

Dear Shareholder,

Our investors depend on Vanguard to be a responsible steward of their assets. This includes our obvious responsibilities—managing the funds, offering investment perspectives and advice, and assisting with questions and transactions.

But because a long-term perspective informs every aspect of our investment approach, we also work on your behalf in less obvious ways, such as by advocating for responsible governance among the companies in which Vanguard funds invest. Vanguard’s index funds are essentially permanent owners of thousands of publicly traded companies, and we have a special obligation to be engaged stewards actively focused on the long term.

Simply put, we believe that well-governed companies are more likely to perform well over the long run.

Although Vanguard has always been an advocate for strong corporate governance, we have expanded our efforts recently as our investor base continues to grow. Our Investment Stewardship team has doubled in size since 2015, and we continue to add analysts, researchers, and operations team members. The team guides our engagement activities and our funds’ proxy voting by analyzing corporate governance practices in companies around the world.

3


 

Our four Investment Stewardship pillars

As we evaluate company responsiveness to governance matters, including environmental and social concerns, we focus on four key areas—what we call our Investment Stewardship pillars:

• The board: A high-functioning, well-composed, independent, diverse, and experienced board with effective ongoing evaluation practices.

• Governance structures: Provisions and structures that empower shareholders and protect their rights.

• Appropriate compensation: Pay that incentivizes relative outperformance over the long term.

• Risk oversight: Effective, integrated, and ongoing oversight of relevant industry-and company-specific risks.

Guided by these pillars, our Investment Stewardship team conducted more than 950 engagements, or discussions, with company directors and leaders worldwide during the 12 months ended June 30, 2017.

Market Barometer      
    Average Annual Total Returns
  Periods Ended September 30, 2017
  One Year Three Years Five Years
Stocks      
Russell 1000 Index (Large-caps) 18.54% 10.63% 14.27%
Russell 2000 Index (Small-caps) 20.74 12.18 13.79
Russell 3000 Index (Broad U.S. market) 18.71 10.74 14.23
FTSE All-World ex US Index (International) 19.49 5.11 7.35
 
Bonds      
Bloomberg Barclays U.S. Aggregate Bond Index      
(Broad taxable market) 0.07% 2.71% 2.06%
Bloomberg Barclays Municipal Bond Index      
(Broad tax-exempt market) 0.87 3.19 3.01
Citigroup Three-Month U.S. Treasury Bill Index 0.64 0.28 0.18
 
CPI      
Consumer Price Index 2.23% 1.22% 1.30%

 

4


 

We also cast more than 171,000 votes on behalf of Vanguard funds at more than 18,000 shareholder meetings.

Gender diversity on boards and climate risk

As we engage with companies, we are devoting increased attention to two specific topics. The first is gender diversity on boards. It’s no secret that the right combination of talent, skills, and experience leads to better results, so we pay close attention to how company boards are structured and managed, and how they evolve.

In recent years, a growing body of research has demonstrated that greater diversity on boards can lead to improved governance and company performance. We are advocating for boards to incorporate diverse perspectives and experience into their strategic planning and decision-making. One example of our commitment to more diverse boards is our participation in the 30% Club, a global coalition working to increase the representation of women in boardrooms and leadership roles.

The second issue is climate risk. We will continue to engage with companies to understand their responses to this risk. Regardless of one’s perspective on the issue, the potential is real for changing regulations, demographics, and consumption behavior to affect business results for companies in many sectors.

We want to ensure that such business and regulatory risks are sufficiently disclosed so investors can value companies appropriately. In the past year, we have voted for shareholder proposals at several energy companies that called for management to improve its climate risk assessment and planning, and we will consider supporting similar proposals if we believe they are beneficial to long-term shareholder value. When a proposal from a shareholder presents a strong case for change, we’re more than willing to fully consider it. And even if the case falls short, these proposals often catalyze a discussion that generates meaningful change over time.

In addition to considering activists’ proposals, we consult research providers and our own network of experts. When we detect material risks to a company’s long-term value (such as bad leadership, poor disclosure, misaligned compensation structures, or threats to shareholder rights), we act with our voice and our vote.

Our stewardship reflects our mission

But we don’t act as independent agents with our own agenda. Every time we speak with a company chairman, CEO, or director, we’re acutely aware of the role we play in representing the economic interests of more than 20 million Vanguard investors. So you can expect us to speak out when we detect threats to the economic interests of our shareholders.

5


 

We take positions on these matters not because they are inherently good or noble but because they are tied to the long-term economic value of your funds’ investments.

You trust us to represent your interests across the globe. You can be confident we act on that responsibility with the seriousness and dedication it deserves.

To learn more about our Investment Stewardship program, including how our funds have voted, visit https://about. vanguard.com/investment-stewardship/.

As always, thank you for investing with Vanguard.


F. William McNabb III
Chairman and Chief Executive Officer
October 13, 2017

6


 

Short-Term Inflation-Protected Securities Index Fund

Fund Profile
As of September 30, 2017

Share-Class Characteristics        
  Investor   Admiral Institutional
  Shares ETF Shares Shares Shares
Ticker Symbol VTIPX VTIP VTAPX VTSPX
Expense Ratio1 0.16% 0.07% 0.07% 0.04%
30-Day SEC Yield2 -0.20% -0.12% -0.12% -0.12%

 

Financial Attributes    
 
    Bloomberg  
    Barclays Bloomberg
    TIPS Barclays
    0-5 Year Aggregate
  Fund Index Bond Index
 
Number of Bonds 15 15 9,460
 
Yield to Maturity      
(before expenses) 2.0% 2.0% 2.6%
 
Average Coupon 0.6% 0.6% 3.1%
 
Average Duration 2.7 years 2.7 years 6.0 years
 
Average Effective      
Maturity 2.7 years 2.7 years 8.2 years
 
Short-Term      
Reserves 0.1%

 

Sector Diversification (% of portfolio)  
Treasury/Agency 100.0%

 

Volatility Measures    
  Bloomberg  
  Barclays Bloomberg
  TIPS Barclays
  0-5 Year Aggregate Bond
  Index Index
R-Squared 0.99 0.24
Beta 1.02 0.28

 

These measures show the degree and timing of the fund’s fluctuations compared with the indexes over 36 months.

Distribution by Credit Quality (% of portfolio)
U.S. Government 100.0%

 

Credit-quality ratings are obtained from Barclays and are from Moody's, Fitch, and S&P. When ratings from all three agencies are used, the median rating is shown. When ratings from two of the agencies are used, the lower rating for each issue is shown. "Not Rated" is used to classify securities for which a rating is not available. For more information about these ratings, see the Glossary entry for Credit Quality.

The agency and mortgage-backed securities sectors may include issues from government-sponsored enterprises; such issues are generally not backed by the full faith and credit of the U.S. government.

Distribution by Effective Maturity  
(% of portfolio)  
Under 1 Year 16.8%
1 - 3 Years 37.4
3 - 5 Years 45.8

 

1 The expense ratios shown are from the prospectus dated January 26, 2017, and represent estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the expense ratios were 0.15% for Investor Shares, 0.06% for ETF Shares, 0.06% for Admiral Shares, and 0.04% for Institutional Shares.

2 Yields of inflation-protected securities tend to be lower than those of nominal bonds, because the former do not incorporate market expectations about inflation. The principal amounts—and thus the interest payments—of inflation-protected securities are adjusted over time to reflect inflation.

7


 

Short-Term Inflation-Protected Securities Index Fund

Investment Focus


8


 

Short-Term Inflation-Protected Securities Index Fund

Performance Summary

All of the returns in this report represent past performance, which is not a guarantee of future results that may be achieved by the fund. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost. The returns shown do not reflect taxes that a shareholder would pay on fund distributions or on the sale of fund shares.

Cumulative Performance: October 16, 2012, Through September 30, 2017
Initial Investment of $10,000


    Average Annual Total Returns  
    Periods Ended September 30, 2017  
 
      Since Final Value
    One Inception of a $10,000
    Year (10/16/2012) Investment
  Short-Term Inflation-Protected      
  Securities Index Fund Investor Shares 0.31% 0.09% $10,045
  Bloomberg Barclays U.S. Treasury      
• • • • • • • •        
  Inflation-Protected Securities (TIPS) 0–5      
  Year Index 0.51 0.18 10,090
 
– – – – Inflation-Protected Bond Funds Average -0.14 -0.54 9,735
 
  Bloomberg Barclays U.S. Aggregate      
  Bond Index 0.07 2.08 11,074

 

Inflation-Protected Bond Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.

"Since Inception" performance is calculated from the Investor Shares’ inception date for both the fund and its comparative standards.

    Since Final Value
  One Inception of a $10,000
  Year (10/12/2012) Investment
Short-Term Inflation-Protected Securities      
Index Fund ETF Shares Net Asset Value 0.40% 0.18% $10,089
Bloomberg Barclays U.S. Treasury      
Inflation-Protected Securities (TIPS) 0–5 Year      
Index 0.51 0.18 10,088
Bloomberg Barclays U.S. Aggregate Bond      
Index 0.07 2.05 11,058

 

"Since Inception" performance is calculated from the ETF Shares’ inception date for both the fund and its comparative standards.

See Financial Highlights for dividend and capital gains information.

9


 

Short-Term Inflation-Protected Securities Index Fund      
 
 
 
 
  Average Annual Total Returns  
  Periods Ended September 30, 2017  
    Since Final Value
  One Inception of a $10,000
  Year (10/16/2012) Investment
Short-Term Inflation-Protected Securities      
Index Fund Admiral Shares 0.40% 0.18% $10,089
Bloomberg Barclays U.S. Treasury      
Inflation-Protected Securities (TIPS) 0–5 Year      
Index 0.51 0.18 10,090
Bloomberg Barclays U.S. Aggregate Bond      
Index 0.07 2.08 11,074

"Since Inception" performance is calculated from the Admiral Shares’ inception date for both the fund and its comparative standards.

 

 

    Since Final Value
  One Inception of a $5,000,000
  Year (10/17/2012) Investment
Short-Term Inflation-Protected Securities      
Index Fund Institutional Shares 0.44% 0.22% $5,054,760
Bloomberg Barclays U.S. Treasury      
Inflation-Protected Securities (TIPS) 0–5 Year      
Index 0.51 0.19 5,048,466
Bloomberg Barclays U.S. Aggregate Bond      
Index 0.07 2.13 5,549,614

"Since Inception" performance is calculated from the Institutional Shares’ inception date for both the fund and its comparative standards.

 

Cumulative Returns of ETF Shares: October 12, 2012, Through September 30, 2017  
 
    Since
  One Inception
  Year (10/12/2012)
Short-Term Inflation-Protected Securities Index Fund    
ETF Shares Market Price 0.38% 0.98%
Short-Term Inflation-Protected Securities Index Fund    
ETF Shares Net Asset Value 0.40 0.89
Bloomberg Barclays U.S. Treasury    
Inflation-Protected Securities (TIPS) 0–5 Year Index 0.51 0.88

 

"Since Inception" performance is calculated from the ETF Shares’ inception date for both the fund and its comparative standards.

10


 

Short-Term Inflation-Protected Securities Index Fund

Fiscal-Year Total Returns (%): October 16, 2012, Through September 30, 2017  
        Bloomberg
        Barclays
        TIPS
        0-5 Year
      Investor Shares Index
Fiscal Year Income Returns Capital Returns Total Returns Total Returns
2013 0.09% -1.00% -0.91% -1.20%
2014 0.02 -0.04 -0.02 0.21
2015 0.70 -2.06 -1.36 -1.19
2016 0.43 2.05 2.48 2.62
2017 0.55 -0.24 0.31 0.51

 

11


 

Short-Term Inflation-Protected Securities Index Fund

Financial Statements

Statement of Net Assets
As of September 30, 2017

The fund reports a complete list of its holdings in regulatory filings four times in each fiscal year, at the quarter-ends. For the second and fourth fiscal quarters, the lists appear in the fund’s semiannual and annual reports to shareholders. For the first and third fiscal quarters, the fund files the lists with the Securities and Exchange Commission on Form N-Q. Shareholders can look up the fund’s Forms N-Q on the SEC’s website at sec.gov. Forms N-Q may also be reviewed and copied at the SEC’s Public Reference Room (see the back cover of this report for further information).

      Face Market
    Maturity Amount Value
  Coupon Date ($000) ($000)
U.S. Government and Agency Obligations (99.8%)      
U.S. Government Securities (99.8%)        
United States Treasury Inflation Indexed Bonds 1.625% 1/15/18 584,994 688,020
United States Treasury Inflation Indexed Bonds 0.125% 4/15/18 2,111,735 2,236,915
United States Treasury Inflation Indexed Bonds 1.375% 7/15/18 594,452 685,764
United States Treasury Inflation Indexed Bonds 2.125% 1/15/19 545,639 641,440
United States Treasury Inflation Indexed Bonds 0.125% 4/15/19 2,121,308 2,223,690
United States Treasury Inflation Indexed Bonds 1.875% 7/15/19 617,233 736,810
United States Treasury Inflation Indexed Bonds 1.375% 1/15/20 757,914 888,238
United States Treasury Inflation Indexed Bonds 0.125% 4/15/20 2,120,880 2,227,332
United States Treasury Inflation Indexed Bonds 1.250% 7/15/20 1,174,715 1,373,136
United States Treasury Inflation Indexed Bonds 1.125% 1/15/21 1,357,484 1,578,615
United States Treasury Inflation Indexed Bonds 0.125% 4/15/21 1,867,856 1,934,290
United States Treasury Inflation Indexed Bonds 0.625% 7/15/21 1,484,643 1,656,041
United States Treasury Inflation Indexed Bonds 0.125% 1/15/22 1,655,371 1,795,079
United States Treasury Inflation Indexed Bonds 0.125% 4/15/22 1,274,686 1,282,419
United States Treasury Inflation Indexed Bonds 0.125% 7/15/22 1,733,995 1,853,557
Total U.S. Government and Agency Obligations (Cost $21,846,498)   21,801,346
 
      Shares  
Temporary Cash Investment (0.1%)        
Money Market Fund (0.1%)        
1 Vanguard Market Liquidity Fund (Cost $20,744) 1.223%   207,393 20,744
Total Investments (99.9%) (Cost $21,867,242)       21,822,090

 

12


 

Short-Term Inflation-Protected Securities Index Fund  
 
 
 
  Amount
  ($000)
Other Assets and Liabilities (0.1%)  
Other Assets  
Investment in VGI 1,367
Receivables for Accrued Income 28,383
Receivables for Capital Shares Issued 117,541
Total Other Assets 147,291
Liabilities  
Payables for Investment Securities Purchased (95,992)
Payables for Capital Shares Redeemed (14,510)
Payables to Vanguard (4,384)
Other Liabilities (5,096)
Total Liabilities (119,982)
Net Assets (100%) 21,849,399
 
 
At September 30, 2017, net assets consisted of:  
  Amount
  ($000)
Paid-in Capital 21,804,613
Undistributed Net Investment Income 194,124
Accumulated Net Realized Losses (104,186)
Unrealized Appreciation (Depreciation) (45,152)
Net Assets 21,849,399
 
Investor Shares—Net Assets  
Applicable to 238,404,410 outstanding $.001 par value shares of  
beneficial interest (unlimited authorization) 5,904,271
Net Asset Value Per Share—Investor Shares $24.77
 
ETF Shares—Net Assets  
Applicable to 78,542,013 outstanding $.001 par value shares of  
beneficial interest (unlimited authorization) 3,880,796
Net Asset Value Per Share—ETF Shares $49.41
 
Admiral Shares—Net Assets  
Applicable to 204,848,370 outstanding $.001 par value shares of  
beneficial interest (unlimited authorization) 5,078,425
Net Asset Value Per Share—Admiral Shares $24.79

 

13


 

Short-Term Inflation-Protected Securities Index Fund  
 
 
 
  Amount
  ($000)
Institutional Shares—Net Assets  
Applicable to 281,627,267 outstanding $.001 par value shares of  
beneficial interest (unlimited authorization) 6,985,907
Net Asset Value Per Share—Institutional Shares $24.81

 

See Note A in Notes to Financial Statements.
1 Affiliated money market fund available only to Vanguard funds and certain trusts and accounts managed by Vanguard.
Rate shown is the 7-day yield.

See accompanying Notes, which are an integral part of the Financial Statements.

14


 

Short-Term Inflation-Protected Securities Index Fund  
 
 
Statement of Operations  
 
  Year Ended
  September 30, 2017
  ($000)
Investment Income  
Income  
Interest1 269,907
Total Income 269,907
Expenses  
The Vanguard Group—Note B  
Investment Advisory Services 633
Management and Administrative—Investor Shares 6,982
Management and Administrative—ETF Shares 1,425
Management and Administrative—Admiral Shares 1,861
Management and Administrative—Institutional Shares 1,875
Marketing and Distribution—Investor Shares 847
Marketing and Distribution—ETF Shares 199
Marketing and Distribution—Admiral Shares 424
Marketing and Distribution—Institutional Shares 314
Custodian Fees 112
Auditing Fees 68
Shareholders’ Reports and Proxy—Investor Shares 119
Shareholders’ Reports and Proxy—ETF Shares 214
Shareholders’ Reports and Proxy—Admiral Shares 119
Shareholders’ Reports and Proxy—Institutional Shares 15
Trustees’ Fees and Expenses 15
Total Expenses 15,222
Net Investment Income 254,685
Realized Net Gain (Loss)  
Investment Securities Sold1 (5,193)
Futures Contracts (1,848)
Realized Net Gain (Loss) (7,041)
Change in Unrealized Appreciation (Depreciation) of Investment Securities1 (168,286)
Net Increase (Decrease) in Net Assets Resulting from Operations 79,358

 

1 Interest income, realized net gain (loss), and change in unrealzied appreciation (depreciation) from an affiliated company of the fund were $1,569,000, ($88,000), and $0, respectively.

See accompanying Notes, which are an integral part of the Financial Statements.

15


 

Short-Term Inflation-Protected Securities Index Fund    
 
 
Statement of Changes in Net Assets    
 
  Year Ended September 30,
  2017 2016
  ($000) ($000)
Increase (Decrease) in Net Assets    
Operations    
Net Investment Income 254,685 70,180
Realized Net Gain (Loss) (7,041) (12,164)
Change in Unrealized Appreciation (Depreciation) (168,286) 307,524
Net Increase (Decrease) in Net Assets Resulting from Operations 79,358 365,540
Distributions    
Net Investment Income    
Investor Shares (27,992)
ETF Shares (21,465)
Admiral Shares (26,937)
Institutional Shares (44,908)
Realized Capital Gain    
Investor Shares
ETF Shares
Admiral Shares
Institutional Shares
Total Distributions (121,302)
Capital Share Transactions    
Investor Shares 826,514 443,641
ETF Shares 1,409,404 583,428
Admiral Shares 1,712,740 1,173,766
Institutional Shares 1,503,409 1,539,781
Net Increase (Decrease) from Capital Share Transactions 5,452,067 3,740,616
Total Increase (Decrease) 5,410,123 4,106,156
Net Assets    
Beginning of Period 16,439,276 12,333,120
End of Period1 21,849,399 16,439,276

 

1 Net Assets—End of Period includes undistributed (overdistributed) net investment income of $194,124,000 and $60,698,000.

See accompanying Notes, which are an integral part of the Financial Statements.

16


 

Short-Term Inflation-Protected Securities Index Fund        
 
 
Financial Highlights          
 
 
Investor Shares          
          Oct. 16,
          20121 to
    Year Ended September 30,  
For a Share Outstanding         Sept. 30,
Throughout Each Period 2017 2016 2015 2014 2013
Net Asset Value, Beginning of Period $24.83 $24.23 $24.74 $24.75 $25.00
Investment Operations          
Net Investment Income . 312 2 .0802 (.131) .183 . 015
Net Realized and Unrealized Gain (Loss)          
on Investments (. 237) . 520 (. 206) (.189) (. 241)
Total from Investment Operations . 075 . 600 (. 337) (. 006) (. 226)
Distributions          
Dividends from Net Investment Income (.135) (.173) (. 004) (. 024)
Distributions from Realized Capital Gains
Total Distributions (.135) (.173) (. 004) (. 024)
Net Asset Value, End of Period $24.77 $24.83 $24.23 $24.74 $24.75
 
Total Return3 0.31% 2.48% -1.36% -0.02% -0.91%
 
Ratios/Supplemental Data          
Net Assets, End of Period (Millions) $5,904 $5,088 $4,532 $4,517 $3,702
Ratio of Total Expenses to Average Net Assets 0.15% 0.16% 0.17% 0.20% 0.20%4
Ratio of Net Investment Income to          
Average Net Assets 1.26% 0.42% (0.53%) 0.88% 0.01%4
Portfolio Turnover Rate 5 27% 28% 26% 18% 13%

 

1 Inception.

2 Calculated based on average shares outstanding.

3 Total returns do not include transaction or account service fees that may have applied in the periods shown. Fund prospectuses provide information about any applicable transaction and account service fees.

4 Annualized.

5 Excludes the value of portfolio securities received or delivered as a result of in-kind purchases or redemptions of the fund’s capital shares, including ETF Creation Units.

See accompanying Notes, which are an integral part of the Financial Statements.

17


 

Short-Term Inflation-Protected Securities Index Fund          
 
 
Financial Highlights          
 
 
ETF Shares          
          Oct. 12,
          20121 to
    Year Ended September 30,  
For a Share Outstanding         Sept. 30,
Throughout Each Period 2017 2016 2015 2014 2013
Net Asset Value, Beginning of Period $49.59 $48.36 $49.38 $49.36 $49.83
Investment Operations          
Net Investment Income . 6712 .2512 (. 210) . 414 . 065
Net Realized and Unrealized Gain (Loss)          
on Investments (. 477) . 979 (. 415) (. 371) (. 483)
Total from Investment Operations .194 1.230 (.625) .043 (.418)
Distributions          
Dividends from Net Investment Income (. 374) (. 395) (. 023) (. 052)
Distributions from Realized Capital Gains
Total Distributions (. 374) (. 395) (. 023) (. 052)
Net Asset Value, End of Period $49.41 $49.59 $48.36 $49.38 $49.36
 
Total Return 0.40% 2.54% -1.26% 0.09% -0.84%
 
Ratios/Supplemental Data          
Net Assets, End of Period (Millions) $3,881 $2,478 $1,838 $1,336 $967
Ratio of Total Expenses to Average Net Assets 0.06% 0.07% 0.08% 0.10% 0.10%3
Ratio of Net Investment Income to          
Average Net Assets 1.35% 0.51% (0.44%) 0.98% 0.11%3
Portfolio Turnover Rate 4 27% 28% 26% 18% 13%

 

1 Inception.
2 Calculated based on average shares outstanding.
3 Annualized.
4 Excludes the value of portfolio securities received or delivered as a result of in-kind purchases or redemptions of the fund’s capital
shares, including ETF Creation Units.

See accompanying Notes, which are an integral part of the Financial Statements.

18


 

Short-Term Inflation-Protected Securities Index Fund          
 
 
Financial Highlights          
 
 
Admiral Shares          
          Oct. 16,
          20121 to
    Year Ended September 30,  
For a Share Outstanding         Sept. 30,
Throughout Each Period 2017 2016 2015 2014 2013
Net Asset Value, Beginning of Period $24.88 $24.27 $24.77 $24.77 $25.00
Investment Operations          
Net Investment Income . 338 2 .1492 (.105) . 209 . 025
Net Realized and Unrealized Gain (Loss)          
on Investments (. 241) . 461 (.197) (.195) (. 229)
Total from Investment Operations .097 .610 (. 302) .014 (. 204)
Distributions          
Dividends from Net Investment Income (.187) (.198) (. 014) (. 026)
Distributions from Realized Capital Gains
Total Distributions (.187) (.198) (. 014) (. 026)
Net Asset Value, End of Period $24.79 $24.88 $24.27 $24.77 $24.77
 
Total Return3 0.40% 2.51% -1.22% 0.06% -0.82%
 
Ratios/Supplemental Data          
Net Assets, End of Period (Millions) $5,078 $3,373 $2,126 $1,518 $776
Ratio of Total Expenses to Average Net Assets 0.06% 0.07% 0.08% 0.10% 0.10%4
Ratio of Net Investment Income to          
Average Net Assets 1.35% 0.51% (0.44%) 0.98% 0.11%4
Portfolio Turnover Rate 5 27% 28% 26% 18% 13%

 

1 Inception.
2 Calculated based on average shares outstanding.
3 Total returns do not include transaction or account service fees that may have applied in the periods shown. Fund prospectuses provide
information about any applicable transaction and account service fees.
4 Annualized.
5 Excludes the value of portfolio securities received or delivered as a result of in-kind purchases or redemptions of the fund’s capital
shares, including ETF Creation Units.

See accompanying Notes, which are an integral part of the Financial Statements.

19


 

Short-Term Inflation-Protected Securities Index Fund        
 
 
Financial Highlights          
 
 
Institutional Shares          
          Oct. 17,
          20121 to
    Year Ended September 30,  
For a Share Outstanding         Sept. 30,
Throughout Each Period 2017 2016 2015 2014 2013
Net Asset Value, Beginning of Period $24.90 $24.28 $24.78 $24.77 $24.99
Investment Operations          
Net Investment Income . 333 2 .1392 (. 099) . 215 . 026
Net Realized and Unrealized Gain (Loss)          
on Investments (. 225) . 481 (.196) (.189) (. 220)
Total from Investment Operations .108 .620 (. 295) .026 (.194)
Distributions          
Dividends from Net Investment Income (.198) (. 205) (. 016) (. 026)
Distributions from Realized Capital Gains
Total Distributions (.198) (. 205) (. 016) (. 026)
Net Asset Value, End of Period $24.81 $24.90 $24.28 $24.78 $24.77
 
Total Return3 0.44% 2.55% -1.19% 0.11% -0.78%
 
Ratios/Supplemental Data          
Net Assets, End of Period (Millions) $6,986 $5,500 $3,837 $2,706 $1,262
Ratio of Total Expenses to Average Net Assets 0.04% 0.04% 0.05% 0.07% 0.07%4
Ratio of Net Investment Income to          
Average Net Assets 1.37% 0.54% (0.41%) 1.01% 0.14%4
Portfolio Turnover Rate 5 27% 28% 26% 18% 13%

 

1 Inception.
2 Calculated based on average shares outstanding.
3 Total returns do not include transaction fees that may have applied in the periods shown. Fund prospectuses provide information about
any applicable transaction fees.
4 Annualized.
5 Excludes the value of portfolio securities received or delivered as a result of in-kind purchases or redemptions of the fund’s capital
shares, including ETF Creation Units.

See accompanying Notes, which are an integral part of the Financial Statements.

20


 

Short-Term Inflation-Protected Securities Index Fund

Notes to Financial Statements

Vanguard Short-Term Inflation-Protected Securities Index Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund. The fund offers four classes of shares: Investor Shares, ETF Shares, Admiral Shares, and Institutional Shares. Investor Shares are available to any investor who meets the fund’s minimum purchase requirements. ETF Shares are listed for trading on Nasdaq; they can be purchased and sold through a broker. Admiral Shares and Institutional Shares are designed for investors who meet certain administrative, service, and account-size criteria.

A. The following significant accounting policies conform to generally accepted accounting principles for U.S. investment companies. The fund consistently follows such policies in preparing its financial statements.

1. Security Valuation: Securities are valued as of the close of trading on the New York Stock Exchange (generally 4 p.m., Eastern time) on the valuation date. Bonds and temporary cash investments are valued using the latest bid prices or using valuations based on a matrix system (which considers such factors as security prices, yields, maturities, and ratings), both as furnished by independent pricing services. Investments in Vanguard Market Liquidity Fund are valued at that fund’s net asset value. Securities for which market quotations are not readily available, or whose values have been affected by events occurring before the fund’s pricing time but after the close of the securities’ primary markets, are valued by methods deemed by the board of trustees to represent fair value.

2. Futures Contracts: The fund uses futures contracts to invest in fixed income asset classes with greater efficiency and lower cost than is possible through direct investment, to add value when these instruments are attractively priced, or to adjust sensitivity to changes in interest rates. The primary risks associated with the use of futures contracts are imperfect correlation between changes in market values of bonds held by the fund and the prices of futures contracts, and the possibility of an illiquid market. Counterparty risk involving futures is mitigated because a regulated clearinghouse is the counterparty instead of the clearing broker. To further mitigate counterparty risk, the fund trades futures contracts on an exchange, monitors the financial strength of its clearing brokers and clearinghouse, and has entered into clearing agreements with its clearing brokers. The clearinghouse imposes initial margin requirements to secure the fund’s performance and requires daily settlement of variation margin representing changes in the market value of each contract.

Futures contracts are valued at their quoted daily settlement prices. The notional amounts of the contracts are not recorded in the Statement of Net Assets. Fluctuations in the value of the contracts are recorded in the Statement of Net Assets as an asset (liability) and in the Statement of Operations as unrealized appreciation (depreciation) until the contracts are closed, when they are recorded as realized futures gains (losses).

During the year ended September 30, 2017, the fund’s average investments in long and short futures contracts each represented 0% of net assets, based on the average of aggregate settlement values at each quarter-end during the period. The fund had no open futures contracts at September 30, 2017.

3. Federal Income Taxes: The fund intends to continue to qualify as a regulated investment company and distribute all of its taxable income. Management has analyzed the fund’s tax positions taken for all open federal income tax years (September 30, 2014–2017), and has concluded that no provision for federal income tax is required in the fund’s financial statements.

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Short-Term Inflation-Protected Securities Index Fund

4. Distributions: Distributions to shareholders are recorded on the ex-dividend date.

5. Credit Facility: The fund and certain other funds managed by The Vanguard Group (“Vanguard”) participate in a $3.1 billion committed credit facility provided by a syndicate of lenders pursuant to a credit agreement that may be renewed annually; each fund is individually liable for its borrowings, if any, under the credit facility. Borrowings may be utilized for temporary and emergency purposes, and are subject to the fund’s regulatory and contractual borrowing restrictions. The participating funds are charged administrative fees and an annual commitment fee of 0.10% of the undrawn amount of the facility; these fees are allocated to the funds based on a method approved by the fund’s board of trustees and included in Management and Administrative expenses on the fund’s Statement of Operations. Any borrowings under this facility bear interest at a rate based upon the higher of the one-month London Interbank Offered Rate, federal funds effective rate, or overnight bank funding rate plus an agreed-upon spread.

The fund had no borrowings outstanding at September 30, 2017, or at any time during the period then ended.

6. Other: Interest income includes income distributions received from Vanguard Market Liquidity Fund and is accrued daily. Premiums and discounts on debt securities purchased are amortized and accreted, respectively, to interest income over the lives of the respective securities. Inflation adjustments to the face amount of inflation-indexed securities are included in interest income. Security transactions are accounted for on the date securities are bought or sold. Costs used to determine realized gains (losses) on the sale of investment securities are those of the specific securities sold.

Each class of shares has equal rights as to assets and earnings, except that each class separately bears certain class-specific expenses related to maintenance of shareholder accounts (included in Management and Administrative expenses), shareholder reporting, and the proxy. Marketing and distribution expenses are allocated to each class of shares based on a method approved by the board of trustees. Income, other non-class-specific expenses, and gains and losses on investments are allocated to each class of shares based on its relative net assets.

B. In accordance with the terms of a Funds’ Service Agreement (the “FSA”) between Vanguard and the fund, Vanguard furnishes to the fund investment advisory, corporate management, administrative, marketing, and distribution services at Vanguard’s cost of operations (as defined by the FSA). These costs of operations are allocated to the fund based on methods and guidelines approved by the board of trustees. Vanguard does not require reimbursement in the current period for certain costs of operations (such as deferred compensation/benefits and risk/insurance costs); the fund’s liability for these costs of operations is included in Payables to Vanguard on the Statement of Net Assets.

Upon the request of Vanguard, the fund may invest up to 0.40% of its net assets as capital in Vanguard. At September 30, 2017, the fund had contributed to Vanguard capital in the amount of $1,367,000, representing 0.01% of the fund’s net assets and 0.55% of Vanguard’s capitalization. The fund’s trustees and officers are also directors and employees, respectively, of Vanguard.

C. Various inputs may be used to determine the value of the fund’s investments. These inputs are summarized in three broad levels for financial statement purposes. The inputs or methodologies used to value securities are not necessarily an indication of the risk associated with investing in those securities.

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Short-Term Inflation-Protected Securities Index Fund

Level 1—Quoted prices in active markets for identical securities.
Level 2—Other significant observable inputs (including quoted prices for similar securities, interest
rates, prepayment speeds, credit risk, etc.).
Level 3—Significant unobservable inputs (including the fund’s own assumptions used to determine
the fair value of investments). Any investments valued with significant unobservable inputs are
noted on the Statement of Net Assets.

The following table summarizes the market value of the fund’s investments as of September 30,
2017, based on the inputs used to value them:

  Level 1 Level 2 Level 3
Investments ($000) ($000) ($000)
U.S. Government and Agency Obligations 21,801,346
Temporary Cash Investments 20,744
Total 20,744 21,801,346

 

D. Distributions are determined on a tax basis and may differ from net investment income and realized capital gains for financial reporting purposes. Differences may be permanent or temporary. Permanent differences are reclassified among capital accounts in the financial statements to reflect their tax character. Temporary differences arise when certain items of income, expense, gain, or loss are recognized in different periods for financial statement and tax purposes. These differences will reverse at some time in the future. Differences in classification may also result from the treatment of short-term gains as ordinary income for tax purposes.

Certain of the fund’s U.S. Treasury inflation-indexed securities experienced deflation and amortization adjustments that reduced interest income and the cost of investments for financial statement purposes by an amount greater than the reduction of taxable income; the additional income reduction will be deferred for tax purposes until it is used to offset future inflation adjustments that increase taxable income. The difference becomes permanent if the securities are sold. During the year ended September 30, 2017, the fund realized gains of $43,000 related to previously tax-deferred deflation adjustments, which have been reclassified from accumulated net realized losses to undistributed net investment income. Deferred inflation and amortization adjustments to securities held at September 30, 2017, totaling $402,000 are reflected as a reduction of the amount of tax-basis unrealized appreciation of investment securities.

During the year ended September 30, 2017, the fund realized $9,202,000 of net capital gains resulting from in-kind redemptions—in which shareholders exchanged fund shares for securities held by the fund rather than for cash. Because such gains are not taxable to the fund, and are not distributed to shareholders, they have been reclassified from accumulated net realized losses to paid-in capital.

For tax purposes, at September 30, 2017, the fund had $198,269,000 of ordinary income available for distribution. The fund had available capital losses totaling $104,154,000 that may be carried forward indefinitely to offset future net capital gains.

23


 

Short-Term Inflation-Protected Securities Index Fund

At September 30, 2017, the cost of investment securities for tax purposes was $21,867,644,000. Net unrealized depreciation of investment securities for tax purposes was $45,554,000, consisting of unrealized gains of $15,483,000 on securities that had risen in value since their purchase and $61,037,000 in unrealized losses on securities that had fallen in value since their purchase.

E. During the year ended September 30, 2017, the fund purchased $10,213,900,000 of investment securities and sold $5,080,787,000 of investment securities, other than temporary cash investments. Purchases and sales include $1,244,402,000 and $105,731,000, respectively, in connection with in-kind purchases and redemptions of the fund’s capital shares.

F. Capital share transactions for each class of shares were:      
      Year Ended September 30,
    2017   2016
  Amount Shares Amount Shares
  ($000) (000) ($000) (000)
Investor Shares        
Issued 1,069,872 43,271 873,920 35,645
Issued in Lieu of Cash Distributions 27,936 1,136
Redeemed (271,294) (10,974) (430,279) (17,713)
Net Increase (Decrease)—Investor Shares 826,514 33,433 443,641 17,932
ETF Shares        
Issued 1,524,321 30,900 955,615 19,579
Issued in Lieu of Cash Distributions
Redeemed (114,917) (2,325) (372,187) (7,625)
Net Increase (Decrease)—ETF Shares 1,409,404 28,575 583,428 11,954
Admiral Shares        
Issued 2,400,906 97,067 1,743,525 71,273
Issued in Lieu of Cash Distributions 25,001 1,016
Redeemed (713,167) (28,817) (569,759) (23,298)
Net Increase (Decrease)—Admiral Shares 1,712,740 69,266 1,173,766 47,975
Institutional Shares        
Issued 2,636,078 106,487 2,316,657 94,659
Issued in Lieu of Cash Distributions 44,322 1,801
Redeemed (1,176,991) (47,524) (776,876) (31,833)
Net Increase (Decrease)—Institutional Shares 1,503,409 60,764 1,539,781 62,826

 

At September 30, 2017, one shareholder was the record or beneficial owner of 38% of the fund’s net assets. If the shareholder were to redeem its investment in the fund, the redemption might result in an increase in the fund’s expense ratio, cause the fund to incur higher transaction costs, or lead to the realization of taxable capital gains.

G. Management has determined that no material events or transactions occurred subsequent to September 30, 2017, that would require recognition or disclosure in these financial statements.

24


 

Report of Independent Registered
Public Accounting Firm

To the Board of Trustees of Vanguard Malvern Funds and the Shareholders of Vanguard Short-Term
Inflation-Protected Securities Index Fund

In our opinion, the accompanying statement of net assets and the related statements of operations and of changes in net assets and the financial highlights present fairly, in all material respects, the financial position of Vanguard Short-Term Inflation-Protected Securities Index Fund (constituting a separate portfolio of Vanguard Malvern Funds, hereafter referred to as the “Fund”) as of September 30, 2017, the results of its operations for the year then ended, the changes in its net assets for each of the two years in the period then ended and the financial highlights for each of the periods indicated, in conformity with accounting principles generally accepted in the United States of America. These financial statements and financial highlights (hereafter referred to as “financial statements”) are the responsibility of the Fund’s management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these financial statements in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits, which included confirmation of securities as of September 30, 2017 by correspondence with the custodian and brokers and by agreement to the underlying ownership records of the transfer agent, provide a reasonable basis for our opinion.

/s/PricewaterhouseCoopers LLP
Philadelphia, Pennsylvania
November 16, 2017

 

 


 

Special 2017 tax information (unaudited) for Vanguard Short-Term Inflation-Protected Securities Index Fund

This information for the fiscal year ended September 30, 2017, is included pursuant to provisions of the Internal Revenue Code.

For nonresident alien shareholders, 99.5% of income dividends are interest-related dividends.

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About Your Fund’s Expenses

As a shareholder of the fund, you incur ongoing costs, which include costs for portfolio management, administrative services, and shareholder reports (like this one), among others. Operating expenses, which are deducted from a fund’s gross income, directly reduce the investment return of the fund.

A fund’s expenses are expressed as a percentage of its average net assets. This figure is known as the expense ratio. The following examples are intended to help you understand the ongoing costs (in dollars) of investing in your fund and to compare these costs with those of other mutual funds. The examples are based on an investment of $1,000 made at the beginning of the period shown and held for the entire period.

The accompanying table illustrates your fund’s costs in two ways:

Based on actual fund return. This section helps you to estimate the actual expenses that you paid over the period. The ”Ending Account Value“ shown is derived from the fund‘s actual return, and the third column shows the dollar amount that would have been paid by an investor who started with $1,000 in the fund. You may use the information here, together with the amount you invested, to estimate the expenses that you paid over the period.

To do so, simply divide your account value by $1,000 (for example, an $8,600 account value divided by $1,000 = 8.6), then multiply the result by the number given for your fund under the heading ”Expenses Paid During Period.“

Based on hypothetical 5% yearly return. This section is intended to help you compare your fund‘s costs with those of other mutual funds. It assumes that the fund had a yearly return of 5% before expenses, but that the expense ratio is unchanged. In this case—because the return used is not the fund’s actual return—the results do not apply to your investment. The example is useful in making comparisons because the Securities and Exchange Commission requires all mutual funds to calculate expenses based on a 5% return. You can assess your fund’s costs by comparing this hypothetical example with the hypothetical examples that appear in shareholder reports of other funds.

Note that the expenses shown in the table are meant to highlight and help you compare ongoing costs only and do not reflect transaction costs incurred by the fund for buying and selling securities. Further, the expenses do not include any purchase, redemption, or account service fees described in the fund prospectus. If such fees were applied to your account, your costs would be higher. Your fund does not carry a “sales load.”

The calculations assume no shares were bought or sold during the period. Your actual costs may have been higher or lower, depending on the amount of your investment and the timing of any purchases or redemptions.

You can find more information about the fund’s expenses, including annual expense ratios, in the Financial Statements section of this report. For additional information on operating expenses and other shareholder costs, please refer to your fund’s current prospectus.

26


 

Six Months Ended September 30, 2017      
  Beginning Ending Expenses
Short-Term Inflation-Protected Securities Index Account Value Account Value Paid During
Fund 3/31/2017 9/30/2017 Period
Based on Actual Fund Return      
Investor Shares $1,000.00 $999.19 $0.70
ETF Shares 1,000.00 999.19 0.25
Admiral Shares 1,000.00 999.19 0.25
Institutional Shares 1,000.00 999.60 0.20
Based on Hypothetical 5% Yearly Return      
Investor Shares $1,000.00 $1,024.37 $0.71
ETF Shares 1,000.00 1,024.82 0.25
Admiral Shares 1,000.00 1,024.82 0.25
Institutional Shares 1,000.00 1,024.87 0.20

 

The calculations are based on expenses incurred in the most recent six-month period. The fund’s annualized six-month expense ratios for that period are 0.14% for Investor Shares, 0.05% for ETF Shares, 0.05% for Admiral Shares, and 0.04% for Institutional Shares. The dollar amounts shown as “Expenses Paid” are equal to the annualized expense ratio multiplied by the average account value over the period, multiplied by the number of days in the most recent six-month period, then divided by the number of days in the most recent 12-month period (183/365).

27


 

Glossary

30-Day SEC Yield. A fund’s 30-day SEC yield is derived using a formula specified by the U.S. Securities and Exchange Commission. Under the formula, data related to the fund’s security holdings in the previous 30 days are used to calculate the fund’s hypothetical net income for that period, which is then annualized and divided by the fund’s estimated average net assets over the calculation period. For the purposes of this calculation, a security’s income is based on its current market yield to maturity (for bonds), its actual income (for asset-backed securities), or its projected dividend yield (for stocks). Because the SEC yield represents hypothetical annualized income, it will differ—at times significantly—from the fund’s actual experience. As a result, the fund’s income distributions may be higher or lower than implied by the SEC yield.

Average Coupon. The average interest rate paid on the fixed income securities held by a fund. It is expressed as a percentage of face value.

Average Duration. An estimate of how much the value of the fund’s bonds will fluctuate in response to a change in “real” interest rates—meaning rates without inflation expectations built in. Real interest rates are reflected in market yields for inflation-adjusted securities. To see how the fund’s bond values could change, multiply the average duration by the change in real rates. For example, if the average duration were five years, then the value of the fund’s bonds would decline by about 5% if real interest rates rose by 1 percentage point. Conversely, if real rates fell by a percentage point, the value of the bonds would rise about 5%.

Average Effective Maturity. The average length of time until fixed income securities held by a fund reach maturity and are repaid, taking into consideration the possibility that the issuer may call the bond before its maturity date. The figure reflects the proportion of fund assets represented by each security; it also reflects any futures contracts held. In general, the longer the average effective maturity, the more a fund’s share price will fluctuate in response to changes in market interest rates.

Credit Quality. Credit-quality ratings are measured on a scale that generally ranges from AAA (highest) to D (lowest). U.S. Treasury, U.S. Agency, and U.S. Agency mortgage-backed securities appear under “U.S. Government.” Credit-quality ratings are obtained from Barclays and are from Moody’s, Fitch, and S&P. When ratings from all three agencies are used, the median rating is shown. When ratings from two of the agencies are used, the lower rating for each issue is shown. “Not Rated” is used to classify securities for which a rating is not available.

Expense Ratio. A fund’s total annual operating expenses expressed as a percentage of the fund’s average net assets. The expense ratio includes management and administrative expenses, but does not include the transaction costs of buying and selling portfolio securities.

Inception Date. The date on which the assets of a fund (or one of its share classes) are first invested in accordance with the fund’s investment objective. For funds with a subscription period, the inception date is the day after that period ends. Investment performance is measured from the inception date.

Short-Term Reserves. The percentage of a fund invested in highly liquid, short-term securities that can be readily converted to cash.

28


 

Yield to Maturity. This term generally refers to the rate of return an investor would receive if the fixed income securities held by a fund were held to their maturity dates. For the Short-Term Inflation-Protected Securities Index Fund, the calculation is modified by adding in the inflation adjustment made over the past 12 months. This change results in a figure more directly comparable to the yield-to-maturity figures for other types of bond funds. (An unmodified yield to maturity is used in calculating the fund’s 30-Day SEC Yield.)

29


 

BLOOMBERG is a trademark and service mark of Bloomberg Finance L.P. BARCLAYS is a trademark and service mark of Barclays Bank Plc, used under license. Bloomberg Finance L.P. and its affiliates, including Bloomberg Index Services Limited (BISL) (collectively, Bloomberg), or Bloomberg’s licensors, own all proprietary rights in the Bloomberg Barclays U.S. Treasury Inflation-Protected Securities (Tips) 0–5 Year Index (Index or Bloomberg Barclays Index).

Neither Barclays Bank Plc, Barclays Capital Inc., or any affiliate (collectively Barclays) or Bloomberg is the issuer or producer of the Short-Term Inflation-Protected Securities Index Fund and neither Bloomberg nor Barclays has any responsibilities, obligations or duties to investors in the Short-Term Inflation-Protected Securities Index Fund. The Index is licensed for use by The Vanguard Group, Inc. (Vanguard) as the sponsor of the Short-Term Inflation-Protected Securities Index Fund. Bloomberg and Barclays’ only relationship with Vanguard in respect of the Index is the licensing of the Index, which is determined, composed and calculated by BISL, or any successor thereto, without regard to the Issuer or the Short-Term Inflation-Protected Securities Index Fund or the owners of the Short-Term Inflation-Protected Securities Index Fund.

Additionally, Vanguard may for itself execute transaction(s) with Barclays in or relating to the Index in connection with the Short-Term Inflation-Protected Securities Index Fund. Investors acquire the Short-Term Inflation-Protected Securities Index Fund from Vanguard and investors neither acquire any interest in the Index nor enter into any relationship of any kind whatsoever with Bloomberg or Barclays upon making an investment in the Short-Term Inflation-Protected Securities Index Fund. The Short-Term Inflation-Protected Securities Index Fund is not sponsored, endorsed, sold or promoted by Bloomberg or Barclays. Neither Bloomberg nor Barclays makes any representation or warranty, express or implied regarding the advisability of investing in the Short-Term Inflation-Protected Securities Index Fund or the advisability of investing in securities generally or the ability of the Index to track corresponding or relative market performance. Neither Bloomberg nor Barclays has passed on the legality or suitability of the Short-Term Inflation-Protected Securities Index Fund with respect to any person or entity. Neither Bloomberg nor Barclays is responsible for and has not participated in the determination of the timing of, prices at, or quantities of the Short-Term Inflation-Protected Securities Index Fund to be issued. Neither Bloomberg nor Barclays has any obligation to take the needs of the Issuer or the owners of the Short-Term Inflation-Protected Securities Index Fund or any other third party into consideration in determining, composing or calculating the Index. Neither Bloomberg nor Barclays has any obligation or liability in connection with administration, marketing or trading of the Short-Term Inflation-Protected Securities Index Fund.

30


 

The licensing agreement between Bloomberg and Barclays is solely for the benefit of Bloomberg and Barclays and not for the benefit of the owners of the Short-Term Inflation-Protected Securities Index Fund, investors or other third parties. In addition, the licensing agreement between Vanguard and Bloomberg is solely for the benefit of Vanguard and Bloomberg and not for the benefit of the owners of the Short-Term Inflation-Protected Securities Index Fund, investors or other third parties.

NEITHER BLOOMBERG NOR BARCLAYS SHALL HAVE ANY LIABILITY TO THE ISSUER, INVESTORS OR TO OTHER THIRD PARTIES FOR THE QUALITY, ACCURACY AND/OR COMPLETENESS OF THE BLOOMBERG BARCLAYS INDEX OR ANY DATA INCLUDED THEREIN OR FOR INTERRUPTIONS IN THE DELIVERY OF THE BLOOMBERG BARCLAYS INDEX. NEITHER BLOOMBERG NOR BARCLAYS MAKES ANY WARRANTY, EXPRESS OR IMPLIED, AS TO RESULTS TO BE OBTAINED BY THE ISSUER, THE INVESTORS OR ANY OTHER PERSON OR ENTITY FROM THE USE OF THE BLOOMBERG BARCLAYS INDEX OR ANY DATA INCLUDED THEREIN. NEITHER BLOOMBERG NOR BARCLAYS MAKES ANY EXPRESS OR IMPLIED WARRANTIES, AND EACH HEREBY EXPRESSLY DISCLAIMS ALL WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OR USE WITH RESPECT TO THE BLOOMBERG BARCLAYS INDEX OR ANY DATA INCLUDED THEREIN. BLOOMBERG RESERVES THE RIGHT TO CHANGE THE METHODS OF CALCULATION OR PUBLICATION, OR

TO CEASE THE CALCULATION OR PUBLICATION OF THE BLOOMBERG BARCLAYS INDEX, AND NEITHER BLOOMBERG NOR BARCLAYS SHALL BE LIABLE FOR ANY MISCALCULATION OF OR ANY INCORRECT, DELAYED OR INTERRUPTED PUBLICATION WITH RESPECT TO ANY OF THE BLOOMBERG BARCLAYS INDEX. NEITHER BLOOMBERG NOR BARCLAYS SHALL BE LIABLE FOR ANY DAMAGES, INCLUDING, WITHOUT LIMITATION, ANY SPECIAL, INDIRECT

OR CONSEQUENTIAL DAMAGES, OR ANY LOST PROFITS AND EVEN IF ADVISED OF THE POSSIBLITY OF SUCH, RESULTING FROM THE USE OF THE BLOOMBERG BARCLAYS INDEX OR ANY DATA INCLUDED THEREIN OR WITH RESPECT TO THE SHORT-TERM INFLATION-PROTECTED SECURITIES INDEX FUND.

None of the information supplied by Bloomberg or Barclays and used in this publication may be reproduced in any manner without the prior written permission of both Bloomberg and Barclays Capital, the investment banking division of Barclays Bank Plc. Barclays Bank Plc is registered in England No. 1026167. Registered office 1 Churchill Place London E14 5HP.

© 2017 Bloomberg. Used with Permission.

Source: Bloomberg Index Services Limited. Copyright 2017, Bloomberg. All rights reserved.

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The People Who Govern Your Fund

The trustees of your mutual fund are there to see that the fund is operated and managed in your best interests since, as a shareholder, you are a part owner of the fund. Your fund’s trustees also serve on the board of directors of The Vanguard Group, Inc., which is owned by the Vanguard funds and provides services to them on an at-cost basis.

A majority of Vanguard’s board members are independent, meaning that they have no affiliation with Vanguard or the funds they oversee, apart from the sizable personal investments they have made as private individuals. The independent board members have distinguished backgrounds in business, academia, and public service. Each of the trustees and executive officers oversees 198 Vanguard funds.

Information for each trustee and executive officer of the fund appears below. The mailing address of the trustees and officers is P.O. Box 876, Valley Forge, PA 19482. More information about the trustees is in the Statement of Additional Information, which can be obtained, without charge, by contacting Vanguard at 800-662-7447, or online at vanguard.com.

Interested Trustee1

F. William McNabb III

Born 1957. Trustee Since July 2009. Chairman of the Board. Principal Occupation(s) During the Past Five Years and Other Experience: Chairman of the Board of The Vanguard Group, Inc., and of each of the investment companies served by The Vanguard Group, since January 2010; Chief Executive Officer and Director of The Vanguard Group and President and Chief Executive Officer of each of the investment companies served by The Vanguard Group, since 2008; Director of Vanguard Marketing Corporation; President of The Vanguard Group (2008–2017); Managing Director of The Vanguard Group (1995–2008).

Independent Trustees

Emerson U. Fullwood

Born 1948. Trustee Since January 2008. Principal Occupation(s) During the Past Five Years and Other Experience: Executive Chief Staff and Marketing Officer for North America and Corporate Vice President (retired 2008) of Xerox Corporation (document management products and services);

Executive in Residence and 2009–2010 Distinguished Minett Professor at the Rochester Institute of Technology; Lead Director of SPX FLOW, Inc. (multi-industry manufacturing); Director of the United Way of Rochester, the University of Rochester Medical Center, Monroe Community College Foundation, North Carolina A&T University, and Roberts Wesleyan College; Trustee of the University of Rochester.

Rajiv L. Gupta

Born 1945. Trustee Since December 2001.2 Principal Occupation(s) During the Past Five Years and Other Experience: Chairman and Chief Executive Officer (retired 2009) and President (2006–2008) of Rohm and Haas Co. (chemicals); Director of Arconic Inc. (diversified manufacturer), HP Inc. (printer and personal computer manufacturing), and Delphi Automotive plc (automotive components); Senior Advisor at New Mountain Capital.

Amy Gutmann

Born 1949. Trustee Since June 2006. Principal Occupation(s) During the Past Five Years and Other Experience: President of the University of Pennsylvania; Christopher H. Browne

1 Mr. McNabb is considered an “interested person,” as defined in the Investment Company Act of 1940, because he is an officer of the Vanguard funds.

2 December 2002 for Vanguard Equity Income Fund, the Vanguard Municipal Bond Funds, and the Vanguard State Tax-Exempt Funds.


 

Distinguished Professor of Political Science, School of Arts and Sciences, and Professor of Communication, Annenberg School for Communication, with secondary faculty appointments in the Department of Philosophy, School of Arts and Sciences, and at the Graduate School of Education, University of Pennsylvania; Trustee of the National Constitution Center.

JoAnn Heffernan Heisen

Born 1950. Trustee Since July 1998. Principal Occupation(s) During the Past Five Years and Other Experience: Corporate Vice President and Member of the Executive Committee (1997–2008), Chief Global Diversity Officer (retired 2008), Vice President and Chief Information Officer (1997–2006), Controller (1995–1997), Treasurer (1991–1995), and Assistant Treasurer (1989–1991) of Johnson & Johnson (pharmaceuticals/medical devices/ consumer products); Director of Skytop Lodge Corporation (hotels) and the Robert Wood Johnson Foundation; Member of the Advisory Board of the Institute for Women’s Leadership at Rutgers University.

F. Joseph Loughrey

Born 1949. Trustee Since October 2009. Principal Occupation(s) During the Past Five Years and Other Experience: President and Chief Operating Officer (retired 2009) of Cummins Inc. (industrial machinery); Chairman of the Board of Hillenbrand, Inc. (specialized consumer services), Oxfam America, and the Lumina Foundation for Education; Director of the V Foundation for Cancer Research; Member of the Advisory Council for the College of Arts and Letters and Chair of the Advisory Board to the Kellogg Institute for International Studies, both at the University of Notre Dame.

Mark Loughridge

Born 1953. Trustee Since March 2012. Principal Occupation(s) During the Past Five Years and Other Experience: Senior Vice President and Chief Financial Officer (retired 2013) at IBM (information technology services); Fiduciary Member of IBM’s Retirement Plan Committee (2004–2013); Member of the Council on Chicago Booth.

Scott C. Malpass

Born 1962. Trustee Since March 2012. Principal Occupation(s) During the Past Five Years and Other Experience: Chief Investment Officer and Vice President at the University of Notre Dame; Assistant Professor of Finance at the Mendoza College of Business at Notre Dame; Member of the Notre Dame 403(b) Investment Committee, the Board of Advisors for Spruceview Capital Partners, the Board of Catholic Investment Services, Inc. (investment advisor), and the Board of Superintendence of the Institute for the Works of Religion; Chairman of the Board of TIFF Advisory Services, Inc. (investment advisor).

André F. Perold

Born 1952. Trustee Since December 2004. Principal Occupation(s) During the Past Five Years and Other Experience: George Gund Professor of Finance and Banking, Emeritus at the Harvard Business School (retired 2011); Chief Investment Officer and Co-Managing Partner of HighVista Strategies LLC (private investment firm); Overseer of the Museum of Fine Arts Boston.

Peter F. Volanakis

Born 1955. Trustee Since July 2009. Principal Occupation(s) During the Past Five Years and Other Experience: President and Chief Operating Officer (retired 2010) of Corning Incorporated (communications equipment); Chairman of the Board of Trustees of Colby-Sawyer College; Member of the Board of Hypertherm, Inc. (industrial cutting systems, software, and consumables).


 

Executive Officers

Glenn Booraem

Born 1967. Investment Stewardship Officer Since February 2017. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Treasurer (2015–2017), Controller (2010–2015), and Assistant Controller (2001–2010) of each of the investment companies served by The Vanguard Group.

Thomas J. Higgins

Born 1957. Chief Financial Officer Since September 2008. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Chief Financial Officer of each of the investment companies served by The Vanguard Group; Treasurer of each of the investment companies served by The Vanguard Group (1998–2008).

Peter Mahoney

Born 1974. Controller Since May 2015. Principal Occupation(s) During the Past Five Years and Other Experience: Principal of The Vanguard Group, Inc.; Controller of each of the investment companies served by The Vanguard Group; Head of International Fund Services at The Vanguard Group (2008–2014).

Anne E. Robinson

Born 1970. Secretary Since September 2016. Principal Occupation(s) During the Past Five Years and Other Experience: Managing Director of The Vanguard Group, Inc.; General Counsel of The Vanguard Group; Secretary of The Vanguard Group and of each of the investment companies served by The Vanguard Group; Director and Senior Vice President of Vanguard Marketing Corporation; Managing Director and General Counsel of Global Cards and Consumer Services at Citigroup (2014–2016); Counsel at American Express (2003–2014).

Michael Rollings

Born 1963. Treasurer Since February 2017. Principal Occupation(s) During the Past Five Years and Other Experience: Managing Director of The Vanguard Group, Inc.; Treasurer of each of the investment companies served by The Vanguard Group; Director of Vanguard Marketing Corporation; Executive Vice President and Chief Financial Officer of MassMutual Financial Group (2006–2016).

Vanguard Senior Management Team
 
Mortimer J. Buckley Chris D. McIsaac
Gregory Davis James M. Norris
John James Thomas M. Rampulla
Martha G. King Karin A. Risi
John T. Marcante  

 

Chairman Emeritus and Senior Advisor

John J. Brennan
Chairman, 1996–2009
Chief Executive Officer and President, 1996–2008

Founder

John C. Bogle
Chairman and Chief Executive Officer, 1974–1996


 

 

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This material may be used in conjunction
with the offering of shares of any Vanguard
fund only if preceded or accompanied by
the fund’s current prospectus.
 
All comparative mutual fund data are from Lipper, a
Thomson Reuters Company, or Morningstar, Inc., unless
otherwise noted.
 
You can obtain a free copy of Vanguard’s proxy voting
guidelines by visiting vanguard.com/proxyreporting or by
calling Vanguard at 800-662-2739. The guidelines are
also available from the SEC’s website, sec.gov. In
addition, you may obtain a free report on how your fund
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months ended June 30. To get the report, visit either
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You can review and copy information about your fund at
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Public Reference Section, Securities and Exchange
Commission, Washington, DC 20549-1520.
© 2017 The Vanguard Group, Inc.
All rights reserved.
Vanguard Marketing Corporation, Distributor.
  Q19670 112017

 



Annual Report | September 30, 2017

Vanguard Core Bond Fund


 

Vanguard’s Principles for Investing Success

We want to give you the best chance of investment success. These principles, grounded in Vanguard’s research and experience, can put you on the right path.

Goals. Create clear, appropriate investment goals.

Balance. Develop a suitable asset allocation using broadly diversified funds. Cost. Minimize cost.

Discipline. Maintain perspective and long-term discipline.

A single theme unites these principles: Focus on the things you can control.

We believe there is no wiser course for any investor.

Contents  
Your Fund’s Performance at a Glance. 1
Chairman’s Perspective. 2
Advisor’s Report. 6
Fund Profile. 9
Performance Summary. 10
Financial Statements. 12
About Your Fund’s Expenses. 57
Glossary. 59

 

Please note: The opinions expressed in this report are just that—informed opinions. They should not be considered promises or advice. Also, please keep in mind that the information and opinions cover the period through the date on the front of this report. Of course, the risks of investing in your fund are spelled out in the prospectus.

See the Glossary for definitions of investment terms used in this report.

About the cover: Nautical images have been part of Vanguard’s rich heritage since its start in 1975. For an incoming ship, a lighthouse offers a beacon and safe path to shore. You can similarly depend on Vanguard to put you first––and light the way––as you strive to meet your financial goals. Our client focus and low costs, stemming from our unique ownership structure, assure that your interests are paramount.


 

Your Fund’s Performance at a Glance

• For the 12 months ended September 30, 2017, Vanguard Core Bond Fund returned 0.03% for Investor Shares and 0.10% for Admiral Shares. Those performances were in line with the 0.06% return of the benchmark (Bloomberg Barclays U.S. Aggregate Float Adjusted Index) but trailed the 0.44% average return for peer funds.

• The fund’s tilt toward BBB-rated bonds was positive. Overweighted allocations to U.S. financial institutions and select property and casualty bonds worked particularly well, as did an underweighting of European financials.

• In anticipation of higher inflation, the fund slightly increased its exposure to Treasury
Inflation-Protected Securities at the beginning of the period. However, as the fiscal year
closed, it trimmed those holdings as valuations rebounded and approached their target.

• The fund was also underweighted in industrials and made tactical trades in energy
as volatility in that sector generated buying opportunities. These moves resulted in
small gains.

Total Returns: Fiscal Year Ended September 30, 2017      
  30-Day SEC Income Capital Total
  Yield Returns Returns Returns
Vanguard Core Bond Fund        
Investor Shares 2.18% 1.96% -1.93% 0.03%
Admiral™ Shares 2.28 2.07 -1.97 0.10
Bloomberg Barclays U.S. Aggregate Float Adjusted        
Index       0.06
Core Bond Funds Average       0.44

Core Bond Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.
Admiral Shares carry lower expenses and are available to investors who meet certain account-balance requirements.

 

Expense Ratios      
Your Fund Compared With Its Peer Group      
  Investor Admiral Peer Group
  Shares Shares Average
Core Bond Fund 0.25% 0.15% 0.78%

 

The fund expense ratios shown are from the prospectus dated January 26, 2017, and represent estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the fund’s expense ratios were 0.25% for Investor Shares and 0.15% for Admiral Shares. The peer-group expense ratio is derived from data provided by Lipper, a Thomson Reuters Company, and captures information through year-end 2016.

Peer group: Core Bond Funds.

1


 

Chairman’s Perspective


Bill McNabb
Chairman and Chief Executive Officer

Dear Shareholder,

Our investors depend on Vanguard to be a responsible steward of their assets. This includes our obvious responsibilities—managing the funds, offering investment perspectives and advice, and assisting with questions and transactions.

But because a long-term perspective informs every aspect of our investment approach, we also work on your behalf in less obvious ways, such as by advocating for responsible governance among the companies in which Vanguard funds invest. Vanguard’s index funds are essentially permanent owners of thousands of publicly traded companies, and we have a special obligation to be engaged stewards actively focused on the long term.

Simply put, we believe that well-governed companies are more likely to perform well over the long run.

Although Vanguard has always been an advocate for strong corporate governance, we have expanded our efforts recently as our investor base continues to grow. Our Investment Stewardship team has doubled in size since 2015, and we continue to add analysts, researchers, and operations team members. The team guides our engagement activities and our funds’ proxy voting by analyzing corporate governance practices in companies around the world.

2


 

Our four Investment Stewardship pillars

As we evaluate company responsiveness to governance matters, including environmental and social concerns, we focus on four key areas—what we call our Investment Stewardship pillars:

• The board: A high-functioning, well-composed, independent, diverse, and experienced board with effective ongoing evaluation practices.

• Governance structures: Provisions
and structures that empower shareholders
and protect their rights.

• Appropriate compensation: Pay that incentivizes relative outperformance over the long term.

• Risk oversight: Effective, integrated, and ongoing oversight of relevant industry-and company-specific risks.

Guided by these pillars, our Investment Stewardship team conducted more than 950 engagements, or discussions, with company directors and leaders worldwide during the 12 months ended June 30, 2017.

Market Barometer      
    Average Annual Total Returns
  Periods Ended September 30, 2017
  One Year Three Years Five Years
Stocks      
Russell 1000 Index (Large-caps) 18.54% 10.63% 14.27%
Russell 2000 Index (Small-caps) 20.74 12.18 13.79
Russell 3000 Index (Broad U.S. market) 18.71 10.74 14.23
FTSE All-World ex US Index (International) 19.49 5.11 7.35
 
Bonds      
Bloomberg Barclays U.S. Aggregate Bond Index      
(Broad taxable market) 0.07% 2.71% 2.06%
Bloomberg Barclays Municipal Bond Index      
(Broad tax-exempt market) 0.87 3.19 3.01
Citigroup Three-Month U.S. Treasury Bill Index 0.64 0.28 0.18
 
CPI      
Consumer Price Index 2.23% 1.22% 1.30%

 

3


 

We also cast more than 171,000 votes on behalf of Vanguard funds at more than 18,000 shareholder meetings.

Gender diversity on boards and climate risk

As we engage with companies, we are devoting increased attention to two specific topics. The first is gender diversity on boards. It’s no secret that the right combination of talent, skills, and experience leads to better results, so we pay close attention to how company boards are structured and managed, and how they evolve.

In recent years, a growing body of research has demonstrated that greater diversity on boards can lead to improved governance and company performance. We are advocating for boards to incorporate diverse perspectives and experience into their strategic planning and decision-making. One example of our commitment to more diverse boards is our participation in the 30% Club, a global coalition working to increase the representation of women in boardrooms and leadership roles.

The second issue is climate risk. We will continue to engage with companies to understand their responses to this risk. Regardless of one’s perspective on the issue, the potential is real for changing regulations, demographics, and consumption behavior to affect business results for companies in many sectors.

We want to ensure that such business and regulatory risks are sufficiently disclosed so investors can value companies appropriately. In the past year, we have voted for shareholder proposals at several energy companies that called for management to improve its climate risk assessment and planning, and we will consider supporting similar proposals if we believe they are beneficial to long-term shareholder value. When a proposal from a shareholder presents a strong case for change, we’re more than willing to fully consider it. And even if the case falls short, these proposals often catalyze a discussion that generates meaningful change over time.

In addition to considering activists’ proposals, we consult research providers and our own network of experts. When we detect material risks to a company’s long-term value (such as bad leadership, poor disclosure, misaligned compensation structures, or threats to shareholder rights), we act with our voice and our vote.

Our stewardship reflects our mission

But we don’t act as independent agents with our own agenda. Every time we speak with a company chairman, CEO, or director, we’re acutely aware of the role we play in representing the economic interests of more than 20 million Vanguard investors. So you can expect us to speak out when we detect threats to the economic interests of our shareholders.

4


 

We take positions on these matters not because they are inherently good or noble but because they are tied to the long-term economic value of your funds’ investments.

You trust us to represent your interests across the globe. You can be confident we act on that responsibility with the seriousness and dedication it deserves.

To learn more about our Investment Stewardship program, including how our funds have voted, visit https://about. vanguard.com/investment-stewardship/.

As always, thank you for investing with Vanguard.


F. William McNabb III

Chairman and Chief Executive Officer

October 13, 2017

5


 

Advisor’s Report

For the 12 months ended September 30, 2017, Vanguard Core Bond Fund returned 0.03% for Investor Shares and 0.10% for Admiral Shares. Those performances were in line with the 0.06% return of the benchmark (Bloomberg Barclays U.S. Aggregate Float Adjusted Index) but trailed the 0.44% average return for peer funds.

Investment environment

The period began on an unexpected note, with investors cheering stronger-than-expected third-quarter 2016 economic growth that stood in contrast to disappointing results from earlier in the year. The exuberance gained steam in the wake of U.S. elections in anticipation of the new administration’s policy initiatives focused on tax reform, infrastructure spending, and greater deregulation. This fueled a move toward riskier assets, propelling many bellwether stock indexes to record highs in early 2017.

The Federal Reserve also acknowledged the economy’s strength. In December, as inflation inched closer to the 2% target level, the Fed raised the funds rate by a quarter percentage point—only the second increase in a decade. Optimism waned a bit in early 2017 as policy initiatives remained unrealized. But consumers continued to open their wallets and unemployment dropped.

Those developments most likely played a large part in the Fed’s decision to again raise rates in March and June, pushing its target range up to 1%–1.25%. Along with

the establishment of a framework for trimming its $4.5 trillion balance sheet, those moves took the Fed closer to normalizing monetary policy after its emergency intervention in the wake of the Great Recession.

Despite those positive developments, disappointing inflation measures confounded some market outlooks. Annualized core inflation softened a little during the spring. In response, the Fed scaled back its 2017 forecast but still expected inflation to move closer to its 2% target over the medium term. Further tightening in the labor market should help, although wage gains have been small.

Abroad, many countries posted decent growth, but major central banks such as the Bank of Japan, the Bank of England, and the European Central Bank remained in accommodative policy mode as they struggled to balance growth and inflation concerns. Even with a weaker U.S. dollar, comparatively low yields in many developed markets kept U.S. bonds attractive to international investors.

The period concluded on an uncertain note, as investor optimism waned but the economy was stable. Complicating things was an escalated discussion of a possible U.S. government shutdown over the debt ceiling. Because the Fed’s rate moves were telegraphed in advance, the market responded with a measured increase in short-term rates. But the unexpected debt ceiling debate led to a sell-off in short-term

6


 

bonds, which caused their yields to spike at the end of the fund’s fiscal year. As the period closed, legislative action on this front was pushed off till later in the year.

The 2-year yield jumped 72 basis points to 1.29%. On the longer end of the curve, the yield on the 10-year Treasury note increased 74 basis points to 2.33%, and the 30-year yield rose 54 basis points to 2.86%.

Management of the fund

Entering the period, we believed consumer prices would rise at a faster rate than the market expected and we increased the fund’s exposure to Treasury Inflation-Protected Securities (TIPS). These securities, which are not part of the benchmark index, are designed to appreciate in value as inflation rises. Factors that supported our inflation outlook included a tightening labor market causing an uptick in wages, an increase in the price of oil and other commodities, and the prospect of fiscal stimulus.

That position worked in the fund’s favor until spring, when unexpectedly weak inflation caused TIPS to give back some of their gains. Recent readings were more in line with our expectations as the period closed, providing an upward lift in TIPs and allowing us to trim positions as we became more neutral on valuations in the short term.

The spreads in yields between corporate bonds and Treasuries continued to narrow, providing a favorable environment for

generating excess yield without greater risk. Our tilt toward BBB-rated bonds, which are still considered investment-grade, was positive. In particular, overweighted allocations to U.S. financial institutions and select property and casualty bonds worked well, as did an underweighting of European financials. Our competitors were more aggressive with this trade, which explains some of our relative underperformance.

We were also underweighted in industrials, and we made tactical trades in energy as volatility in that sector allowed us to be opportunistic. These moves provided small gains.

Our asset-backed securities positions posted decent results. Mortgage-backed securities (MBS) contributed, as did bonds focused on automobile dealer financing.

Outlook

Absent any external shocks, the U.S. economy is set to continue on its trajectory of modest but steady growth, with real GDP expanding by about 2% for 2017. The pace could pick up a little next year depending on the timing and size of any fiscal stimulus the government may enact.

We agree with the Fed’s assessment that the recent disinflation is transitory and that consumer prices will gradually rise through 2019. The Fed is likely to remain patient and cautious, however, in carrying out monetary tightening. Some officials have indicated they would favor waiting for inflation to reach or modestly exceed 2%

7


 

for some time before moving to raise rates more quickly. That could mean we won’t see another rate hike until the second half of 2018, especially if the Fed begins reducing its balance sheet later this year.

We continue to monitor developments concerning the debt ceiling debate and fiscal stimulus. In particular, we will watch how the Fed tapers its balance sheet, including its MBS holdings, which have benefited from stability in interest rates.

Portfolio Managers:

Brian W. Quigley

Gemma Wright-Casparius, Principal

Gregory S. Nassour, CFA, Principal

Vanguard Fixed Income Group

October 19, 2017

8


 

Core Bond Fund

Fund Profile
As of September 30, 2017

Share-Class Characteristics    
  Investor Admiral
  Shares Shares
Ticker Symbol VCORX VCOBX
Expense Ratio1 0.25% 0.15%
30-Day SEC Yield 2.18% 2.28%

 

Financial Attributes    
 
    Bloomberg
    Barclays U.S.
    Aggregate
    Float Adjusted
  Fund Index
 
Number of Bonds 885 9,460
 
Yield to Maturity    
(before expenses) 2.7% 2.5%
 
Average Coupon 2.7% 3.0%
 
Average Duration 6.1 years 6.1 years
 
Average Effective    
Maturity 7.1 years 8.3 years
 
Short-Term    
Reserves 5.3%

 

Sector Diversification (% of portfolio)  
Asset-Backed 3.7%
Commercial Mortgage-Backed 3.7
Finance 11.7
Foreign 3.5
Government Mortgage-Backed 22.7
Industrial 13.7
Treasury/Agency 38.7
Utilities 2.2
Other 0.1

The agency and mortgage-backed securities sectors may include
issues from government-sponsored enterprises; such issues are
generally not backed by the full faith and credit of the U.S.
government.

 

Distribution by Effective Maturity  
(% of portfolio)  
Under 1 Year 2.5%
1 - 3 Years 22.9
3 - 5 Years 19.9
5 - 7 Years 20.1
7 - 10 Years 23.2
10 - 20 Years 3.9
20 - 30 Years 7.3
Over 30 Years 0.2

 

Distribution by Credit Quality (% of portfolio)
U.S. Government 55.8%
Aaa 5.7
Aa 3.1
A 10.2
Baa 18.4
Ba 0.8
B 0.1
Not Rated 5.9

Credit-quality ratings are obtained from Moody's and S&P, and the higher rating for each issue is shown. "Not Rated" is used to classify securities for which a rating is not available. Not rated securities include a fund's investment in Vanguard Market Liquidity Fund or Vanguard Municipal Cash Management Fund, each of which invests in high-quality money market instruments and may serve as a cash management vehicle for the Vanguard funds, trusts, and accounts. For more information about these ratings, see the Glossary entry for Credit Quality.

Investment Focus


1 The expense ratios shown are from the prospectus dated January 26, 2017, and represent estimated costs for the current fiscal year. For the fiscal year ended September 30, 2017, the expense ratios were 0.25% for Investor Shares and 0.15% for Admiral Shares.

9


 

Core Bond Fund

Performance Summary

All of the returns in this report represent past performance, which is not a guarantee of future results that may be achieved by the fund. (Current performance may be lower or higher than the performance data cited. For performance data current to the most recent month-end, visit our website at vanguard.com/performance.) Note, too, that both investment returns and principal value can fluctuate widely, so an investor’s shares, when sold, could be worth more or less than their original cost. The returns shown do not reflect taxes that a shareholder would pay on fund distributions or on the sale of fund shares.

Cumulative Performance: March 28, 2016, Through September 30, 2017
Initial Investment of $10,000


    Average Annual Total Returns  
    Periods Ended September 30, 2017  
      Since Final Value
    One Inception of a $10,000
    Year (3/28/2016) Investment
  Core Bond Fund Investor Shares 0.03% 2.38% $10,360
  Bloomberg Barclays U.S.      
• • • • • • • •        
 
  Aggregate Float Adjusted Index 0.06 2.22 10,336
  Core Bond Funds Average 0.44 2.63 10,400

Core Bond Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company.

"Since Inception" performance is calculated from the Investor Shares’ inception date for both the fund and its comparative standards.

 

    Since Final Value
  One Inception of a $50,000
  Year (3/28/2016) Investment
 
Core Bond Fund Admiral Shares 0.10% 2.49% $51,890
Bloomberg Barclays U.S. Aggregate Float      
Adjusted Index 0.06 2.22 51,682

 

"Since Inception" performance is calculated from the Admiral Shares’ inception date for both the fund and its comparative standards.

See Financial Highlights for dividend and capital gains information.

10


 

Core Bond Fund

Fiscal-Year Total Returns (%): March 28, 2016, Through September 30, 2017  
 
        Bloomberg
        Barclays U.S.
        Aggregate
        Float Adjusted
      Investor Shares Index
Fiscal Year Income Returns Capital Returns Total Returns Total Returns
2016 0.97% 2.60% 3.57% 3.31%
2017 1.96 -1.93 0.03 0.06

 

11


 

Core Bond Fund

Financial Statements

Statement of Net Assets
As of September 30, 2017

The fund reports a complete list of its holdings in regulatory filings four times in each fiscal year, at the quarter-ends. For the second and fourth fiscal quarters, the lists appear in the fund’s semiannual and annual reports to shareholders. For the first and third fiscal quarters, the fund files the lists with the Securities and Exchange Commission on Form N-Q. Shareholders can look up the fund’s Forms N-Q on the SEC’s website at sec.gov. Forms N-Q may also be reviewed and copied at the SEC’s Public Reference Room (see the back cover of this report for further information).

      Face Market
    Maturity Amount Value
  Coupon Date ($000) ($000)
U. S. Government and Agency Obligations (61.1%)      
U. S. Government Securities (30.1%)        
United States Treasury Inflation Indexed Bonds 0.125% 4/15/18 9,120 9,661
United States Treasury Inflation Indexed Bonds 0.375% 1/15/27 9,796 9,800
United States Treasury Inflation Indexed Bonds 1.000% 2/15/46 460 481
United States Treasury Inflation Indexed Bonds 0.875% 2/15/47 800 798
United States Treasury Note/Bond 0.875% 5/31/18 50 50
United States Treasury Note/Bond 2.250% 7/31/18 44 44
United States Treasury Note/Bond 1.375% 9/30/18 33,000 33,000
United States Treasury Note/Bond 1.000% 11/30/18 3,800 3,783
United States Treasury Note/Bond 1.125% 2/28/19 3,800 3,785
United States Treasury Note/Bond 1.500% 2/28/19 1,200 1,201
United States Treasury Note/Bond 1.250% 3/31/19 11,100 11,071
United States Treasury Note/Bond 1.625% 3/31/19 1,700 1,705
United States Treasury Note/Bond 0.875% 4/15/19 150 149
United States Treasury Note/Bond 1.250% 4/30/19 600 598
United States Treasury Note/Bond 1.625% 6/30/19 2,250 2,256
United States Treasury Note/Bond 1.000% 10/15/19 5,000 4,950
United States Treasury Note/Bond 1.000% 11/30/19 1,700 1,682
United States Treasury Note/Bond 1.500% 11/30/19 2,500 2,499
United States Treasury Note/Bond 1.375% 12/15/19 600 598
United States Treasury Note/Bond 1.375% 1/15/20 2,500 2,491
United States Treasury Note/Bond 1.625% 3/15/20 5,200 5,207
United States Treasury Note/Bond 1.125% 3/31/20 2,500 2,473
United States Treasury Note/Bond 1.375% 3/31/20 2,200 2,189
United States Treasury Note/Bond 1.500% 4/15/20 13,250 13,225
United States Treasury Note/Bond 1.500% 6/15/20 9,000 8,978
United States Treasury Note/Bond 1.625% 6/30/20 2,000 2,001
United States Treasury Note/Bond 1.500% 7/15/20 5,650 5,634
United States Treasury Note/Bond 1.625% 7/31/20 5,000 5,002
United States Treasury Note/Bond 1.375% 8/31/20 1,025 1,018
United States Treasury Note/Bond 1.375% 10/31/20 650 645
United States Treasury Note/Bond 1.750% 10/31/20 3,900 3,911
United States Treasury Note/Bond 1.625% 11/30/20 650 649
United States Treasury Note/Bond 2.000% 11/30/20 1,000 1,010
United States Treasury Note/Bond 1.750% 12/31/20 1,586 1,589
United States Treasury Note/Bond 1.375% 1/31/21 2,400 2,374
United States Treasury Note/Bond 2.125% 1/31/21 700 710

 

12