Vanguard Total Bond Market Index Fund

Transcription

1 Annual Report December 31, 201 Vanguard Total Bond Index Fund

2 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 Total Returns Chairman s Letter Fund Profile Performance Summary Financial Statements About Your Fund s Expenses Glossary 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: Pictured is a sailing block on the Brilliant, a 1932 schooner docked in Mystic, Connecticut. A type of pulley, the sailing block helps coordinate the setting of the sails. At Vanguard, the intricate coordination of technology and people allows us to help millions of clients around the world reach their financial goals.

3 Your Fund s Total Returns Fiscal Year Ended December 31, Day SEC Yield Income Returns Capital Returns Total Returns Vanguard Total Bond Index Fund Investor Shares 2.33% 2.32% -2.02% 0.30% ETF Shares 2.44 Price 0.49 Net Asset 0.39 Admiral Shares Institutional Shares Institutional Plus Shares Barclays U.S. Aggregate Float Adjusted Index 0.44 Core Bond Funds Average 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. Institutional Shares and Institutional Plus 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 NYSE Arca exchange and are available only through brokers. The table provides ETF returns based on both the NYSE Arca market price and the net asset value for a share. U.S. Pat. Nos. 6,879,964; 7,337,138; 7,720,749; 7,92,73; 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

4 Dear Shareholder, Chairman s Letter Toward the close of 201, the Federal Reserve took the long-awaited step of raising its target for overnight interest rates, which had hovered near zero since the Great Recession. Its vote of confidence in the U.S. economy s resiliency helped short-term bond yields finish higher than where they started for the fiscal year ended December 31, 201. The upward movement of intermediateand long-term yields, however, was more muted given the fragile state of global growth and the subdued outlook for inflation. With yields rising, bond prices adjusted downward, as the two move in opposite directions. Vanguard Total Bond Index Fund returned 0.30% for the fiscal year as the decline in the prices of its bond holdings offset much of the income they earned. (All returns and yields cited in this letter are for the fund s Investor Shares.) The fund s result was not far off the 0.44% return of its expense-free benchmark, the Barclays U.S. Aggregate Float Adjusted Index, which consists primarily of U.S. Treasuries and agency bonds, government mortgage-backed securities, and investment-grade corporate bonds. The fund placed ahead of the average return of 0.11% for its peer group. With yields rising, the fund s 30-day SEC yield was 2.33% on December 31, up from 1.99% a year earlier. 2

5 A strong U.S. dollar depressed international bond returns International bond markets (as measured by the Barclays Global Aggregate Index ex USD) returned 6.02% for the 12 months, reduced by the dollar s strength against many foreign currencies. Without this currency effect, returns were modestly positive. Although the Fed raised its interest rate target in mid-december to 0.2% 0.%, returns for money market funds and savings accounts remained limited by the 0% 0.2% level that had previously been in place for seven years. Despite troubles, U.S. stocks eked out a seventh year of gains U.S. stocks returned 0.48% for the 12 months. Although the broad market recorded its worst performance since 2008, it still advanced for the seventh straight year when dividends are factored in. Stocks rose modestly over the first half of the year but slid in August and September as concerns mounted that China s economic slowdown would spread globally. Falling oil and commodity prices also affected economies and markets across the world, for better or worse. Central banks in Europe and Asia bolstered their stimulus efforts against weak growth and low inflation. And the Fed s move in December ended months of uncertainty over its plans. Barometer Average Annual Total Returns Periods Ended December 31, 201 One Year Three Years Five Years Bonds Barclays U.S. Aggregate Bond Index (Broad taxable market) 0.% 1.44% 3.2% Barclays Municipal Bond Index (Broad tax-exempt market) Citigroup Three-Month U.S. Treasury Bill Index Stocks Russell 1000 Index (Large-caps) 0.92% 1.01% 12.44% Russell 2000 Index (Small-caps) Russell 3000 Index (Broad U.S. market) FTSE All-World ex US Index (International) CPI Consumer Price Index 0.73% 1.00% 1.3% 3

6 International stocks returned about %, restrained by the U.S. dollar s strength. Emerging markets fared the worst. Rising bond yields dampened returns over the period As the Fed wound down its third round of stimulative bond-buying toward the end of 2014, speculation turned to when it might begin to raise short-term rates. The economy s rebound from an early 201 slowdown and further improvements in employment were favorable developments. On the other hand, inflation remained worryingly low as oil prices continued to fall. Greece s debt crisis and slowing economic activity in China and other emerging markets may also have contributed to the Fed s holding off on a rate increase until December. Yields ended the fiscal year higher than where they started. The yield of the 2-year U.S. Treasury note, for example, climbed 38 basis points to 1.07%. (A basis point is one-hundredth of a percentage point.) The 10-year Treasury note rose 11 basis points to 2.30%, and longer maturities rose more than that. Although higher interest rates should benefit buy-and-hold bond investors over the long term, their rise over the 12 months pushed bond prices down, especially for longer-dated bonds, which are more sensitive to rate movements. Treasuries about 40% of your fund s assets returned close to 1% as a whole. By maturity, short- and intermediate-term Expense Ratios Your Fund Compared With Its Peer Group Investor Shares ETF Shares Admiral Shares Institutional Shares Institutional Plus Shares Peer Group Average Total Bond Index Fund 0.20% 0.07% 0.07% 0.06% 0.0% 0.83% The fund expense ratios shown are from the prospectus dated April 28, 201, and represent estimated costs for the current fiscal year. For the fiscal year ended December 31, 201, the fund s expense ratios were 0.16% for Investor Shares, 0.06% for ETF Shares, 0.06% for Admiral Shares, 0.0% for Institutional Shares, and 0.04% for Institutional Plus Shares. The peer-group expense ratio is derived from data provided by Lipper, a Thomson Reuters Company, and captures information through year-end Peer group: Core Bond Funds Average. 4

7 Treasuries remained in the black; their long-term counterparts, whose prices depreciated more, returned roughly 1%. Government mortgage-backed securities held up a little better. These high-quality investments benefited from continuing improvements in the housing market and the attractiveness of their yield premium compared with Treasuries of similar maturities. Corporate bonds, however, dipped into negative territory as the income they earned did not fully offset their price declines. The difference, or spread, in their yields versus Treasuries widened, notably in the industrial sector among bonds issued by metals and mining companies and energy producers whose creditworthiness was hurt by falling commodity prices. The spread widened less for bonds issued by financial institutions, as regulatory changes have led to stronger balance sheets overall in that sector. The fund outperformed its peer average by 41 basis points. While it can pay off for actively managed competitors to overweight credit sectors at the expense of Treasuries and mortgage-backed securities, that strategy probably didn t in 201. And with interest rates seesawing, tactical bets about duration would have been challenging to get right as well. Although it s important to keep an eye on how your investments are performing, it s also good not to lose sight of why you hold Total Returns Ten Years Ended December 31, 201 Average Annual Return Total Bond Index Fund Investor Shares 4.36% Spliced Barclays U.S. Aggregate Float Adjusted Index 4.2 Spliced Intermediate Investment-Grade Debt Funds Average 3.93 For a benchmark description, see the Glossary. Spliced Intermediate Investment-Grade Debt 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.

8 them. Bond returns may not be as strong going forward as we have become accustomed to in recent decades, but we believe they will continue to fulfill an important role as a diversifier for equities and other riskier assets you may have in your portfolio. For the last decade, the fund closely tracked its index Every index fund aims to track the performance of its target index. That s actually a taller order than you might think. The index incurs no expenses, so it has a leg up from the start. Bond funds also have the challenge of negotiating prices, as bonds generally aren t traded on central exchanges the way stocks are. Then there s the size of the bond market your fund s benchmark includes more than 9,000 bonds. Owning all of them would be impractical, so your fund s advisor has the challenge of putting together a portfolio with a smaller number of bonds that nevertheless produces benchmark-like returns. Vanguard s outlook for investors: Not bearish, but cautious In Vanguard s recently published global economic and investment outlook, Global Chief Economist Joseph Davis and his team discuss various market and economic events 2016 may bring, along with challenges and opportunities for investors. Our forecast includes frustratingly fragile economic growth and more modest long-term returns from the global stock and bond markets. The report cautions that for the decade ending 202, returns for a balanced portfolio are likely to be moderately below historical averages. Our simulations indicate that the average annualized returns of a 60% equity/40% bond portfolio for the decade are most likely to be centered in the 3% % range after inflation, below the actual average after-inflation return of.% for the same portfolio since Even so, Vanguard s steadfast belief in its principles for investing success focusing on clear goals, a suitable asset allocation, low costs, and long-term discipline remains unchanged. For more information about our expectations and the probability of various outcomes, see Vanguard s Economic and Investment Outlook, available at vanguard.com/research. 6 IMPORTANT: The projections or other information generated by the Vanguard Capital s Model (VCMM) regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual invest ment results, and are not guarantees of future results. Distribution of return outcomes from VCMM, derived from 10,000 simulations for U.S. equity returns and fixed income returns. Simulations as of September 30, 201. Results from the model may vary with each use and over time. For more information, please see page 7.

9 The indexing skills of the fund s advisor as well as its low expense ratio helped the fund post an average annual return of 4.36% for the decade ended December 31, 201, a result not far behind the 4.2% return of its benchmark. Its peer average over the period was 3.93%. To reach your long-term goals, be realistic and try to save more Although there have been times when it felt as if stocks and bonds were riding a roller coaster, the markets have generally risen in recent years. The broad global stock market in particular has posted some impressive gains since its turnaround began in But 201 served as a reminder that markets aren t always favorable. The U.S. stock and bond markets were basically flat, and international stocks and unhedged bonds finished in the red. In Vanguard s recently updated long-term look at the economy and markets, our global economists explain why they expect economic growth to remain frustratingly fragile, and why their outlook for stock and bond markets is the most guarded since (For more details, see the box on page 6 and Vanguard s Economic and Investment Outlook, available at vanguard.com/research.) Given these muted expectations, what s the best course of action? I ve often encouraged shareholders to focus on the things they can control. That advice holds true today. Consider saving more than you think you may need. That s one way you can prepare for the volatility that may lie ahead, particularly as markets adjust to changes in policies from the Fed and other central banks. IMPORTANT: The projections or other information generated by the Vanguard Capital s Model (VCMM) regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual invest ment results, and are not guarantees of future results. VCMM results will vary with each use and over time. The VCMM projections are based on a statistical analysis of historical data. Future returns may behave differently from the historical patterns captured in the VCMM. More important, the VCMM may be underestimating extreme negative scenarios unobserved in the historical period on which the model estimation is based. The VCMM is a proprietary financial simulation tool developed and maintained by Vanguard s primary investment research and advice teams. The model forecasts distributions of future returns for a wide array of broad asset classes. Those asset classes include U.S. and international equity markets, several maturities of the U.S. Treasury and corporate fixed income markets, international fixed income markets, U.S. money markets, commodities, and certain alternative investment strategies. The theoretical and empirical foundation for the VCMM is that the returns of various asset classes reflect the compensation investors require for bearing different types of systematic risk (beta). At the core of the model are estimates of the dynamic statistical relationship between risk factors and asset returns, obtained from statistical analysis based on available monthly financial and economic data from as early as Using a system of estimated equations, the model then applies a Monte Carlo simulation method to project the estimated interrelationships among risk factors and asset classes as well as uncertainty and randomness over time. The model generates a large set of simulated outcomes for each asset class over several time horizons. Forecasts are obtained by computing measures of central tendency in these simulations. Results produced by the tool will vary with each use and over time. 7

10 And, as always, investors would be well-served to follow Vanguard s principles for investing success: Goals. Create clear, appropriate investment goals. Balance. Develop a suitable asset allocation using broadly diversified funds. As with saving, each of these principles is within your control, and focusing on them can keep you on the right path. As always, thank you for investing with Vanguard. Sincerely, Cost. Minimize cost. Discipline. Maintain perspective and long-term discipline. F. William McNabb III Chairman and Chief Executive Officer January 19,

11 Your Fund s Performance at a Glance December 31, 2014, Through December 31, 201 Starting Share Price Ending Share Price Distributions Per Share Income Dividends Capital Gains Vanguard Total Bond Index Fund Investor Shares $10.87 $10.64 $0.24 $0.010 ETF Shares Admiral Shares Institutional Shares Institutional Plus Shares

12 Total Bond Index Fund Fund Profile As of December 31, 201 Share-Class Characteristics Investor Shares ETF Shares Admiral Shares Institutional Shares Institutional Plus Shares Ticker Symbol VBMFX BND VBTLX VBTIX VBMPX Expense Ratio1 0.20% 0.07% 0.07% 0.06% 0.0% 30-Day SEC Yield 2.33% 2.44% 2.44% 2.4% 2.46% Financial Attributes Barclays Aggregate Float Adj Fund Index Number of Bonds 7,860 9,681 Yield to (before expenses) 2.6% 2.6% Average 3.2% 3.1% Average Duration.8 years.8 years Average Effective 8.0 years 7.9 years Short-Term Reserves 0.8% Sector Diversification (% of portfolio) Asset-Backed 0.7% Commercial Mortgage-Backed 2.1 Finance 8.6 Foreign 6.0 Government Mortgage-Backed 20.9 Industrial 16.3 Treasury/Agency 43.1 Utilities 2.0 Other 0.3 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. Volatility Measures Barclays Aggregate Float Adj Index R-Squared 0.99 Beta 1.02 These measures show the degree and timing of the fund s fluctuations compared with the index over 36 months. Distribution by Credit Quality (% of portfolio) U.S. Government 64.1% Aaa.6 Aa 4.0 A 11.7 Baa 14.6 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. Not rated securities include a fund's investment in Vanguard 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. Distribution by Effective (% of portfolio) Under 1 Year 0.8% 1-3 Years Years Years Years Years 11.7 Over 30 Years 0. 1 The expense ratios shown are from the prospectus dated April 28, 201, and represent estimated costs for the current fiscal year. For the fiscal year ended December 31, 201, the expense ratios were 0.16% for Investor Shares, 0.06% for ETF Shares, 0.06% for Admiral Shares, 0.0% for Institutional Shares, and 0.04% for Institutional Plus Shares. 10

13 Total Bond Index Fund Investment Focus Average Short Med. Long Credit Quality Treasury/ Agency Investment-Grade Corporate Below Investment-Grade 11

14 Total Bond 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: December 31, 200, Through December 31, 201 Initial Investment of $10,000 $18,000 1, ,000 Average Annual Total Returns Periods Ended December 31, 201 One Year Five Years Ten Years Final of a $10,000 Investment Total Bond Index Fund Investor Shares 0.30% 3.02% 4.36% $1,319 Spliced Barclays U.S. Aggregate Float Adjusted Index ,9 Spliced Intermediate Investment-Grade Debt Funds Average ,701 For a benchmark description, see the Glossary. Spliced Intermediate Investment-Grade Debt Funds Average: Derived from data provided by Lipper, a Thomson Reuters Company. One Year Five Years Since Inception (4/3/2007) Final of a $10,000 Investment Total Bond Index Fund ETF Shares Net Asset 0.39% 3.13% 4.43% $14,610 Spliced Barclays U.S. Aggregate Float Adjusted Index ,694 "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. 12

15 Total Bond Index Fund One Year Average Annual Total Returns Periods Ended December 31, 201 Five Years Ten Years Final of a $10,000 Investment Total Bond Index Fund Admiral Shares 0.40% 3.13% 4.47% $1,481 Spliced Barclays U.S. Aggregate Float Adjusted Index ,9 One Year Five Years Ten Years Final of a $,000,000 Investment Total Bond Index Fund Institutional Shares 0.41% 3.1% 4.0% $7,762,737 Spliced Barclays U.S. Aggregate Float Adjusted Index ,779,479 One Year Five Years Ten Years Final of a $100,000,000 Investment Total Bond Index Fund Institutional Plus Shares 0.42% 3.17% 4.1% $1,40,17 Spliced Barclays U.S. Aggregate Float Adjusted Index ,89,89 The creation of the Institutional Plus Shares occurred on February, 2010, when Vanguard Total Bond Index Fund acquired the net assets of Vanguard Institutional Total Bond Index Fund. For the periods ended December 31, 201, the returns and other data shown in the table above reflect a blend of historical performance of the fund s Institutional Shares prior to February, 2010, and of the Institutional Plus Shares from then on. Cumulative Returns of ETF Shares: April 3, 2007, Through December 31, 201 One Year Five Years Since Inception (4/3/2007) Total Bond Index Fund ETF Shares Price 0.49% 16.80% 46.28% Total Bond Index Fund ETF Shares Net Asset Spliced Barclays U.S. Aggregate Float Adjusted Index "Since Inception" performance is calculated from the ETF Shares inception date for both the fund and its comparative standards. 13

16 Total Bond Index Fund Fiscal-Year Total Returns (%): December 31, 200, Through December 31, 201 Spliced Barclays Aggregate Investor Shares FA Index Fiscal Year Income Returns Capital Returns Total Returns Total Returns % -0.70% 4.27% 4.33% For a benchmark description, see the Glossary. 14

17 Total Bond Index Fund Financial Statements Statement of Net Assets Investments Summary As of December 31, 201 This Statement summarizes the fund s holdings by asset type. Details are reported for each of the fund s 0 largest individual holdings and for investments that, in total for any issuer, represent more than 1% of the fund s net assets. The total value of smaller holdings is reported as a single amount within each category. 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 complete listing of the fund s holdings is available electronically on vanguard.com and on the Securities and Exchange Commission s website (sec.gov), or you can have it mailed to you without charge by calling For the first and third fiscal quarters, the fund files the lists with the SEC on Form N-Q. Shareholders can look up the fund s Forms N-Q on the SEC s website. 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). Percentage of Net Assets U.S. Government and Agency Obligations U.S. Government Securities United States Treasury Note/Bond 2.20% 11/1/2 879, ,91 0.6% United States Treasury Note/Bond 2.12% /1/2 841, , % United States Treasury Note/Bond 1.000% 9/1/18 808,88 803,320 0.% United States Treasury Note/Bond 3.62% 8/1/19 73, ,268 0.% United States Treasury Note/Bond 4.70% 8/1/17 641,70 680,406 0.% United States Treasury Note/Bond 2.00% /1/24 67, ,004 0.% United States Treasury Note/Bond 1.70% /1/23 671,148 63, % United States Treasury Note/Bond 1.70% 12/31/20 61,10 60, % United States Treasury Note/Bond 1.000% /31/18 62, , % United States Treasury Note/Bond 3.00% /1/20 601,00 646, % United States Treasury Note/Bond 3.37% 11/1/19 78,48 617, % United States Treasury Note/Bond 1.20% 11/1/18 61,7 614,97 0.4% United States Treasury Note/Bond 0.87% 11/1/17 604, , % United States Treasury Note/Bond 2.20% 11/1/24 600, , % United States Treasury Note/Bond 1.00% 8/31/18 78,77 82, % United States Treasury Note/Bond 1.20% 1/31/20 86,21 77, % United States Treasury Note/Bond 2.00% 6/30/17 9,39 71, % United States Treasury Note/Bond 1.000% 3/1/18 68,068 66, % United States Treasury Note/Bond 0.87% 4/1/17 6,82 6, % United States Treasury Note/Bond 1.70% 2/28/22 48,37 40, % United States Treasury Note/Bond 2.00% 8/1/23 26,78 40, % United States Treasury Note/Bond 2.62% 11/1/20 16,99 36, % United States Treasury Note/Bond 2.70% 11/1/42 46,619 20,67 0.4% United States Treasury Note/Bond 3.62% 2/1/20 477,63 1, % United States Treasury Note/Bond 2.000% 8/1/2 28,32 14,93 0.3% United States Treasury Note/Bond 1.00% 10/31/19 0,710 04, % United States Treasury Note/Bond 0.87% 1/31/18 06,300 03,80 0.3% United States Treasury Note/Bond 1.00% 11/30/19 03,10 01, % United States Treasury Note/Bond 0.87% 8/1/17 498,64 497,3 0.3% United States Treasury Note/Bond 2.70% 2/1/24 49, , % United States Treasury Note/Bond 3.000% /1/4 479,43 476, % 1

18 Total Bond Index Fund Percentage of Net Assets United States Treasury Note/Bond 1.000% 9/1/17 473, ,79 0.3% United States Treasury Note/Bond 0.62% 11/30/17 474,86 471, % United States Treasury Note/Bond 2.37% 8/1/24 4,390 49, % United States Treasury Note/Bond 0.70% 3/1/17 4,800 4,17 0.3% United States Treasury Note/Bond 3.62% 2/1/44 401,117 40,67 0.3% United States Treasury Note/Bond 2.70% 2/28/18 428, , % United States Treasury Note/Bond 0.87% 7/1/18 443,19 439, % United States Treasury Note/Bond 2.70% 11/1/23 419, , % United States Treasury Note/Bond 2.70% 8/1/42 46,81 436, % United States Treasury Note/Bond 2.000% 2/28/21 426,88 430, % United States Treasury Note/Bond 3.12% /1/19 401, ,44 0.3% United States Treasury Note/Bond 3.12% /1/21 391, ,72 0.3% United States Treasury Note/Bond 3.62% 2/1/21 381,842 41, % United States Treasury Note/Bond 0.87% 10/1/17 413,33 412, % United States Treasury Note/Bond 2.37% 6/30/18 394,8 406,11 0.3% United States Treasury Note/Bond 2.87% 8/1/4 411, ,90 0.3% United States Treasury Note/Bond 2.87% /1/43 408, ,20 0.3% United States Treasury Note/Bond 6.20% 8/1/23 308, ,80 0.3% 1 United States Treasury Note/Bond 0.00% 9.12% 1/31/17 11/1/4 31,171,44 32,337, % 8,773, % Agency Bonds and Notes 2 Federal Home Loan Mortgage Corp % 6.70% 1/27/17 7/1/32 1,232,989 1,276, % 2,3 Federal National Mortgage Assn % 7.20% 1/30/17 7/1/37 1,73,177 1,816,41 1.2% Agency Bonds and Notes Other 1,339, % 4,431, % Conventional Mortgage-Backed Securities 2,3,4 Fannie Mae Pool 2.000% % 3/1/16 1/1/46 12,241,37 12,869, % 2,3,4 Freddie Mac Gold Pool 2.000% % 1/1/16 1/1/46 7,689,707 8,03,69.4% 2,3 Freddie Mac Non Gold Pool 8.000% 9.00% 2/1/17 3/1/ % 3 Ginnie Mae I Pool 3.000% 10.00% /1/16 2/1/46 1,973,024 2,116, % 3,4 Ginnie Mae II Pool 3.00% 1/1/46 1,369,430 1,427, % 3,4 Ginnie Mae II Pool 2.00% 8.00% 4/20/18 1/1/46,728,199 6,04, % 30,21, % Nonconventional Mortgage-Backed Securities 2,3, Fannie Mae Pool 1.91% 6.076% 11/1/32 12/1/43 274,491 28, % 2,3, Freddie Mac Non Gold Pool 1.73% 6.27% 4/1/33 11/1/43 79,283 83, % 3, Ginnie Mae II Pool 1.62% 4.000% 6/20/29 1/20/44 90,318 93, % 461,33 0.3% Total U.S. Government and Agency Obligations (Cost $93,209,666) 94,188, % 6Asset-Backed/Commercial Mortgage-Backed Securities (Cost $4,240,763) 4,277, % Corporate Bonds Finance 6 Banking 8,812, % 6 Brokerage 3, % 6 Finance Companies 666, % Insurance 1,873, % Other Finance 20, % 6 Real Estate Investment Trusts 990, % 12,719,83 8.6% 16

19 Total Bond Index Fund Percentage of Net Assets Industrial 6 Basic Industry 1,86,78 1.1% 6 Capital Goods 2,063,30 1.4% 6 Communication 3,900, % 6 Consumer Cyclical 3,013, % 6 Consumer Noncyclical,792,91 3.9% 6 Energy 3,880, % Other Industrial 121,4 0.1% 6 Technology 2,01,80 1.7% 6 Transportation 900,70 0.6% 23,761, % Utilities 6 Electric 2,734, % Natural Gas 198, % Other Utility 41,33 0.0% 2,974, % Total Corporate Bonds (Cost $39,6,690) 39,46, % 6Sovereign Bonds (U.S. Dollar-Denominated) (Cost $7,441,17) 7,389,63.0% Taxable Municipal Bonds (Cost $1,277,38) 1,413, % Shares Temporary Cash Investment Money Fund 7 Vanguard Liquidity Fund (Cost $3,1,027) 0.363% 3,1,027,040 3,1, % Total Investments (Cost $148,889,841) 149,880, % Other Assets and Liabilities Other Assets Investment in Vanguard 12,843 Receivables for Investment Securities Sold 1,923,983 Receivables for Accrued Income 991,18 Receivables for Capital Shares Issued 392,307 Other Assets 29,486 Total Other Assets 3,349, % Liabilities Payables for Investment Securities Purchased (4,860,81) Payables for Capital Shares Redeemed (348,417) Payables for Distributions (17,741) Payables to Vanguard (81,373) Other Liabilities (44,033) Total Liabilities (,32,379) (3.6%) Net Assets 147,878, % 17

20 Total Bond Index Fund At December 31, 201, net assets consisted of: Paid-in Capital 146,946,719 Overdistributed Net Investment Income (,948) Accumulated Net Realized Losses (3,0) Unrealized Appreciation (Depreciation) 990,969 Net Assets 147,878,23 Investor Shares Net Assets Applicable to 604,691,313 outstanding $.001 par value shares of beneficial interest (unlimited authorization) 6,434,097 Net Asset Per Share Investor Shares $10.64 ETF Shares Net Assets Applicable to 338,23,018 outstanding $.001 par value shares of beneficial interest (unlimited authorization) 27,279,077 Net Asset Per Share ETF Shares $80.8 Admiral Shares Net Assets Applicable to,712,401,400 outstanding $.001 par value shares of beneficial interest (unlimited authorization) 60,782,744 Net Asset Per Share Admiral Shares $10.64 Institutional Shares Net Assets Applicable to 2,734,367,66 outstanding $.001 par value shares of beneficial interest (unlimited authorization) 29,09,002 Net Asset Per Share Institutional Shares $10.64 Institutional Plus Shares Net Assets Applicable to 2,282,14,3 outstanding $.001 par value shares of beneficial interest (unlimited authorization) 24,287,31 Net Asset Per Share Institutional Plus Shares $ See Note A in Notes to Financial Statements. Represents the aggregate value, by category, of securities that are not among the 0 largest holdings and, in total for any issuer, represent 1% or less of net assets. 1 Securities with a value of $3,919,000 have been segregated as collateral for certain open To Be Announced (TBA) transactions. 2 The issuer was placed under federal conservatorship in September 2008; since that time, its daily operations have been managed by the Federal Housing Finance Agency and it receives capital from the U.S. Treasury, as needed to maintain a positive net worth, in exchange for senior preferred stock. 3 The average or expected maturity is shorter than the final maturity shown because of the possibility of interim principal payments and prepayments or the possibility of the issue being called. 4 Includes securities purchased on a when-issued or delayed-delivery basis for which the fund has not taken delivery as of December 31, 201. Adjustable-rate security. 6 Certain of the fund s securities are exempt from registration under Rule 144A of the Securities Act of Such securities may be sold in transactions exempt from registration, normally to qualified institutional buyers. At December 31, 201, the aggregate value of these securities was $1,217,171,000, representing 0.8% of net assets. 7 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.

21 Total Bond Index Fund Statement of Operations Year Ended December 31, 201 Investment Income Income Interest 1 3,60,776 Total Income 3,60,776 Expenses The Vanguard Group Note B Investment Advisory Services 3,64 Management and Administrative Investor Shares 9,020 Management and Administrative ETF Shares 11,103 Management and Administrative Admiral Shares 2,41 Management and Administrative Institutional Shares 10,283 Management and Administrative Institutional Plus Shares 6,692 ing and Distribution Investor Shares 1,8 ing and Distribution ETF Shares 3,072 ing and Distribution Admiral Shares 6,14 ing and Distribution Institutional Shares 2,249 ing and Distribution Institutional Plus Shares 1,462 Custodian Fees 1,469 Auditing Fees 0 Shareholders Reports Investor Shares 86 Shareholders Reports ETF Shares 87 Shareholders Reports Admiral Shares 240 Shareholders Reports Institutional Shares 202 Shareholders Reports Institutional Plus Shares 117 Trustees Fees and Expenses 99 Total Expenses 83,926 Net Investment Income 3,21,80 Realized Net Gain (Loss) Investment Securities Sold 328,808 Futures Contracts 8 Realized Net Gain (Loss) 328,866 Change in Unrealized Appreciation (Depreciation) of Investment Securities (3,394,903) Net Increase (Decrease) in Net Assets Resulting from Operations 4,813 1 Interest income from an affiliated company of the fund was $10,72,000. See accompanying Notes, which are an integral part of the Financial Statements. 19

22 Total Bond Index Fund Statement of Changes in Net Assets Year Ended December 31, Increase (Decrease) in Net Assets Operations Net Investment Income 3,21,80 3,060,202 Realized Net Gain (Loss) 328, ,381 Change in Unrealized Appreciation (Depreciation) (3,394,903) 2,997,24 Net Increase (Decrease) in Net Assets Resulting from Operations 4,813 6,79,828 Distributions Net Investment Income Investor Shares (160,489) (18,331) ETF Shares (64,327) (39,800) Admiral Shares (1,433,427) (1,067,164) Signal Shares (171,06) Institutional Shares (701,366) (8,00) Institutional Plus Shares (78,189) (11,31) Realized Capital Gain 1 Investor Shares (6,430) (18,976) ETF Shares (26,02) (70,21) Admiral Shares (7,022) (141,76) Signal Shares (936) Institutional Shares (27,82) (70,829) Institutional Plus Shares (22,8) (8,07) Total Distributions (3,667,739) (3,420,980) Capital Share Transactions Investor Shares (489,06) (1,090,288) ETF Shares 1,833,104 7,840,682 Admiral Shares 7,902,13 19,668,322 Signal Shares (10,49,767) Institutional Shares 2,623,890 6,264,46 Institutional Plus Shares 2,47,427 3,084,978 Net Increase (Decrease) from Capital Share Transactions 14,417,00 2,218,392 Total Increase (Decrease) 11,20,74 28,7,240 Net Assets Beginning of Period 136,672, ,11,421 End of Period 2 147,878,23 136,672,661 1 Includes fiscal 201 and 2014 short-term gain distributions totaling $19,617,000 and $162,608,000, respectively. Short-term gain distributions are treated as ordinary income dividends for tax purposes. 2 Net Assets End of Period includes undistributed (overdistributed) net investment income of ($,948,000) and $0. 20 See accompanying Notes, which are an integral part of the Financial Statements.

23 Total Bond Index Fund Financial Highlights Investor Shares For a Share Outstanding Year Ended December 31, Throughout Each Period Net Asset, Beginning of Period $10.87 $10.6 $11.09 $11.00 $10.60 Investment Operations Net Investment Income Net Realized and Unrealized Gain (Loss) on Investments (.219).339 (.04) Total from Investment Operations (.248) Distributions Dividends from Net Investment Income (.24) (.264) (.26) (.28) (.337) Distributions from Realized Capital Gains (.010) (.029) (.026) (.066) (.01) Total Distributions (.264) (.293) (.282) (.31) (.388) Net Asset, End of Period $10.64 $10.87 $10.6 $11.09 $11.00 Total Return %.76% -2.26% 4.0% 7.6% Ratios/Supplemental Data Net Assets, End of Period (Millions) $6,434 $7,076 $7,939 $11,794 $12,84 Ratio of Total Expenses to Average Net Assets 0.16% 0.20% 0.20% 0.20% 0.22% Ratio of Net Investment Income to Average Net Assets 2.34% 2.44% 2.37% 2.% 3.12% Portfolio Turnover Rate 2 84% 3 72% 3 73% 3 80% 3 73% 3 1 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. 2 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. 3 Includes 4%, 38%, 4%, 49%, and 34% attributable to mortgage-dollar-roll activity. See accompanying Notes, which are an integral part of the Financial Statements. 21

24 Total Bond Index Fund Financial Highlights ETF Shares For a Share Outstanding Year Ended December 31, Throughout Each Period Net Asset, Beginning of Period $82.33 $79.91 $83.92 $83.31 $80.21 Investment Operations Net Investment Income Net Realized and Unrealized Gain (Loss) on Investments (1.671) (3.812) Total from Investment Operations (1.781) Distributions Dividends from Net Investment Income (2.001) (2.073) (2.031) (2.222) (2.98) Distributions from Realized Capital Gains (.078) (.221) (.198) (.01) (.387) Total Distributions (2.079) (2.294) (2.229) (2.723) (2.98) Net Asset, End of Period $80.8 $82.33 $79.91 $83.92 $83.31 Total Return 0.39%.96% -2.14% 4.04% 7.71% Ratios/Supplemental Data Net Assets, End of Period (Millions) $27,279 $26,041 $17,637 $17,968 $14,96 Ratio of Total Expenses to Average Net Assets 0.06% 0.07% 0.08% 0.10% 0.10% Ratio of Net Investment Income to Average Net Assets 2.44% 2.7% 2.49% 2.6% 3.24% Portfolio Turnover Rate 1 84% 2 72% 2 73% 2 80% 2 73% 2 1 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. 2 Includes 4%, 38%, 4%, 49%, and 34% attributable to mortgage-dollar-roll activity. 22 See accompanying Notes, which are an integral part of the Financial Statements.

25 Total Bond Index Fund Financial Highlights Admiral Shares For a Share Outstanding Year Ended December 31, Throughout Each Period Net Asset, Beginning of Period $10.87 $10.6 $11.09 $11.00 $10.60 Investment Operations Net Investment Income Net Realized and Unrealized Gain (Loss) on Investments (.219).339 (.04) Total from Investment Operations (.23) Distributions Dividends from Net Investment Income (.264) (.278) (.269) (.296) (.30) Distributions from Realized Capital Gains (.010) (.029) (.026) (.066) (.01) Total Distributions (.274) (.307) (.29) (.362) (.401) Net Asset, End of Period $10.64 $10.87 $10.6 $11.09 $11.00 Total Return %.89% -2.1% 4.1% 7.69% Ratios/Supplemental Data Net Assets, End of Period (Millions) $60,783 $4,198 $33,40 $3,33 $31,366 Ratio of Total Expenses to Average Net Assets 0.06% 0.07% 0.08% 0.10% 0.10% Ratio of Net Investment Income to Average Net Assets 2.44% 2.7% 2.49% 2.6% 3.24% Portfolio Turnover Rate 2 84% 3 72% 3 73% 3 80% 3 73% 3 1 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. 2 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. 3 Includes 4%, 38%, 4%, 49%, and 34% attributable to mortgage-dollar-roll activity. See accompanying Notes, which are an integral part of the Financial Statements. 23

26 Total Bond Index Fund Financial Highlights Institutional Shares For a Share Outstanding Year Ended December 31, Throughout Each Period Net Asset, Beginning of Period $10.87 $10.6 $11.09 $11.00 $10.60 Investment Operations Net Investment Income Net Realized and Unrealized Gain (Loss) on Investments (.219).339 (.04) Total from Investment Operations (.234) Distributions Dividends from Net Investment Income (.266) (.279) (.270) (.299) (.33) Distributions from Realized Capital Gains (.010) (.029) (.026) (.066) (.01) Total Distributions (.276) (.308) (.296) (.36) (.404) Net Asset, End of Period $10.64 $10.87 $10.6 $11.09 $11.00 Total Return 0.41%.91% -2.14% 4.18% 7.72% Ratios/Supplemental Data Net Assets, End of Period (Millions) $29,09 $27,103 $20,206 $22,494 $22,812 Ratio of Total Expenses to Average Net Assets 0.0% 0.06% 0.07% 0.07% 0.07% Ratio of Net Investment Income to Average Net Assets 2.4% 2.8% 2.0% 2.68% 3.27% Portfolio Turnover Rate 1 84% 2 72% 2 73% 2 80% 2 73% 2 1 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. 2 Includes 4%, 38%, 4%, 49%, and 34% attributable to mortgage-dollar-roll activity. 24 See accompanying Notes, which are an integral part of the Financial Statements.

27 Total Bond Index Fund Financial Highlights Institutional Plus Shares For a Share Outstanding Year Ended December 31, Throughout Each Period Net Asset, Beginning of Period $10.87 $10.6 $11.09 $11.00 $10.60 Investment Operations Net Investment Income Net Realized and Unrealized Gain (Loss) on Investments (.219).339 (.04) Total from Investment Operations (.232) Distributions Dividends from Net Investment Income (.267) (.280) (.272) (.301) (.3) Distributions from Realized Capital Gains (.010) (.029) (.026) (.066) (.01) Total Distributions (.277) (.309) (.298) (.367) (.406) Net Asset, End of Period $10.64 $10.87 $10.6 $11.09 $11.00 Total Return 0.42%.92% -2.12% 4.20% 7.74% Ratios/Supplemental Data Net Assets, End of Period (Millions) $24,287 $22,24 $18,607 $16,294 $9,486 Ratio of Total Expenses to Average Net Assets 0.04% 0.0% 0.0% 0.0% 0.0% Ratio of Net Investment Income to Average Net Assets 2.46% 2.9% 2.2% 2.70% 3.29% Portfolio Turnover Rate 1 84% 2 72% 2 73% 2 80% 2 73% 2 1 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. 2 Includes 4%, 38%, 4%, 49%, and 34% attributable to mortgage-dollar-roll activity. See accompanying Notes, which are an integral part of the Financial Statements. 2

28 Total Bond Index Fund Notes to Financial Statements Vanguard Total Bond Index Fund is registered under the Investment Company Act of 1940 as an open-end investment company, or mutual fund. Certain of the fund s investments are in corporate debt instruments; the issuers abilities to meet their obligations may be affected by economic developments in their respective industries. The fund offers five classes of shares: Investor Shares, ETF Shares, Admiral Shares, Institutional Shares, and Institutional Plus Shares. Investor Shares are available to any investor who meets the fund s minimum purchase requirements. ETF Shares are listed for trading on NYSE Arca; they can be purchased and sold through a broker. Admiral Shares, Institutional Shares, and Institutional Plus Shares are designed for investors who meet certain administrative, service, and account-size criteria. Prior to October 24, 2014, the fund offered Signal Shares. Effective at the close of business on October 24, 2014, the Signal Shares were converted to Admiral Shares. 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 acquired over 60 days to maturity, 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. Structured debt securities, including mortgages and asset-backed securities, are valued using the latest bid prices or using valuations based on a matrix system that considers such factors as issuer, tranche, nominal or option-adjusted spreads, weighted average coupon, weighted average maturity, credit enhancements, and collateral. Investments in Vanguard Liquidity Fund are valued at that fund s net asset value. Other temporary cash investments are valued at amortized cost, which approximates market 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 aggregate settlement values 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). 26

29 Total Bond Index Fund During the year ended December 31, 201, the fund s average investments in long and short futures contracts represented 0% and less than 1% of net assets, respectively, based on the average of aggregate settlement values at each quarter-end during the period. The fund had no open futures contracts at December 31, To Be Announced (TBA) Transactions: A TBA transaction is an agreement to buy or sell mortgagebacked securities with agreed-upon characteristics (face amount, coupon, maturity) for settlement at a future date. The fund may be a seller of TBA transactions to reduce its exposure to the mortgagebacked securities market or in order to sell mortgage-backed securities it owns under delayeddelivery arrangements. When the fund is a buyer of TBA transactions, it maintains cash or short-term investments in an amount sufficient to meet the purchase price at the settlement date of the TBA transaction. The primary risk associated with TBA transactions is that a counterparty may default on its obligations. The fund mitigates its counterparty risk by, among other things, performing a credit analysis of counterparties, allocating transactions among numerous counterparties, and monitoring its exposure to each counterparty. The fund may also enter into a Master Securities Forward Transaction Agreement (MSFTA) with certain counterparties and require them to transfer collateral as security for their performance. Under an MSFTA, upon a counterparty default (including bankruptcy), the fund may terminate any TBA transactions with that counterparty, 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. 4. Mortgage Dollar Rolls: The fund enters into mortgage-dollar-roll transactions, in which the fund sells mortgage-backed securities to a dealer and simultaneously agrees to purchase similar securities in the future at a predetermined price. The proceeds of the securities sold in mortgage-dollar-roll transactions are typically invested in high-quality short-term fixed income securities. The fund forgoes principal and interest paid on the securities sold, and is compensated by interest earned on the proceeds of the sale and by a lower price on the securities to be repurchased. The fund has also entered into mortgage-dollar-roll transactions in which the fund buys mortgage-backed securities from a dealer pursuant to a TBA transaction and simultaneously agrees to sell similar securities in the future at a predetermined price. The securities bought in mortgage-dollar-roll transactions are used to cover an open TBA sell position. The fund continues to earn interest on mortgage-backed security pools already held and receives a lower price on the securities to be sold in the future. The fund accounts for mortgage-dollar-roll transactions as purchases and sales; as such, these transactions may increase the fund s portfolio turnover rate. s to be received or paid in connection with open mortgage dollar rolls are included in Receivables for Investment Securities Sold (Other Assets) or Payables for Investment Securities Purchased (Liabilities) in the Statement of Net Assets.. 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 (December 31, ), and has concluded that no provision for federal income tax is required in the fund s financial statements. 6. Distributions: Distributions from net investment income are declared daily by all share classes except ETF Shares, and paid on the first business day of the following month. Monthly income dividends from ETF Shares, and annual distributions from realized capital gains, if any, are recorded on the ex-dividend date. 7. Credit Facility: The fund and certain other funds managed by The Vanguard Group ( Vanguard ) participate in a $3 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, 27