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VANGUARD ADMIRAL FUNDS
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VANGUARD INDEX FUNDS
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VANGUARD FUNDS FILE PRELIMINARY PROXY STATEMENT
WITH SEC TO SEEK SHAREHOLDER APPROVAL OF INVESTMENT POLICY CHANGES
AND ELECT FUND TRUSTEES

VALLEY FORGE, PA, August 26, 2002 - The Vanguard funds today filed a
preliminary proxy statement with the U.S. Securities and Exchange Commission as
the first step in seeking shareholder approval on several investment policy
changes for various funds and election of a board of trustees for all funds.
Among the policy-related proposals:

INVESTING IN OTHER MUTUAL FUNDS. Vanguard is seeking shareholder approval
of a policy change that would enable its funds to invest their cash reserves in
specially created money market and short-term bond funds. This new cash
management program, which is similar to those of other large mutual fund
complexes, should enable the funds to achieve greater diversification and
modestly higher returns on their cash reserves. Currently, the funds pool their
cash reserves and invest jointly in overnight repurchase agreements.

AUTHORIZING CHANGES TO TARGET INDEXES. Vanguard is seeking approval of a
policy change that would authorize the trustees of eight equity index funds to
change target benchmarks if they determined that doing so was in the
shareholders' best interests. Importantly, any new index chosen for a fund would
be required to track the same market segment as the fund's existing index. The
trustees of 19 Vanguard index funds already possess the authority to change
target indexes. This proposal applies to the following Vanguard index funds:

Total Stock Market Index Fund
Extended Market Index Fund
SmallCap Index Fund
Growth Index Fund
Value Index Fund
Mid-Cap Index Fund
SmallCap Growth Index Fund
SmallCap Value Index Fund

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Page 2 of 4

Vanguard has no plans to present this proposal to shareholders of
Vanguard 500 Index Fund or Vanguard Institutional Index Fund, which use as their
target benchmark the S&P 500 Index, a widely recognized index of large-cap U.S.
stocks.

"We regularly evaluate the target benchmarks of our index funds to ensure
that they are constructed appropriately to reflect the performance of a given
market. In addition, we examine other indexes in the marketplace for potential
use as benchmarks for our funds or the development of new funds," said Gus
Sauter, Managing Director, Vanguard Quantitative Equity Group, which oversees
$200 billion in equity index assets. "Over time, we've developed our own views
with respect to best practices in index construction and rebalancing
methodology. Index providers have been exploring many of these same ideas and we
are beginning to see opportunities open up that we believe may be worth
pursuing."

Vanguard has secured the right to use new indexes under development by
Morgan Stanley Capital International (MSCI), a leading provider of international
equity, fixed income, and hedge fund indexes that is developing a full range of
new U.S. stock indexes. These new indexes are expected to include segmentation,
style, and construction methods that Vanguard favors. (More information on the
new indexes and their construction is available on MSCI's website at
www.msci.com.) While this agreement would enable Vanguard to use the new MSCI
indexes, which are expected to be available in early 2003, it does not obligate
the trustees of the Vanguard index funds to adopt them as benchmarks.

Several Vanguard index funds have changed target benchmarks in the past. In
March 1993, the trustees of Vanguard Total Bond Market Index Fund approved a
change of its target benchmark from the Salomon Brothers Broad Investment-Grade
Bond Index to the Lehman Brothers Aggregate Bond Index after determining that
the latter index was a more accurately defined broad bond market proxy. The
Lehman index was also adopted as the target index for the bond portfolio of
Vanguard Balanced Index Fund and the Total Bond Market Index Portfolio of
Vanguard Variable Insurance Fund.

RECLASSIFYING FUNDS AS NON-DIVERSIFIED. Vanguard is seeking shareholder
approval to re-classify many of its index and index-oriented funds as
"non-diversified" under securities laws. The change to a non-diversified status
will enable the index funds to continue replicating their target benchmarks,
even in the event that an index becomes dominated by a small number of stocks.
As a practical matter, the index funds are broadly diversified from an
investment standpoint and will surpass the investment limitations that apply to
diversified funds only as necessary to track their specified benchmark.

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Page 3 of 4

In May 2001, shareholders of Vanguard Growth Index Fund approved a similar
proposal. The fund's target benchmark index (the S&P/BARRA Growth Index) had
become concentrated in the stocks of several companies and, thus, modestly
exceeded the Fund's technical diversification requirements. In particular, four
of the Fund's holdings exceeded 5% of assets on an individual basis and, in
aggregate, exceeded 25% of assets.

Borrowing money. Vanguard is seeking shareholder approval for a new
borrowing policy to clarify that its taxable and tax-free bond funds may take
advantage of certain investment opportunities that do not involve leverage or a
change to the fund's objectives or risk profile. Current policy permits
borrowing only for "temporary or emergency purposes" and does not allow
additional investments until outstanding borrowings are repaid. The proposed
policy will maintain the current 15% cap on borrowings, but allow for additional
investments. The policy would benefit the funds by allowing investments in
certain types of fixed income instruments, such as mortgage dollar rolls, which
provide an efficient (and at times less expensive) way for the funds to invest
in the same types of mortgage-backed securities that they routinely own today.

In addition, two fund-specific proposals are included in the preliminary
proxy statement, as follows:

o To change the investment objective of Vanguard Utilities Income Fund
and eliminate its concentration in utility stocks. This change will
permit the fund to pursue reasonable dividend income plus attractive
earnings and dividend growth prospects. It will also increase the
fund's industry diversification, thus lowering the fund's risk. If
approved, the fund will be renamed Vanguard Dividend Growth Fund.

o To change the industry concentration policy of Vanguard Prime Money
Market Fund and the Money Market Portfolio of Vanguard Variable
Insurance Fund so that each will invest more than 25% of its assets in
the financial services sector. The purpose of this change is to allow
the funds to take better advantage of available money market
opportunities.

Vanguard is also asking shareholders of each fund to elect a board of
trustees. The nominees include Vanguard Chairman John J. Brennan and six
independent trustees: Charles D. Ellis, Rajiv L. Gupta, JoAnn Heffernan Heisen,
Burton G. Malkiel, Alfred M. Rankin, Jr., and J. Lawrence Wilson.

Vanguard will begin mailing proxy statements to shareholders on September
23, 2002. A special shareholder meeting is scheduled for December 3, 2002. For
convenience and to minimize costs, Vanguard is encouraging shareholders who are
registered users of Vanguard.com to request their proxy materials electronically
through the Internet. Shareholders will also have the option of

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Page 4 of 4

voting via Vanguard.com or by toll-free telephone call instead of using a
traditional paper ballot. Shareholders who own multiple accounts will have the
option of voting all their accounts on a consolidated basis rather than
completing multiple electronic or paper ballots.

The Vanguard Group, headquartered in Valley Forge, Pennsylvania, is the
nation's second largest mutual fund firm and a leading provider of company
sponsored retirement plan services. Vanguard serves some 17 million shareholder
accounts and manages more than $560 billion in U.S. assets, including more than
$170 billion in participant-directed defined contribution retirement plans.
Vanguard offers 109 funds to U.S. investors and 35 additional funds in foreign
markets.

# # # VR-602

Beginning September 23, 2002, copies of the proxy statement will be available
without charge online at www.vanguard.com or by calling 1-800-992-0833. Prior to
September 23, 2002, a preliminary version of the proxy statement is available
without charge from the Securities and Exchange Commission at www.sec.gov or by
calling the SEC at 1-202-942-8090. We encourage you to read the proxy statement
because it contains important information about the proposals.

Vanguard funds are offered by prospectus only. Prospectuses contain more
complete information on risks, distribution charges, and other expenses and
should be read carefully before you invest. Prospectuses can be obtained
directly from The Vanguard Group.

Vanguard Marketing Corporation, Distributor

THE IDEAL INDEX CONSTRUCTION
MAKING ACTIVE MANAGERS DO THE WORK
BY GUS SAUTER

In 1896, Charles Dow created the Dow Jones Industrial Average, establishing the
first measure of stock market performance and the first benchmark for portfolio
performance. Limited by the technology of its times, the Dow painted a skeletal
picture of the U.S. stock market. It initially consisted of just 12 stocks,
weighted by their prices. As the original index, the Dow became the yardstick
for relative performance.

Over the ensuing century, new technologies made it possible to create indexes
that more accurately captured the performance of the U.S. stock market: for
example, the Standard & Poor's 500 Index, the Russell 3000 Index, and the
Wilshire 5000 Total Market Index (in ascending order of comprehensiveness).
These indexes are weighted not by prices but by the market value of their
constituents, and thus better represent the universe of securities available to
U.S. investors.

In the mid- to late-1970s, however, a burgeoning industry of investment
consultants recognized that these broad market indexes were inappropriate
benchmarks for professional money managers. Most managers oversee portfolios
that track not the broad market, but discrete sectors of it-stocks of a
particular size, for example, or stocks with pronounced growth or value
characteristics.

The consultants addressed the mismatch between managers and benchmarks by
creating indexes of stocks in various capitalization ranges and of different
investment styles. Since then, the industry has created multiple indexes to
track every sector, industry, and sub-industry. The same has happened with
bonds. There are few sectors of the financial markets that are not being sliced,
diced, and tortured by an ever-growing list of index creators.

Despite the proliferation of indexes, these benchmarks have generally failed to
reflect the way managers actually invest. On balance, they measure the wrong set
of securities?or, if not that, then the wrong way of managing those securities.
As evidence, our research shows that the correlation between the performance of
growth and value managers is much higher than the correlation between growth and
value indexes. In other words, the growth and value indexes reflect a degree of
difference in investment styles that doesn't exist in the real world. The same
problems exist with indexes that represent other subsectors of the broad market.

It is indeed puzzling that two different indexes designed to provide insight
into the same sector of the market-large-cap value stocks, for example-can
provide very different results. The discrepancies arise, of course, because of
differences in the methodologies used to create the indexes. Over long periods,
different value and growth indexes generally, though not always, provide similar
results. In the short run, however, their differences cause confusion and limit
their usefulness as benchmarks.

A NEW APPROACH

It is possible to create indexes that are meaningful benchmarks for managers who
follow growth or value investment styles, focus on large- or small-cap stocks,
or look for some combination of those characteristics. The starting point is
this cardinal rule: An index must reflect the way that money managers actually
invest.

This may sound like circular reasoning-defining value as what people call value.
The reality, however, is that growth and value, and small-cap and large-cap, are
what investment managers deem them to be. Modern portfolio theory doesn't define
any of those terms. Managers do. The indexes that track these sectors should
incorporate the thought processes of these managers. The best index isn't
necessarily the one that provides the highest return; it's the one that most
accurately measures the performance of the style it's designed to track.

This article proposes guidelines for the construction of ideal indexes. With
better tools, investors will be able to make better decisions about how their
money is managed. Some indexes already incorporate some of these proposals, but
no index incorporates all the guidelines.

These guidelines are not intended to make the lives of index fund managers
easier. An index fund is a rational investment only if it provides an
alternative to active management in a low-cost, relatively tax-efficient way, or
if it offers exposure to a segment of the market in which active management is
difficult, if not impossible. For instance, micro-cap stocks are too illiquid to
be managed actively in a portfolio with high turnover. Indexes designed only to
simplify the lives of indexers probably wouldn't meet these criteria. However,
if the rules for creating indexes based on the behavior of active managers also
simplify the indexers' job, so much the better!

I. RELY ON OBJECTIVE, NOT SUBJECTIVE, RULES

An index can be rules-based and objectively maintained, with no ambiguity about
when a stock should be included or excluded. Alternatively, an index can be more
subjectively reconstituted by an individual or committee according to broad
guidelines. Each approach has pros and cons.

A purely objective approach ensures absolute style integrity and total
transparency, precluding debate about the merits of including one stock or
another. However, it also can, but does not have to, result in short bursts of
high turnover, raising costs and tax inefficiency. Active managers, even those
with high portfolio turnover, don't implement six months' or a year's volume of
portfolio adjustments on a single day.

On the other hand, a subjective approach to index maintenance may allow for more
orderly management of changes. This approach, however, is subject to committee
decisions that do not represent the decision process of active management.

The most important characteristic of indexes tracking the market's subsectors-in
essence, sectors created and defined by managers-should be that they accurately
reflect the thought processes of active management. For that reason, style
integrity is extremely important, and an objective set of rules for creating an
index is preferable to the vagaries introduced by a subjective process.

II. ADJUST WEIGHTINGS FOR CROSS-HOLDINGS/FLOAT

For the purposes of determining a company's size and capitalization category, it
is necessary to take into account all of a company's outstanding shares, because
the stock's performance is influenced by the economic size of the company.
However, in determining the stock's weight in an index a different standard
should be used.

The investment universe available to active investors should be the starting
point for all indexes. Many companies have shares that are closely held by
individual investors, or cross-held by other corporations or governments. To the
extent that these positions represent strategic long-term holdings that do not
'float' on the market, they should not be used to calculate the stock's weight
in the index, and thus its contribution to the index's return. They are not a
part of active investors' opportunity set. Including these shares in a benchmark
distorts its return relative to the universe of active investors because, in
aggregate, the managers cannot own all of the shares outstanding. In truth,
there is probably no index-related issue less debatable than this. In fact, two
major global indexes, the MSCI and FTSE indexes, have recently been
reconstituted to adjust for shares that don't float. Although these changes
resulted in hundreds of billions of dollars' worth of transactions for index and
active funds, causing large transaction costs, those short-term costs will
improve the long-term integrity of the indexes.

III. DEFINE MARKET CAPITALIZATION AS A BAND, NOT A LINE IN THE SAND

Indexes based on market capitalization must be periodically reconstituted to
ensure that they reflect the performance of the market segment they purport to
measure. Both objectively and subjectively determined indexes currently capture
this concept, to varying degrees. In each case, the rebalancing usually results
in significant market impact on the stocks affected and unnecessary turnover and
transaction costs. This marketplace turmoil is not prima facie evidence of poor
index construction. However, rebalancing as it is now practiced doesn't reflect
how active managers adjust their portfolios, and, therefore, leads to the
creation of an inappropriate benchmark.

Active managers do not unanimously agree on the boundaries between two
capitalization ranges. One manager might classify a $4 billion company as
large-cap, while another might consider it mid-cap. To capture this ambiguity,
an index's demarcation between capitalization ranges should be a band, not a
line in the sand. If a stock's relative market capitalization changes so that it
enters the band, the stock remains a constituent in the index to which it was
previously assigned. It migrates to the other index only if it exits the
opposite side of the band. A small-capitalization stock will remain in the
small-cap index even if its market cap grows into the range that may have
demarcated 'large-cap' when the index was first established. It will become a
large-cap stock only if its market capitalization moves past the upper edge of
the band.

The advantages of these bands would be twofold: First, they would reduce
turnover during periodic index rebalancings, as stocks would not vacillate
between one index and another based on minor changes in their market
capitalizations. Second, and more important, these bands would more accurately
reflect the way active managers think of their investment universe. Managers do
not summarily throw a stock overboard because it crosses an imaginary line. They
frequently continue to hold it even though a manager with a different investment
style might consider it to be in a different index classification.

BUILDING THE BANDS AND DEFINING CAPITALIZATION RANGES

The capitalization bands should be based on the relative sizes of stocks, rather
than on static dollar figures that may or may not be appropriate as the market
rises and falls. For instance, the initial cutoff for a large-cap index could be
the 700th-largest stock, as measured by total, as opposed to float-adjusted,
market capitalization. Or it might be the stock representing the 85th percentile
of the stock market's capitalization. (These boundaries are just suggestions,
but they are roughly appropriate.)

The band around the large-capitalization cutoff could be plus or minus 150
stocks, or plus or minus five percentage points of market capitalization. A
stock previously classified as small- or mid-cap would be added to the large-cap
index once it became the 549th-largest stock, or the stock representing the 79th
percentile of market capitalization. Similarly, a stock would be removed from
the large-cap index when it became the market's 851st largest stock, or the
stock representing the 91st percentile of market capitalization.

The small-cap index should be a complement of the large-cap index, with an
initial cutoff of perhaps 700 for the largest stock and, as suggested above,
2,500 for the smallest stock. (The absence of a mid-cap index separating large-
and small caps may seem odd, but this construction better reflects active
managers' capitalization exposure.) The cutoffs should be bounded by the
300-stock bands used in the large-cap index. While the top cutoff may seem high,
it reflects the holdings of small-cap managers. In fact, the performances of the
Russell 2500 and Wilshire 4500 Indexes-both of which include mid-caps and
small-caps-more closely correlate to the performance of small-cap managers than
does that of the strictly small-cap Russell 2000 Index. Stocks smaller than the
2,500th stock could comprise a microcap index (a segment for which no index yet
exists).

Figure 1

Range of Stocks Included in
Capitalization Indexes Sorted by Size
- ---- ----
| | | | ----
| | |------| ---- |-.-.- |
| | |-.-.-. | |-.-.- | |-----|
| | |----| |-----| | |
| | | | |-----|
|___ | |___ | |-.-.- |
-------

Total Large Small Mid Cap
Market Cap Cap

- -.-.-. Initial Boundary -------Inclusion Hurdle

The mid-cap index would overlap the large-cap and small-cap indexes, with
initial break points at perhaps the 400th-largest stock at the top and the
1200th-largest stock at the bottom, with both cutoffs surrounded by 300-stock
bands. Figure 1 illustrates this concept. The first column shows the total stock
market. The second column shows the universe of large-cap stocks; the third,
that of small-cap stocks; and the fourth, that of mid-cap stocks. The
dot-dash-dot lines show the initial cutoffs for the different capitalization
ranges. The dash-dash-dash lines show the bands, or hurdles, that a stock must
cross in order to move from one capitalization range to another.

Some investors may be concerned that, because the mid-cap index overlaps the
large- and small-cap indexes, the three together would not replicate the total
stock market. But overlap is a problem that investors already face when
combining two or more actively managed funds, or even when complementing an
active fund with an index fund. Active managers follow no hard-coded rules about
market capitalization. Two managers with different mandates will frequently
consider the same stock to be in their target ranges. An investor who wants a
total-market index is better off investing in one directly than trying to build
one with sub-indexes.

IV. DETERMINE STYLE IN TWO DIMENSIONS

Most widely accepted indexes consider value and growth stocks to be complements
of each other. By this definition, a growth stock is anything that is not a
value stock, and a value stock is anything that is not a growth stock. The
delineation typically depends upon a single factor, such as price/book ratio, or
perhaps a combination of several factors blended into a single style rank for
every stock, as depicted in the spectrum below:

VALUE GROWTH
- -----------------------

Active managers do not believe their world is flat. A value manager may hold a
stock owned by a growth manager. The stock may fully satisfy the requirements of
both. A value manager might require that a stock have a low price/earnings
ratio, for example, but would certainly not be dismayed to see that it also
enjoyed strong growth prospects. Nor would a growth manager exclude a stock that
met his or her requirements for growth just because it sported a low valuation.

Using their own independent criteria, value and growth managers occasionally
fish from the same pond. Conversely, some stocks are attractive to neither. For
active managers, stocks don't fall into rank on a simple line like that shown
above; instead, the delineation between value and growth is two-dimensional.

Value managers emphasize a company's fundamentals relative to its current price,
including price/earnings, price/book, price/sales and dividend/price (yield)
ratios. They analyze companies based on these criteria and subject those that
pass a certain hurdle to further analysis. Growth managers, by contrast, place
the primary emphasis on characteristics such as earnings growth, sales growth,
and margin growth. Working independently, value and growth managers analyze
companies along their own growth or value spectra. Their combined view, with the
dotted lines demarcating each category's hurdle rates, is shown in the graphic
below.

PURE VALUE BOTH VALUE
AND GROWTH
- ------------------------------------
NEITHER VALUE
NOR GROWTH PURE GROWTH
- ------------------------------------
GROWTH
- ------------------------------------

In two dimensions, some stocks are pure value or growth, others are both value
and growth, while still others appeal to neither growth nor value managers.
Based on a stock's price ratios, for example, a value manager might conclude
that it is a value stock. Evaluating its sales and earnings growth, a growth
manager might conclude that the same security is a growth stock. Using two
distinct methodologies, both managers determine that the stock is a component of
their universe. Style-based indexes should reflect this reality, rather than
forcing a stock into one category or the other. Consequently, growth and value
indexes, as subsets of broader indexes, should not be perfect complements.

Given this design, a combination of value and growth index funds will result in
some overlap in holdings. It will also exclude some stocks. But that is true of
actively-managed portfolios as well. As in the case of market-cap-oriented
funds, the combination of actively-managed growth and value funds does not yield
a complete non-overlapping portfolio. If the style indexes are to be good
benchmarks, they won't necessarily be perfect complements of each other. Index
investors who want to combine value and growth should simply invest in a blended
index.

This methodology would also allow us to create deep-value and aggressive-growth
indexes by setting higher hurdles for those extreme styles. And as with the
capitalization indexes, there should be bands around the growth and value
demarcations.

V. MANAGE STOCK MIGRATION

Although market-cap and style-oriented bands would reduce turnover and better
reflect the way active managers respond to changes in stock characteristics,
there would still be those hard lines in the sand at the edges of a band. When a
company crossed this edge, the stock would exit the index, and in the case of
size indexes, migrate entirely from one classification to another. Once again,
this is not an accurate representation of how active managers respond to secular
shifts in the characteristics of a company. In reality, because managers act
independently, there is no one point, or even brief period, in which they
collectively decide to eliminate a stock that is leaving their investment style.
One by one, they may act quickly, but as a group they remove such stocks from
their portfolios gradually.

How can an index be made to reflect this reality? One way would be to divide the
index into 12 equally sized subcomponents, with each subcomponent associated
with a month of the year. If Stock A had a market capitalization of $12 billion,
for example, each of the 12 subcomponents would contain $1 billion of Stock A.
Every month, the subcomponent associated with that month would be opened up,
analyzed, and reconstituted.

Figure 2 shows how this might look, using an imaginary set of indexes being
reviewed in May 2002. The index sponsor has opened that month's subcomponent,
which was established in May 2001, and analyzed the stocks to determine whether
they still meet the index criteria. In May 2001, Stocks A, B, and C were
large-cap, and Stock D small-cap. A year later, Stock C has migrated down to the
small-cap category, and Stock D has migrated up to the large-cap category. The
subcomponent's 1/12 position in Stock C is moved to the small-cap index, and its
1/12 position in D is moved to the large-cap index. Adjustments made in the May
subcomponent have no effect on the other 11 subcomponents.

This process means that, during any one month, only 1/12 of a stock's
float-adjusted market capitalization would be transferred from one index to
another. At a minimum, it would take 12 months for a stock to entirely migrate
from one index to another. During this transition period, the stock might be in
two indexes, but the weights in the large- and small-cap indexes would be
complementary. A particular stock might have 7/12ths of its weight in the
large-cap index, for example, and 5/12ths in small cap.

Figure 2
Large Cap (top row)
Small Cap (bottom row)
- ------------------------------------------------------------------------
| | | | | | | | | | | | | | |
| | | | | | |
1/12 A |1/12 A |1/12 A |1/12 A |1/12 A | | | | | | |
1/12 B |1/12 B |1/12 B |1/12 B |1/12 B | | | | | | |
1/12 C | |1/12 D |1/12 D |1/12 C | | | | | | |
| | | | | | | | | | |
- ------|----- |----- |----- |----- |----- |----- |----- |----- |----- |----- |-----
1/12 D |1/12C |1/12 C |1/12 C |1/12 D | | | | | | |
|1/12 D| | | | | | | | | |
| | | | | | | | | | |
- ------------------------------------------------------------------------
1/02 2/02 3/02 4/02 | 5/01 | 6/02 7/01 8/01 8/01 10/01 11/01 12/01
| Pre-Reconstitution
Last Reconstitution | |
| |
| |
| |
| |
| -----|-
| |
| |
|1/12 A |
|1/12 B |
|1/12 D | May 02
| | Post-Reconstitution
|----- |
| |
|1/12 C |
| |
|----- |

This migration process more closely reflects how active managers invest. First,
they do not, as a herd, pile into, or out of, a stock as it crosses a certain
threshold. Instead, they collectively wade into and out of a position. An index
that followed the same process would not only be a better benchmark, it would
also benefit index fund investors by significantly reducing turnover and
allowing the portfolio to be repositioned in a more orderly fashion,
significantly reducing the fund's transaction costs by use of the monthly
reconstitutions. The index itself would have lower embedded transaction costs,
which would enhance long-term results.

It should be noted that most indexes currently lead to significant transaction
costs when securities are added or subtracted. The cost of style integrity is
disproportionately high for small-cap indexes, which have recently had annual
turnover as high as 35% to 45%.

SUMMARY

To create relevant benchmarks for actively-managed investments, our frame of
reference should be the active managers themselves. It is these managers, not
investment theory, that define growth and value, small-cap and large-cap. With
indexes that mimic the thought processes of active managers, investors would
have better tools for evaluating the performance of professional managers,
helping them to make smarter decisions about their portfolio allocation.
Consultants and researchers would also have better tools for attributing a
portfolio performance to the returns of different investment styles.

A widespread misconception is that indexing works in large caps, but not in
sectors such as small caps. At times, this conclusion appears to be supported by
the data. But the data's real lesson is that we're measuring managers with the
wrong yardsticks. With better benchmarks, outperforming-or underperforming-an

index would no longer be a matter of holding stocks from a different universe.
Performance would reflect the success of a manager's stock selections within the
appropriate universe. Although it's unlikely that large numbers of active
managers could boast of index-beating performance, even over short periods,
these better indexes could in fact be a boon to talented active managers. Their
relative success could be attributed to skill, not dismissed as an artifact of
faulty benchmark construction.

- --------------------------------------------------------------------------------

[SHIP]
THE VANGUARD GROUP(R)

Contact The Vanguard Group for information and prospectuses on the mutual funds
we advise and distribute. Our phone number is 1-800-523-1036.

(C) 2002 The Vanguard Group, Inc. All rights reserved. Vanguard Marketing
Corporation, Distributor. IP Comments/Revisions: Permission Permission must be
obtained to use this reprint.

- --------------------------------------------------------------------------------

Opinions and estimates contained in this article are subject to change
without notice, as are statements of financial market trends, which are based
on current market conditions. This article originally appeared in the
second quarter issue of The Journal of Indexes magazine. All rights reserved.
Charter Financial Publishing
Network, Inc.

August 26, 2002

TRUSTEES OF VANGUARD(R) UTILITIES INCOME FUND TO ASK SHAREHOLDERS
TO APPROVE CHANGE TO FUND'S OBJECTIVE AND STRATEGIES

Dear Utilities Income Fund Shareholder:

After careful consideration, the Board of Trustees of Vanguard Utilities Income
Fund is proposing a significant change to the fund's objective and strategies.
The trustees propose to replace the fund's single-industry focus with a broader
investment mandate--specifically, to invest in a diverse selection of companies,
regardless of their industry, that are expected to provide stable or increasing
dividends.

THE REASON BEHIND THE PROPOSED CHANGES

Historically, utility companies have been closely regulated and tended to have
relatively modest but steady earnings growth and stable or increasing dividends.
The deregulation of many utilities, such as those in the energy and telephone
sectors, has changed the character of the utilities industry and led to far less
stability in both earnings and dividend payments. Eliminating the fund's focus
on utility companies would allow the fund manager to invest in dividend-paying
companies regardless of their business and thereby eliminate the risk associated
with the fund's narrow concentration.

IMPACT IF THE PROPOSAL IS APPROVED

Vanguard Utilities Income Fund is currently required to invest at least 80% of
its assets in common stocks of utility companies as it seeks to provide a high
level of current income and, secondarily, to provide moderate long-term growth
of capital and income. While this industry-focused approach was reasonable for
conservative investors when the utilities industry was less volatile, it is much
less appropriate in today's environment.

Replacing the current focus on utilities with a policy that allows the fund to
invest no more than 25% of its assets in any single industry would substantially
reduce the current and future risks associated with industry concentration. The

fund objective being proposed is to seek to provide a stable or growing level of
dividend income and, secondarily, moderate long-term growth of capital and
income. To reflect the broader objective and strategies, the fund's name would
be changed to Vanguard(R) Dividend Growth Fund.

Finally, while we expect that the transition of this highly concentrated
portfolio into a more diversified one would dramatically increase portfolio
turnover in the short term, we estimate that there would be minimal or no
capital gains distributions. Once the transition is complete, we expect the
portfolio's turnover to return to below-average levels.

PROPOSED CHANGE SUBJECT TO SHAREHOLDER APPROVAL

These changes are subject to shareholder approval at a meeting scheduled for
December 3, 2002. If you are a shareholder in the Utilities Income Fund as of
the close of business on September 6, 2002, you will be entitled to vote on this
proposal. Proxy materials--including a ballot and additional information
regarding this proposal--will be mailed to you in late September 2002.

We hope you will vote in favor of the proposal because we believe it will
benefit you as a fund shareholder. If you have any questions, call us at
1-800-662-7447.

Sincerely,

John J. Brennan
Chairman of the Board and
Chief Executive Officer

This material may be used in conjunction with the offering of shares of any
member funds of The Vanguard Group only if preceded or accompanied by a current
prospectus of each fund whose shares are being offered.

UPLC 082002

[SHIP]
[THE VANGUARD GROUP LOGO]

August 26, 2002

VANGUARD(R)FILES PRELIMINARY PROXY STATEMENT WITH THE SEC

Dear Institutional Investor:

Earlier today, Vanguard filed a preliminary proxy statement with the Securities
and Exchange Commission that proposes certain policy changes recommended by each
fund's Board of Trustees. Because you are a valued client, we want to provide
you with some details about the proxy and assure you that we are available to
answer your questions.

For the most part, these proposals involve minor adjustments or clarifications
to fund investment policies. We are also asking shareholders to elect a board of
trustees for each Vanguard fund, to allow the trustees of certain stock index
funds to change the funds' target indexes when warranted in the best interest of
shareholders, and to change the objective of Vanguard(R) Utilities Income Fund.

We plan to send proxy statements to all fund shareholders on September 23, 2002.
Investors who own shares of the funds on September 6 will be entitled to vote.
Shareholders will be able to vote by mail, through a special website, by
telephone, or at a shareholder meeting scheduled for December 3, 2002. Your vote
is important and will help to make the proxy process efficient and
cost-effective. If we don't receive enough votes to make the tally official,
fund shareholders will incur the considerable extra cost of holding a second
round of voting.

As the investment manager of 29 stock, bond, and balanced index funds that
together total over $200 billion in assets, we expect there will be a certain
amount of interest in the index fund proposal. If approved, the proposal would
authorize the trustees of certain index funds to change target indexes when they
deem it in shareholders' best interests. This proposal does not apply to
Vanguard(R) 500 Index Fund, Vanguard(R) Institutional Index Fund, and many of
our index funds that already have the proposed policy.

Vanguard is continually seeking the most appropriate indexes for each of the
funds. Along these lines, Morgan Stanley Capital International (MSCI), a well
established index provider who runs indexes tracked by Vanguard's international
stock index funds, is currently developing indexes that we believe may have
superior construction and rebalancing methods. While we have secured a license
to use the new MSCI indexes once they are developed, the Board is not obligated
to adopt any particular index for a fund. In any case, the investment objective
of each fund would not change: Any new index would track the same market segment
as the existing index.

August 26, 2002
Page 2 of 2

In addition to the proposals concerning the election of trustees and the ability
to change indexes, we are asking shareholders to approve plans to:

o Change the objective of Vanguard Utilities Income Fund by broadening
its focus beyond utility stocks while maintaining its emphasis on
companies that pay dividends. The fund would be renamed Vanguard(R)
Dividend Growth Fund.

o Permit all of our index and index-oriented equity funds to continue to
track their targets even if those targets become concentrated in a
relatively small number of securities.

o Allow two of our money market funds to invest a higher percentage of
their assets in securities issued by financial services companies,
creating additional investment opportunities for the funds while
maintaining strict adherence to regulatory limits for money market
funds.

o Permit Vanguard funds to invest in other specially created Vanguard
money market and short-term bond funds, primarily as a way to better
manage the funds' cash reserves.

o Clarify that our fixed income and balanced funds may engage in certain
types of investment strategies that involve borrowing in accordance
with applicable securities laws.

For further details on the proxy proposals, please feel free to contact
[contact] or visit us at Vanguard.com(R).

We strongly encourage you to vote. It is the best way to have your voice heard
and to avoid the additional cost that would be incurred if a second proxy
solicitation is needed.

Sincerely,

Beginning September 23, 2002, copies of the proxy statement will be available
without charge online at www.vanguard.com or by calling your [Relationship
Manager]. Prior to September 23, 2002, a preliminary version of the proxy
statement is available without charge from the Securities and Exchange
Commission at www.sec.gov or by calling the SEC at 1-202-942-8090. We encourage
you to read the proxy statement because it contains important information about
the proposals.

For more complete information about Vanguard funds, including risks, charges,
and expenses, call for a prospectus. Read it carefully before investing.

CHANGES PROPOSED FOR VANGUARD FUNDS

The Vanguard funds filed a preliminary proxy statement on August 26 with
the U.S. Securities and Exchange Commission that proposes certain policy changes
recommended by each fund's Board of Trustees. For the most part, these proposals
involve minor adjustments or clarifications to fund investment policies. We are
also asking shareholders to elect a board of trustees for each Vanguard fund, to
allow the trustees of certain stock index funds to change the fund's target
index when warranted in the best interest of shareholders, and to change the
objective of Vanguard Utilities Income Fund.

Proxy statements will be mailed to shareholders beginning September 23, and
all shareholders of the funds on September 6 will be entitled to vote.
Shareholders will be able to vote by mail, through a special website, by
telephone or at a shareholder meeting scheduled for December 3, 2002. Here's a
summary of all the proposals:

Investing in other mutual funds. This proposal would enable Vanguard(R)
funds to invest their cash reserves in specially created money market and
short-term bond funds. This new cash management program, which is similar to
those of other large mutual fund complexes, should help the funds to achieve
greater diversification and to earn modestly higher returns on cash reserves.
Currently, the funds pool their cash reserves and invest jointly in overnight
repurchase agreements.

Authorizing changes to target indexes. This proposal would authorize the
trustees of eight stock index funds to change target benchmarks if they
determine that doing so would be in the shareholders' best interests. Any new
index chosen for a fund would be required to track the same market segment as
the fund's existing index. (The trustees of 19 Vanguard index funds already
possess the authority to change target indexes.) This proposal applies to the
following Vanguard index funds:

Total Stock Market Index Fund
Extended Market Index Fund
Small-Cap Index Fund
Growth Index Fund
Value Index Fund
Mid-Cap Index Fund
Small-Cap Growth Index Fund
Small-Cap Value Index Fund

The proposal does not apply to Vanguard(R) 500 Index Fund or Vanguard(R)
Institutional Index Fund, which use as their target benchmark the S&P 500 Index,
a widely recognized index of large-cap U.S. stocks.

Vanguard continually evaluates index construction methods and seeks the
most appropriate index for each fund. Morgan Stanley Capital International
(MSCI), a leading provider of international equity and fixed income indexes
recently announced that it is developing a full range of new U.S. stock indexes
that we believe may include indexing methods we favor. Vanguard has secured the
right to use the new MSCI indexes, which are expected to be available in early
2003, however, the trustees of the Vanguard index funds are not obligated to
adopt them as benchmarks.

RECLASSIFY FUNDS AS NON-DIVERSIFIED. This proposal would reclassify several
stock index and index-oriented funds as "non-diversified" under securities laws.
The change to non-diversified status will enable the index funds to continue
replicating their target benchmarks, even in the event that an index becomes
dominated by a small number of stocks. As a practical matter, index funds are
broadly diversified from an investment standpoint and will surpass the
limitations for diversified funds only as necessary to track their target
benchmark.

BORROWING MONEY. This proposal would change the borrowing policy for
Vanguard's balanced and bond funds, enabling them to take advantage of certain
investment opportunities that do not involve leverage or a change to the fund's
objectives or risk profile. Under the current policy, a fund may borrow up to
15% of its assets and may not make additional investments until all outstanding
borrowings are repaid. The proposed policy will maintain the 15% cap on
borrowings, but allow for additional investments.

CHANGE VANGUARD UTILITIES INCOME FUND'S OBJECTIVE. If approved, this
proposal would broaden the fund's focus beyond utility stocks while maintaining
its emphasis on companies that pay attractive dividends. The fund would no
longer be required to invest at least 80% of its assets in common stocks of
utility companies. Instead, it would invest in a wide range of companies from
various industries. Its new investment objective would be to provide stable or
growing dividend income and, secondarily, to provide long-term growth of capital
and income. The fund, which would be renamed Vanguard(R) Dividend Growth Fund if
the proposal is approved, would not be permitted to invest more than 25% of its
assets in any single industry.

The board's proposal is a result of dramatic changes in the nature of
utility stocks that have occurred over the past two decades. For many years,
utility stocks were considered relatively conservative investments, largely
because tight government regulation resulted in consistent and modestly
increasing earnings and the capacity to pay stable or increasing dividends. Over
the past several years, however, deregulation of various utility
sectors--including electricity producers and distributors, natural-gas
transmission companies, and telephone companies--has led to far less stability
in earnings and to an overall decline in dividend payments. The proposed change
will permit the fund to pursue reasonable dividend income plus attractive
earnings and dividend growth prospects, while also increasing the fund's
industry diversification and lowering its risk.

CHANGE THE INDUSTRY CONCENTRATION POLICY OF VANGUARD(R) PRIME MONEY MARKET
FUND AND THE MONEY MARKET PORTFOLIO OF VANGUARD(R) VARIABLE INSURANCE FUND.
Under this proposal, each fund can invest more than 25% of its assets in the
financial services sector. The purpose of this change is to allow the funds to
take better advantage of available money market opportunities.

By casting your ballot, you will help to ensure that we receive enough
votes to make the tally official. If we don't get enough votes, we must resubmit
the proxy and solicit votes again at considerable additional expense.

For convenience and to minimize costs, we encourage shareholders who are
registered users of Vanguard.com(R) to request their proxy materials
electronically through the Internet. Shareholders will also have the option of
voting via Vanguard.com or by toll-free telephone call instead of using a
traditional paper ballot. Shareholders who own multiple accounts will have the
option of voting all their accounts on a consolidated basis rather than
completing multiple electronic or paper ballots.

We hope you will vote in favor of the above proposals because we believe
they will benefit you as a fund shareholder.

Beginning September 23, 2002, copies of the proxy statement will be available
without charge online at www.vanguard.com or by calling Vanguard at
1-800-992-0833. Prior to September 23, 2002, a preliminary version of the proxy
statement is available without charge from the Securities and Exchange
Commission at www.sec.gov or by calling the SEC at 1-202-942-8090. We encourage
you to read the proxy statement because it contains important information about
the proposals.

(VERSION 1)

"Thank you for taking the time to discuss the 2002 Proxy Proposals today. You
may be interested in reading the attached Press Release and/or Methodology
Summary by Morgan Stanley Capital International (MSCI). Vanguard is continually
seeking the most appropriate indexes for each of the funds. Along these lines,
MSCI, a well-established index provider who runs indexes tracked by Vanguard's
international stock index funds, is currently developing indexes that we believe
may have superior construction and rebalancing methods. If you have questions,
please contact me at 1-800-662-0106, extension xxxxx."

(VERSION 2)

"Thank you for taking the time to discuss the 2002 Proxy Proposals today. You
may be interested in reading the attached article, "Index Rex" by Gus Sauter,
Managing Director of The Vanguard Group. Vanguard is continually seeking the
most appropriate indexes for each of the funds. I feel this article best
explains Vanguard's view on what comprises an ideal index. If you have
questions, please contact me at 1-800-662-0106, extension xxxxx."

FUNDSCOPE

CHANGING BENCHMARKS POSE A CHALLENGE WINTER 2001
- --------------------------------------------------------------------------------
IN EVALUATING ACTIVE FUNDS

A Vanguard study shows that market indexes can change substantially over time.
That has a big impact on how active mutual funds are managed--and measured.

What if 12 inches no longer equaled a foot? If a foot measured 15 inches one
year and 10 inches the next? Besides always having to change our height on
driver's licenses, it would be difficult to accurately measure anything.

Investors tend to think that mutual fund benchmarks are as fixed as rulers. Yet
a new Vanguard study shows that benchmarks are far from stable. And when used to
evaluate the performance of actively managed mutual funds, benchmarks may tell
us less than we think they do.

Vanguard Principal Jeffrey S. Molitor leads the Portfolio Review Group, a team
of investment professionals monitoring the performance and management of all
Vanguard(R) funds. He recently shared with Fund Scope the team's analysis of
changing benchmarks and the implications for investors.

AN INVESTMENT PARADOX

FUND SCOPE: WHAT DID YOUR GROUP FIND IN ITS ANALYSIS OF MARKET INDEXES USED AS
BENCHMARKS FOR ACTIVELY MANAGED FUNDS?

JEFF MOLITOR: Contrary to what many believe, indexes are not stable points of
reference. Investors too often think of benchmarks as if they were consistent
and unchanging, but they can change significantly over time. When benchmarks
become moving targets, it can have a profound effect on the investment processes
of mutual fund managers who are evaluated against those benchmarks, and it makes
performance evaluation more challenging.

FS: WHY DID YOU CONDUCT THIS ANALYSIS?

JM: We've been evaluating fund performance for a long time, but we conducted the
analysis to make sure we understood the performance standards we were using.
Vanguard has a new initiative called Unmatchable Excellence(TM), our version of
Six Sigma, the quality assurance program made famous by companies like General
Electric and Motorola. A basic tenet of Six Sigma is measurement, and one of its
lessons is: You get what you measure.

- --------------------------------------------------------------------------------
"When benchmarks become moving targets, it can have a profound effect on the
investment processes of mutual fund managers who are evaluated against those
benchmarks, and it makes performance evaluation more challenging."
- --------------------------------------------------------------------------------

That may seem obvious, but what you measure--as well as how--involves a great
deal of trial and error to get the right tools. Moreover, the standards and
reference points change over time. It is important to keep an eye out for those
changes in order to understand how they might affect the way we view a fund's
performance.

FS: WHY DID THE MEASUREMENTS NEED TO BE EVALUATED?

JM: In evaluating the performance of some of our managers and hearing
descriptions of their processes last year, we faced a paradox: Some portfolios
appeared to drift further from their benchmarks even while the managers made no
change in their investment processes. Other portfolios stuck close to their
benchmarks, but various elements of the managers' investment processes had
changed. We wanted to find out why this was happening. We weren't certain if we
had inappropriate measures, if the managers' investment styles were drifting, or
if the benchmarks themselves were changing. Our analysis helped clear up this
mystery.

================================================================================
FUNDS SPOTLIGHT IS NOW FUND SCOPE

You may have noticed our new name and look. Fund Scope better reflects the broad
range of Vanguard fund-related topics we discuss in this newsletter. Our goal
remains the same: to provide you with helpful and useful information on Vanguard
funds.
================================================================================

[THE VANGUARD GROUP LOGO]

BIG CHANGES FOR GROWTH

FS: WHAT DID YOU ANALYZE?

JM: We looked at changes in the S&P(R)/BARRA(R) Growth and Value Indexes, which
are reasonable proxies for style benchmarks. Every six months, Standard &
Poor's(R) segments stocks in the S&P 500(R) into growth and value components,
based on market capitalization and price-to-book ratios. A stock falls into
either the growth or value camp--not both--making any shift in the indexes
clearly apparent.

We analyzed changes in the indexes from June 1993 through June 2000, going back
seven years to predate the market's run-up of the past few years.

FS: HOW DID THE GROWTH INDEX CHANGE?

JM: The most obvious change was that the number of stocks in the index declined
during the past seven years from 196 to 110. In essence, only 20% of the stocks
in the S&P 500 were needed to amass the 50% market capitalization defined as
"growth."

In addition, only 44 of the 110 stocks were in the 1993 growth index. The
holdovers were clearly outperformers, as their capitalization represented 52% of
the index compared with 39% in 1993. Nearly half of the names--54 of the 110
stocks--were new to the S&P 500, and 12 stocks migrated from the Value Index.
The 2000 index was very different from the 1993 index.

- --------------------------------------------------------------------------------
GROWTH REDEFINED
- --------------------------------------------------------------------------------
S&P/BARRA S&P/BARRA
Growth Index Growth Index
Index Characteristics June 2000 June 1993
- --------------------------------------------------------------------------------
Percentage in Top 10 Stocks 46.5% 31.6%
- --------------------------------------------------------------------------------
Price/Earnings Ratio 53.9x 19.8x
- --------------------------------------------------------------------------------
Price/Book Ratio 14.6x 4.2x
- --------------------------------------------------------------------------------
Return on Equity (5-year average) 30.0% 23.1%
- --------------------------------------------------------------------------------
Percentage Earnings-Per-Share
Growth (past 5 years) 23.7% 15.0%
- --------------------------------------------------------------------------------
INDEX SECTORS
- --------------------------------------------------------------------------------
Consumer 19.8% 41.1%
- --------------------------------------------------------------------------------
Technology 47.5% 15.3%
- --------------------------------------------------------------------------------
Other 32.7% 43.6%
- --------------------------------------------------------------------------------
According to Molitor, as the nature of the S&P/BARRA Growth Index has changed,
many growth fund managers have followed suit, resulting in portfolios that
exhibited more volatility than the index, with less return.

FS: HOW DIFFERENT WERE THE PORTFOLIO CHARACTERISTICS OF THE GROWTH INDEX?

JM: The Growth Index as of June 30, 2000, consisted of companies that were more
profitable and priced to reflect very high expectations. The changes in sector
weightings were particularly striking, with the dominant sector moving from
consumer to technology (see table above).

FS: HOW DID THOSE CHANGES AFFECT THE INDEX'S PERFORMANCE IN THAT SEVEN-YEAR
PERIOD?

JM: It made a huge difference. As I mentioned, only 44 of 196 stocks remained in
the Growth Index since 1993. By dropping 152 stocks and adding 66 others, the
index cumulatively returned 350%. Had the index remained unchanged, except for
adjustments due to mergers, it would have returned only 163% on a cumulative
basis. In annualized terms, the changes in the Growth Index represented a
difference of 10 percentage points per year--26.1% versus 16.1%.

FS: DID THE INDEX'S RISK PROFILE INCREASE?

JM: Yes. We found that stocks added to the index generated the best performance
but also had the greatest volatility. These stocks' aggregate price/earnings
ratios--based on trailing and forecast earnings--and historical and projected
growth rates were substantially higher than those of the current S&P/BARRA
Growth Index overall. And probably to no one's surprise, 67% of these "addition"
stocks came from technology. To some extent, the additions to the Growth Index
really came to define growth stocks over the past few years.

FS: HOW DID GROWTH FUND MANAGERS RESPOND TO THE CHANGES IN THE INDEX?

JM: Our analysis indicates that the universe of growth managers shifted their
focus from the S&P 500 to the Growth Index, particularly following those stocks
added to the index. The result: Growth managers' portfolios, in aggregate,
exhibited more volatility than the Growth Index, without as much return--even if
we ignore expenses.

AN EXPANSION OF VALUE

FS: DID THE VALUE INDEX CHANGE AS WELL?

JM: Yes. While the number of stocks in the Growth Index shrank, the S&P/BARRA
Value Index correspondingly grew from 304 to 390 stocks, with no less dramatic
turnover. Only 168 of the original 304 remained in the 2000 index. What's more,
84 of the 390 names in the index migrated from the Growth Index, with the
remaining 138 joining the S&P 500 since June 1993.

Comparing the top ten stocks in the Value Index in 2000 with the top ten of 1993
gives a flavor of the changes in the index over time (see table below). The
changes in the top ten parallel an overall shift in the Value Index over the
past seven years, moving away from oil and other cyclical stocks and towards
communications and financial services. Only six members of the 2000 top ten were
in the Value Index, though not necessarily in the top ten, in 1993.

FS: HOW DID THESE CHANGES AFFECT THE PERFORMANCE OF THE INDEX?

JM: As with the Growth Index, we looked at what would have happened to the index
had it remained the same.

- --------------------------------------------------------------------------------
CHANGING VALUE
- --------------------------------------------------------------------------------
S&P/BARRA Value Index--Top Ten Stocks

June 2000 June 1993
- --------------------------------------------------------------------------------
Exxon Mobil Corp. Exxon Corp.
- --------------------------------------------------------------------------------
Royal Dutch Petroleum Co. Royal Dutch Petroleum Co.
- --------------------------------------------------------------------------------
American International Group American International Group
- --------------------------------------------------------------------------------
SBC Communications General Motors Corp.
- --------------------------------------------------------------------------------
Verizon Communications Mobil Corp.
- --------------------------------------------------------------------------------
Citigroup Inc. Chevron Corp.
- --------------------------------------------------------------------------------
WorldCom Inc. IBM
- --------------------------------------------------------------------------------
Hewlett-Packard Co. DuPont E.I. DeNemours
- --------------------------------------------------------------------------------
AT&T Bell South
- --------------------------------------------------------------------------------
Morgan Stanley Dean Witter Amoco
- --------------------------------------------------------------------------------
The changes in the top ten in stocks of the S&P/BARRA Value Index parallel an
overall shift in the Value Index over the past seven years, moving away from oil
and other cyclical stocks and towards communications and financial services.

The differences in return between the Value Index in 2000 and its return had it
remained unchanged in 1993 are not nearly as dramatic as we saw on the growth
side, with cumulative returns of 183% and 141% respectively.

However, we did notice a striking gap in the performance characteristics between
the stocks added to the Value Index and the index as a whole. The value
"additions" had a much more growth-like flavor than the stocks in the 1993
portfolio, resulting in an index with more of a growth orientation.

FS: HOW DID VALUE FUND MANAGERS REACT TO THESE CHANGES?

JM: Perhaps to no one's surprise, our analysis found that large-cap value
managers, in aggregate, drifted away from value and towards growth. Like the
growth managers, they also tended to focus on the stocks that were added to the
Value Index.

LEARNING FROM FROGS

FS: What did you and your group take away from your analysis?

JM: First, as I mentioned in the beginning, indexes are not stable points of
reference. The changes in the indexes reflect the dynamic character of the
economy and the markets and what has performed well.

Second, the average growth and value managers followed the trends over the past
seven years. Growth managers developed an affinity for technology stocks, while
value managers took on stocks with characteristics formerly associated with
growth. Only time will tell if these shifts were reasoned decisions to own
attractive stocks or simply accommodations to hug the index and limit the risk
of getting fired.

Third, managers who did not change due to their convictions or stubbornness saw
returns suffer. Should these managers be castigated for not recognizing the
changes in the investment markets? For example, should we have taken value
managers to task in the beginning of 2000 for poor relative performance when
they remained consistent in their investment processes? Or should we commend
such managers for sticking to their style?

It is a question that gets to the heart of understanding what you are measuring
and why. If benchmarks were our only standard for evaluating style consistency,
steadfast managers would appear to be offbase in their approaches.

FS: WHAT'S THE ANSWER?

JM: Unfortunately, there's no easy answer. It's a dilemma of performance
measurement--the risk that references of measurement change in character. In the
case of the growth and value benchmarks, the changes were fairly gradual. But
even gradual changes can have a tremendous impact.

For instance, it's said that if you throw a frog into a pot of hot water, it
will jump out. But put a frog into a pot of cool water and gradually turn up the
heat, it will die.

Gradual change is both difficult to spot and, as the frog example shows,
particularly dangerous. That's where Vanguard's Portfolio Review Group comes in.

We understand how critical it is for a fund to stick to its investment mandates.
Our clients rely on us to take everything into account--the economy, the
markets, the funds' investment objectives, and the managers' investment
processes--and provide unbiased evaluations of fund performance and consistency.
We look to hire managers who will stay true to a style, and we will drop those
who don't perform within their styles. That's our business.

This analysis has made us much more aware of the need to monitor the benchmarks
as thoroughly as we monitor our portfolios. You get what you measure, so you
have to maintain an understanding of the tools you use to get a picture that is
accurate.

FS: THANK YOU, MR. MOLITOR.

Vanguard Fund Scope is a quarterly publication for clients of Vanguard Trust
Investment Services. To obtain extra copies of Vanguard Fund Scope or receive
additional information about Vanguard funds, please call your Vanguard marketing
executive or account manager at 1-800-523-1036.

Vanguard funds are offered by prospectus only. Prospectuses contain more
complete information on risks, advisory fees, distribution charges, and other
expenses and should be read carefully before you invest or send money.
Prospectuses can be obtained directly from The Vanguard Group, P.O. Box 2900,
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