Credit: Shutterstock photoJohn Bogle is a titan in the mutual fund industry.
Bogle, who will shortly turn 85, founded Vanguard Group in 1974. He served as chairman and CEO until 1996 and senior chairman until 2000.
Since then he's been president of the Bogle Financial Markets Research Center, created by Vanguard. That gives him a forum for research, writing and speaking about the markets and the industry he has impacted so much. Now he is as well known for his pull-no-punches opinions as for his industry innovations.
Bogle started Vanguard 500 Index Fund in 1975. It was the first index fund. It was the sixth-largest mutual fund as of March 27, according to Lipper Inc.
Vanguard's $2.2 trillion in assets under management make it the largest fund complex.
Bogle talked about industry trends and the markets with IBD from his office in Malvern, Pa.
IBD: You advocate use of index funds because you think it's too hard to outguess the market with mutual funds. You advise shareholders that the best defense is to diversify across the entire market in a low-cost vehicle.
Bogle: You're not missing anything. What people can't seem to get through their heads is that to win with active management, you must succeed as a trader. But somebody else must lose by the same amount. We all can't outsmart each other, so somebody has to lose. The real world isn't like (fictitious) Lake Wobegon, where all the money managers are above average.
IBD: That's a reason for diversifying. Fees and costs make it more difficult to come out ahead, correct?
Bogle: Right, it costs money to compete, what with brokerage fees, bid-ask spreads, market impact of trades, manager fees, all of those marketing costs. So what you as a shareholder do is collect the market return of your fund, less all of those costs of intermediation. The math is simple and critical and irrefutable and eternal.
IBD: Let me play devil's advocate. I can list managers who seem to shred that theory. Over the past 10 years their respective records not only beat the broad market as measured by the S&P 500, they trounced it. Just some of the names: Dennis Lynch at Morgan Stanley Focus Growth , Richard Freeman at ClearBridge Aggressive Growth , Thomas Ognar at Wells Fargo Advantage Growth and Chris Bonavico at Delaware Select Growth . So clearly, can't people consistently beat the market with funds?
Bogle: Yes, we have some icons. And they're good. Warren Buffett is terrific but his investment record is not that good in recent years. Instead, he's made a lot of money because of reinsurance and the bet he made earlier on Geico.
Those people you named -- I'm not saying they won't do well (going forward). I'm just saying the past is not prologue.
Even if you find one manager who can do it, can you do that over again? You have an investment horizon of maybe 70 or 80 years in your lifetime because people are living longer. How many managers will you have? Will they offset each other? Will they be in business over your entire horizon? Who will their successors be? Will they be as good?
IBD: But why not use consistent outperformers?
Bogle: If someone has enough money, I wouldn't give them a hard time for putting maybe 10% into what I call funny money -- active managers.
IBD: When you find a consistent outperformer, don't you benefit?
Bogle: The stock market is not what creates value. Value is created by corporate America. That's dividend yield plus the earnings growth that ensues. And that's my formula for investment return.
That 9% annual rate of return long-term for stocks that you read about? It's because the average long-term yield is 4.5%. The other half is the growth of 4.5%. Of course, yield isn't anywhere near 4.5% (on long-term Treasurys) now, which is a warning that future returns will be lower.
My point is that you hope to capture as much of that average 9% return a year as you can. You do it by minimizing your costs.
IBD: Your outlook sounds pessimistic.
Bogle: Investing and asset allocation may not be the best strategy. But the number of strategies that are worse is infinite.
IBD: You've said offering shareholders ETFs is like handing matches to an arsonist. Yet ETFs feature low costs. Why don't you like them?
Bogle: I don't want that comment to be too generalized. An ETF is an index fund. The only difference is that you can trade it all day. That's the problem.
We've gotten way past the idea that they are tax efficient. They're not, especially if you trade them all day.
Terry Odeon (professor of finance at the University of California, Berkeley) has done studies that show the more you trade, the worse you do (due to transaction costs and other costs). You can't outperform by trading more.
IBD: Don't ETFs give an informed investor a shot at specific, rising markets?
Bogle: Trading is a losing game. You might as well buy regular shares (directly in individual stocks).
IBD: Let's talk about funds, because using a proven individual stock strategy can be worthwhile. So what about ETFs that target a market with potential to rise?
Bogle: Probably 10% of ETFs are all-market funds. The other 90% are picking slices of the market. Some are very narrow, like that Nashville (Area)ETF ( NASH ). There was the (HealthShares) Emerging Cancer ETF, which has come and gone. Every year we lose a couple hundred ETFs. An entrepreneur fills a gap, no one likes it, they get out.
Then there are the fruit-and-nut cake ETFs, like triple leverage up and down funds. They are total speculation. They have nothing to do with long-term investing.
And why buy an individual foreign country?
So if we're talking about broad-market ETFs that are traded with reluctance, ETFs are fine. But those are only 5% to 10% of the ETF market. The other 90% do too much trading.
IBD: Do you still own shares in Vanguard Wellington Fund ? If so, aren't you a shareholder in an actively managed fund?
Bogle: First, let me make one point clear. I own a lot because I started working at Wellington Management in 1951. We had a defined contribution pension plan, and 15% of my compensation went into that plan, which is entirely the Wellington Fund. I've been accumulating it for 60 years and I'm not about to stop.
I've kept the original legacy position for two reasons. One, that was the fund I was brought up with. Two, its founder, Walter Morgan, gave me my job at Wellington. I owe it to him.
IBD: It's not exactly a gonzo actively managed fund is it?
Bogle: The typical fund, 85% of its performance is determined by action of the stock market. In Wellington Fund's case, in the last decade 97% of its return has been determined by the return of the index I put together for them in 1978.
It consists 35% of a corporate bond index fund, I think it's the Barclays Aggregate now. And 65% is the total stock market index fund. So 3% of its performance is due to active management.
This is less than traitorous of me (regarding his advocacy of index investing). Basically, it's close to a balanced index fund.
IBD: You also own shares in your son's fund, $241 million Bogle Small Cap Growth , which is actively managed.
Bogle: If you have a son, I don't think it would be. ... I'm reasonably well-to-do. It's not sinful to provide him with some of his initial capital. He's had good years and bad, like any fund. On balance, he's been an extremely successful manager. So I have no apologies. I even brag about it!
IBD: Vanguard's founding came about through a defeat, right?
Bogle: It came about after the merger of Wellington with Thorndike, Doran, Paine & Lewis. That was my biggest mistake but not my biggest regret, because if I hadn't done that merger, I wouldn't have been fired and there would be no Vanguard.
The merger led to the fund managers loading Wellington Fund with go-go stocks. They turned out to be come and go. The performance was disastrous, and they fired me. I convinced them to form a new company. They insisted on keeping the Wellington name, so I had to come up with another, which turned out to be Vanguard.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.
