Vanguard's Bogle: Indexing Has Gone 'Too Far'
December 9, 2013
Quiet and peaceful Valley Forge-Pa. is not a place where one would expect to find one of the most successful financial businesses in history — a far cry from the hurry and shuffle of Wall Street. But Vanguard's home there speaks volumes about its ability to maintain its reputation as the lowest-cost provider of mutual funds and ETFs since John Bogle founded the company in 1974, operating on a low-cost basis in a financial world motivated and dominated by profit.
There, 84-year-old Bogle sits signing hundreds of copies of his new book: The Man in the Arena, which just hit bookshelves on Dec. 4, his office desk completely covered with a mounting pile of papers, portraits and pictures of his family on every wall, still energized by the purpose of his work. Be careful not to put down a glass of water on any magazine resting on the coffee table — it's probably a collector's item.
Money Management Executive sat down with Bogle for a nearly 90-minute chat over PB&Js, his lunch of choice. This edited transcript is part one of a three-part series.
Q: You've made a name for yourself arguing about the advantage of index funds over traditionally managed mutual funds. Given the proliferation of indexes, many with slight but meaningful differences, what should money managers and advisors consider as they weigh various index funds against each other?
I think it's gone much too far. Most of them are not worth the powder to blow them to hell. I think there are 1,500 ETFs in the U.S. It doesn't work in the long-run. I can't think of a worse way to invest. All that leverage doesn't work over the long term.
Commodity ETFs also have a big problem with contango. Roughly speaking, the funds can't always deliver the returns an investor would expect based on the value of the underlying commodity. For example, oil prices might be rising, but an oil ETF could still lose money. And they are a bunch of those narrow market segments — particularly in international markets, which I think are risky in a way the U.S. is not.
One of the original ETFs is called Emerging Cancer. I wrote about it in a Wall Street Journal op-ed and I got a nasty letter from this company saying, "look you had your chance to do what you wanted to do and it worked fine so let us do what we want to do and see how that works." The Emerging Cancer ETF is now gone. The fact that it was dealing with cancer research and genetics was just too narrow.
It's 1,450 out of 1,500 ETF funds that I just wouldn't touch because they're not diversified enough. Or they have some huge speculative twist to them that if you can guess the markets right you will do very well for a day or two but who can do that? Nobody.
When I came into this business, institutions owned 8% of all stocks and now they own 70% of all stocks. And all those smart people are of course average. It's all mad and people don't understand this. They all think they can win when obviously only half of them can win.
Q: You say that it is a mistake for actively managed mutual fund managers to expect their performance to surpass a well-run index fund over a long period of time. Where is there opportunity for active management?
You've got to think you can pick above average funds and the way you can do that is by looking at performance. In my last book The Clash of the Cultures: Investment vs. Speculation, chapter nine presents a series of eight charts depicting returns for the great mutual funds of the modern era versus the stock market: Magellan, Janus Capital, Windsor, Ivest (the fund I made the horrible mistake of taking on with the merger back in 1966). Each fund hits a high relative to the market, then reversion to the mean sets in and they never hit their high again. You can find this pattern in a lot more funds. People look back and they saw this great performance and they said the past is prologue and unfortunately in this business the past is probably anti-prologue. The better you've done yesterday the worse you'll do tomorrow. It's almost written in the cards.