Bogle: Fiduciary Duty Comes Down to ‘Simple Mathematics’

The Vanguard founder takes issue with big fund companies’ denial that investors are aware that cost matters

John Bogle cited BlackRock's recent fee cuts as an illustration of how costs matter to investors. (Photo: Bloomberg) John Bogle cited BlackRock's recent fee cuts as an illustration of how costs matter to investors. (Photo: Bloomberg)

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John Bogle, founder of Vanguard, said Thursday that fiduciary duty comes down to “simple mathematics” and that even if Securities and Exchange Commission (SEC) Chairwoman Mary Schapiro decides to leave her post at year-end and a fiduciary duty rule loses momentum, “We’ll keep at it.”

Speaking at the National Association of Personal Financial Advisors (NAPFA) East conference in Baltimore, Bogle said that while Schapiro “loves the idea” of a fiduciary duty rule for brokers, she has been “so frustrated” with internal opposition to such a rule at the agency as well as in Congress.

Fiduciary duty, Bogle said, “comes down to a simple mathematical calculation: How the rewards of investing are divided between the providers of financial services and their clients who put up their capital. Why? Because for investors as a group, gross returns in the financial markets, minus the costs of financial service providers, equals the net returns that are actually delivered to investors.”

In a separate question and answer session after his remarks, Bogle said he believed any fiduciary rule would likely be "disclosure" based.

The mutual fund field, he said, “is one in which investors, as a group, as a matter of mathematical certainty, not only do not get what they pay for, but get precisely what they do not pay for. Let me put the conclusion in its sharpest formulation: if investors pay nothing, they get everything—that is, 100% of the gains that our stock market is generous enough to bestow on us, and for that matter, 100% of the losses that our market is mean enough to inflict on us.”

Bogle went on to say that in the short run, “investment costs may seem inconsequential. But in the long run, costs overwhelm the market.”

Day after day, Bogle said, “more investors are becoming aware that costs matter,” what Bogle called CMH—the Cost Matters Hypothesis—which, he said, “simply reflects the obvious concept that investor returns are ultimately determined by, I emphasize again, the allocation of financial market returns between financial service providers and the investors they are duty-bound to serve." Yet big fund groups seem to be oblivious to investors’ awareness of costs, he said.

“As I look around the competitive landscape, I see the apparent denial” of how much costs matter to investors. Noting his “great respect” for BlackRock chief Laurence Fink, Bogle said Fink’s position “in exchange-traded funds (ETFs) is caught on the horns of a nasty dilemma: On the one hand, he has a fiduciary duty to the shareholders of BlackRock to maximize assets under management, to maximize advisory fees, and to maximize profits. On the other hand, he also has a fiduciary duty to the clients of his mutual funds and ETFs to maximize their returns. Since BlackRock’s business is dominated by index funds, he can enhance their performance only by reducing fees.”

BlackRock’s “considerable success” in recent years in the ETF marketplace “was increasingly threatened by competitors with far lower fee rates,” Bogle said. A few weeks ago, he continued, “Fink accepted the inevitable: slashing fees on some of BlackRock's ETFs, and offering other similar copycat funds at competitive costs while maintaining present expense ratios of the originals.”

Quoting a Wall Street Journalarticle, Bogle said that “in being forced to make these decisions, Fink was not amused” as he "railed against competitors that ‘sell investment products at cost’ or without profit.”

Bogle quoted the Journal article, in which Fink said, “You can call that fee pressure,” adding that he had another word for it: “stupidity.”

A BlackRock spokesperson told AdvisorOne that Fink was referring to "institutional products rather than ordinary mutual or exchange-traded funds."

However, Bogle’s response on Thursday was: “As the creator of Vanguard’s mutual ‘at-cost’ strategy way back in 1974, I accept the fact that, from his perspective, I’m stupid. But our tens of millions of Vanguard shareholders—now accounting for almost 20% of assets of all long-term mutual funds—don’t seem to feel the same way.”

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