John Bogle, the founder of Vanguard and champion of index funds, marked 65 years in the financial services industry with a special video webcast on Wednesday, talking about his career and evolution of the mutual fund industry and offering investment advice for the long-term.
The format was a Q&A with Rebecca Katz, head of Vanguard’s corporate marketing and communications, who mainly fielded questions that viewers had sent via the webcast or Twitter.
Changes in Market Landscape: Wall Street Rules
Bogle, 87, recalled that when he started in the business in 1951, the mutual industry had assets of $2 billion, turnover of assets was typically 25% a year, redemptions were about 8% on average, meaning the average holding period for investments was 12.5 years, and the weighted average expense ratio was about 60 basis points.
Now, said Bogle, Vanguard alone has $3 trillion in assets, the average asset turnover for the industry is 250%, average redemptions are 25%, meaning the average holding period is four years, and the average expense ratio is 88 basis points, up nearly 50%.
“When you multiply the higher fee rate to $16 trillion, it’s a bonanza for the fund industry,” said Bogle. He bemoaned an industry that is now “owned by financial conglomerates [which] used to be run by money managers.”
Forty of the 50 fund companies are owned by financial conglomerates and they serve two masters: the conglomerates’ shareholders and the fund investors, said Bogle. “No man can serve two masters,” said Bogle. “The one that gets the love is the person who owns the management company. The others get what’s left.”
What Investors Should Do
Get ready for low returns. During his 65 years in the business – Bogle started in 1951 at the Wellington Fund, the predecessor of Vanguard, in 1951 and founded Vanguard in 1974 – stocks gained an average 12% annually, said Bogle.
“That is just not going to happen” now or in the near future, said Bogle. He expects stocks will return “closer to 4%” because of current high valuations – about 22 times earnings when the norm is 16 — and 10-year bond yields, typically above 5.5%, will stay near 2% (they’re currently 1.6%). “We’ll be lucky to get a 4% to 5% return from balanced portfolios for the next 10 years,” said Bogle.
He explained that the reason for these expected low returns is the same reason the market can deliver high returns: the earnings power of corporations. “If dividend yields are lower, reinvestment returns will be lower.”
Still, Bogle said this ho-hum forecast is no reason for investors to get nervous. “Relax,” said Bogle. “The one thing that guarantees an asset value of zero is not investing at all.”
But low returns mean fees matter more, stressed the creator of the first U.S. stock index fund. “Once you get yields at this range – stocks at 2% and bonds 2.5% – what really matters is cost,” said Bogle. “If a stock fund is yielding 2% and has a 1.5% expense ratio you’ll just get half of 1%.”
He implored investors to know how much yield they’re getting and how much expenses they’re paying. “If a fund is taking three-quarters of a percent in yield and putting it in its own pocket, don’t go there.”
Costs trump performance, according to Bogle because “performance can go up and down or anything but costs are forever.”
Bogle advised investors to increase contributions to their savings plans along with rising income, and stay invested. “It’s remarkable what long-term compounding can do without tyranny of compounding costs. It’s magical mathematics.”
Stay invested to maximize the magic of compounding, said Bogle and “don’t peek” at your accounts. Don’t look at them daily or monthly.”
What Investors Should Not Do
In addition to avoiding high cost funds, Bogle warned against reaching for yield in the current low yield environment especially in retirement investments because investors depend on that money. It’s dangerous, according to Bogle. If you reach out too far on the limb on a tree, it snaps off.”
“You have to accept the market returns for what they are going to be. Don’t reach beyond. Don’t lever up.” Bogle denounced triple leverage funds. “All these tricks and shortcuts. Don’t do it,” said Bogle. “Stay the course, the main course.”
He also warned against commodities including precious metals. When asked if precious metals were a good investment, he responded, “No, no, no, with one exception. If you have a significant amount of wealth and are concerned about inflation it’s not the end of the world to put 5% of your money in precious metals funds, but not commodities.”
He suggested that investors take it a step further: creating two buckets for their money: a serious money account and a funny money account so that the latter doesn’t “ruin everything else.” Gold and other precious metals would have a home in the funny money account.
Bogle also warned about excessive trading. “Resist the temptation to move money around. Don’t trade back and forth. You’ll make a mistake.”
He also said investors shouldn’t get hung up on the idea that value is better than growth or vice versa because there have been periods as long as 15 years when growth does better than value. What does occur is a “reversion to the mean,” said Bogle, noting that value does better during some periods, then growth does better, then value again, and repeat.
Taking Stock of a Long Career
Despite his criticism of the mutual fund industry Bogle said he’s had an “unimaginably great” time working in the business and he crowed that “index investing has taken over the world.”
Index investing, “the core of what we do” puts the client first, providing a “fair share of market returns” but “is not a free ride,” said Bogle. “When the market is bad … the index fund will give you that fair share of returns.”
He ended by noting, that like the DOL fiduciary rule, Vanguard “puts the investor first, last and always.”
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