Did Bogle Blunder?
I HAVE LONG ADMIRED my grandfather, John H. Watson, for chronicling the contributions to criminology made by his close friend, Sherlock Holmes, Esq. Since retiring from my psychiatry practice, I have similarly had the pleasure, if not the duty, to record the efforts of his grandson Sherwood to expose wrongdoing in the financial industry.
The more informed among you are no doubt familiar with my latest study, The Disappearance of the Load Fund. This account concerns one Mr. Jack Bogle, who revolutionized the mutual fund business in 1976 by opening the first index fund available to individual investors. Not surprisingly, he was derided and vilified by the mutual fund establishment, which had for more than half-a-century gorged itself on excessive management fees and ancillary charges that maintained massive—and massively inept—research departments.
In the face of propaganda from the mutual fund establishment, Bogle’s innovation garnered little acceptance at first. But as the fund began to deliver on its promise of low cost, tax-efficiency and improved performance, the concept of the index fund achieved a pedigree once reserved exclusively for the actively managed no-load fund. For several decades now, assets of index funds have continued to grow exponentially, even as those of traditional active funds have stagnated. For his foresight and tenacity in developing the index fund, Jack Bogle is a market legend.
But just yesterday, I received this pugnacious post from an aggrieved investor:
Last weekend, I attended a lecture given by your associate, Mr. Sherwood Holmes, esteemed advocate of the index mutual fund and exchange-traded fund (ETF). I must express my profound disappointment with his insufferable airs and ignorance about the last stage of Mr. Bogle’s career. Doesn’t your friend know that Bogle inveighed against the advent of the ETF? That he would have denied retail investors access to one of the most dynamic financial products ever launched? No, no, no, this fellow Bogle was no intrepid explorer, but rather an obstacle to progress.
Please convey my displeasure to Mr. Holmes, who I am sure will be so gracious as to reimburse my payment for his presentation to my charge card. He will no doubt be familiar with my name, as it was my grandfather James who pushed his grandfather over the Reichenbach Falls .
As ever,
Prof. Daniel Moriarty
My incredulity at this bombast was interrupted by the rapid three-knock arrival of Sherwood Holmes. “Holmes, Holmes, what a propitious moment for you to return,” I said. “I am in receipt of a post calling you out as undignified and uninformed about Mr. Jack Bogle’s opposition to the proliferation of the fabulously successful ETF. He is positively apoplectic about your unconditional praise for this pioneer of low-cost index mutual funds.”
“Have some tea, Watson, and perhaps one of those benzodiazepine pills you peddle,” Holmes responded. “The Moriartys have been a Holmes family nemesis for over 100 years. I am not in the least deterred.”
Without warning, Holmes sprang out of his chair, his angular frame facing the door. “Watson, we have a visitor. When you hear the knock, please invite our guest into the consulting room.”
“But Holmes," I stammered, “how could you possibly—"
“Elementary, my dear Watson. I always scan my audience. I quickly identified Moriarty and anticipated this harangue. Our guest is a Morningstar employee, and I requested he bring the firm’s recent article about Bogle and the ETF to clarify my position. As to your question, Watson, our guest was the only man on the sidewalk approaching our flat carrying a briefcase. If you would imbibe less CNBC and turn off that boisterous clown Cramer, you might learn there’s more to know about human behavior than momentum.”
Naturally brusque and stone-faced, Holmes could feign propriety. He gestured our visitor toward the couch across from his chair. “Please enlighten us about our subject, Jack Bogle’s view of the ETF.”
Holmes leaned forward, his eyes glistening.
“Well, Mr. Holmes, Jack despised ETFs,” said the Morningstar employee. “He considered them more a marketing ploy than a legitimate investment vehicle. He felt people wanting to build a nest egg for education or retirement would misuse the product and miss out on the compounded 10% average annual return of the stock market. But that fear hasn’t been borne out. We’ve found that most retail investors don’t rapidly trade ETFs, but rather hold them for the long haul.”
My friend slumped back in his chair. “But I thought—”
“Yes, Mr. Holmes, Jack was spot on about something important—the greed of the purveyors,” our visitor from Morningstar went on. “The asset managers who issued ETFs were flush with their ingenuity and their profits.”
Holmes shifted impatiently in his chair.
“It was only a matter of time before fund families realized they could pump up ETFs’ attractiveness by offering higher volatility than mutual funds. They created funds built on narrow sectors, leverage and even commodities, appealing to investors’ craving for quick and big profits. They launched these funds during bull markets, only for the funds to suffer mightily when the mood turned sour. When you add to that the penchant of people to buy high and sell low, you get a sorry outcome.”
The Morningstar employee continued: “But remember, Jack was an old mutual fund guy and his index fund was already tax-advantaged. He just couldn’t appreciate the many virtues of this investment alternative. He was loyal to his invention. In other words, like most market observers, Mr. Bogle was right and he was wrong. Fortunately, his mastery of the machinations of the financial business and his development of the broad market index mutual fund qualify him as a market visionary.”
We thanked our guest for his affability and knowledge, and I accompanied him to the front parlor. When I returned, I was hardly surprised that partial redemption was not enough for my dear friend Holmes. I began to protest as he was about prick his forearm with the needle, but to no avail. He was already reclined on the couch and beginning to imagine peace from the avarice of asset management companies.
As I leaned over to say goodnight, he said, “Watson, no worries, it’s just Prozac.”
Steve Abramowitz is a psychologist in Sacramento, California. Earlier in his career, Steve was a university professor, including serving as research director for the psychiatry department at the University of California, Davis. He also ran his own investment advisory firm. Check out Steve's earlier articles.
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