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Audio: THE FOLLOWING IS A NH OUTLOOK ON MONEY SPECIAL PRESENTATION. Video: Slate of Outlook on Money graphic over Outlook on Money animated background Audio: In Partnership with The Initiative for Corporate Responsibility and Investor Protection. Video: The Initiative Logo on same animated background Audio: From the Institute of Politics at Saint Anselm College. Video: Saint Anselm beauty shot with logo. Audio: It's More than Money with Myron Kandel Video: Honest Money with Myron Kandel full screen open graphic. |
| Bogle Transcript 1 Return to index of stories... |
Myron Kandel: Welcome to this first edition of More than Money with Myron Kandel, that's me! After 25 years of the founding financial editor of CNN I have come to NH to head the initiative for corporate responsibility and investor protection. Which aims to bring those issues into the public spotlight. In addition to conducting a number of highly profiled forums on these subjects, I will be interviewing in this more than money series, some of the movers and shakers in business, government and the media, to enable all of us to benefit from their experience, their knowledge, and expertise. I can think of no one better to launch this program than John Bogle, one of the giants of the investor business, dedicated defender of the individual investor, and advocate of corporate reform. Myron Kandel: John Bogle, everybody calls him Jack, and he's probably going to call me Mike, founded the Vanguard complex of mutual funds, now the second biggest in the world with a trillion dollars under management, he created the index fund concept. He's an outspoken maverick in a generally button down business, and he expressed his views in five books in investing and corporate ethics, a sixth on the way, title The Little Book on Index Investing. Jack, thanks for joining us, and let me ask you, why is the index investing better than using all those highly paid brains on Wall Street? Jack Bogle: well the answer to that is a simple one mike, and that is the only way, owning the stock market at virtually zero cost, is the only way to guarantee that you will earn your fair share of whatever returns the bottom markets are generous enough to give us. You got the whole return, you know, the mutual fund industry is this funny business you don't get what you pay for, you get what you don't pay for, it turns out you get precisely what you don't pay for in the financial business, and therefore you pay nothing and you get everything that's your answer. Myron Kandel: well what do you say you don't get anything when you pay for it, I mean after all there are some of these people we read about in the papers, we see on television, who are supposedly great guru's of investing, why not pick one of them and invest with them? Jack Bogle: well if there are 10,000 of them out there, there are probably going to be ten that will have, will be able to flip if you will, will be able to flip heads 10 times in a row. Well there are ten winners in the coin tossing contest, just what the laws of random distribution of returns are. So we're to quote the name of a recent book, fooled by randomness, if somebody has done well we think its skill, it turns out its much more likely to be luck and to make matters worse its very expensive luck, because if the stock market gives us an 8% return and the average mutual fund takes out 2.5% a year, you're left with 5.5%, not good. Myron Kandel: now, the average index fund takes out less, what's the average there? Jack Bogle: the average index funds, good low cost index funds, some of them I have to tell you are outrageously highly priced, is going to charge between a tenth of one percent and two tenths of one percent a year on an 8% market where the average fund investor is going to get 5.5%, the average index fund investor is going to get between 7.8% and 7.9%. a staggering difference over time. Myron Kandel: now when you created the Vanguard index fund which was the first one of its kind just about 30 years old. You picked the SMP 500 as your index, now there are some people that think that that is a little outdated, that there are ways of doing it better, how do you answer that? Jack Bogle: well there is one way that you could probably do it a little bit better and that is instead of owning the SMP500, which is 80% of the value of the market, you can own the total stock market yourself and that's a perfectly legitimate choice to make. In the long run the record is quite clear, they'll be very much the same, but in the short run, the total stock market might be a little better or a little worse. What we have now is a new idea that says you can beat the market with new kinds of indexes and it's a little bit complicated but let me assure you that it doesn't work because guaranteeing your fair share of market returns simply means that you will do better than your neighbor. These new indexes have no core that runs back to the total market. May do better for a while, may do worse, you just don't know. Myron Kandel: well you know that you've spent more than a half a century in the mutual fund business, your entire working life, you're not very popular among many others in the mutual fund business. You really are a maverick, how do you feel about that? Jack Bogle: well, it has been observed, I have to tell you, I think correctly that if there were a contest for unpopularity within the mutual fund industry, or within Wall Street, no one could even figure out who would be in second place. However, a number of people have come up to me when I walk through the airport or visit a group in NH, and think if there was a contest, and I have been told this, I didn't make it up myself, if there was a contest of popularity among investors, they also don't know who would be in second place. So would I rather be popular with investors or the financial system, believe me I don't have to think twice about that. Myron Kandel: you know some years ago the renowned economist Paul Samuelson said that in the investment world, your creation of the index fund was the equivalent of inventing the wheel. You talk to him, how does he feel about that now? Jack Bogle: he feels the exact same way, except he now says the invention of the wheel and the invention of the alphabet is right up there. Now I don't happen to believe this, but on the other hand, he is a Nobel Laureate, with 92 years of wisdom, who am I to argue with him. Myron Kandel: I think, didn't he once credit you with putting his kids through college? Jack Bogle: he did, I've told him I owed him everything for the wonderful things he's done for me over my career and he says he owes me more, because he invested in the Vanguard 500 index, wrote a column in Newsweek when it came out, said his prayers have been answered, he received our prospectus in the mail and that was thirty years ago. Myron Kandel: ok, I want to get back to what I talked about earlier, of newfangled methods of indexing, now you know, nobody denies that the broad index, the SMP500, is very good, but isn't possible that there are other indexes that might be even better? |
| Bogle Transcript 2 Return to index of stories... |
Jack Bogle: its always possible that there might be other indexes that might be better, but not everyone can do it. The great thing about indexing is it is the market, so if you own the market, and don't lose by the amount of cost, you will essentially capture the market return. Yes it is possible that someone else could find some other way, its like a manager that says I can pick stocks better than anyone else, maybe he can maybe he can't. what's he going to do when he puts his thesis forward, he's going to say look at the past and you'll see I have done it. The past is not prologue in this business. The reality is if a system has appeared to do well, like today the current vogue is dividend paying stocks or value stocks, they've done very well since the high in the market, they've withheld or withstood that decline in the market from the high in 2000. they've done much better, so now that its over they are telling us we've done better for the last 5 years. Well where were they five years ago when we needed them. Myron Kandel: what have you done for me lately? Ok but in that regard, some people say find out who the mutual fund managers are who did the best last year, last couple of years, and invest with them, I don't think you agree with that. Jack Bogle: no I don't agree with that. We see it time and again the fact that last years best performers don't do very well this year. We did a little test just for the fun of it in the very speculative market showing the 10 top performers of about 850 funds, that was all the equity funds that existed from 1996-1999 in the bull market. And they ranked 1,2,3,4,5 through 10. we then looked at them in the three years that followed, 2000-2002, and they ranked 850, 849, 838, 821, the best of them ranked 795, so you're a good reader of the bible mike, the last shall be first and the first shall be last. Myron Kandel: there are not too many people on Wall Street that quote the bible. But you know, ok, lets accept index funds are great, I'd rather get into an index fund when the market is near its low then when it's near its high. How do you do that? Jack Bogle: Well, in general, it is not possible to do that. The markets go up and down, and you'll wait and wait but don't forget its not getting in once or twice, its getting in all through a lifetime. There are probably, just speaking top of the head here for a minute, there are probably going to be in an investors lifetime, let me say six periods when the market is really out of whack with its true intrinsic value. Three times its going to be far too high, three times its going to be far too low. All the rest is pretty much noise, on the other hand, why did we get fooled and buy the index, or buy the market in the early part of 2000, when we could have gotten out then and done much better. Well you could make the same argument and you would have gotten out in 1998, but you would have had to sit there for two years of a great bull market and the temptation gets over powering, our emotions get the best of us. So if you invest regularly in the total stock market, you do quoting the great buffet, you eliminate the two greatest enemies of the equity investor: one is expenses, and the other is emotions. Jack Bogle: your emotions lead you to be, what do your emotions lead you to be, very bullish, very optimistic when the markets at an all time high, that's why its at an all time high, how do you feel when it goes down 50% to a low, your depressed, you want to get out, you can stand the pain, that's the time to get in. so its staying the course, that's the phrase I've used more than once in my career. That is the key rather than to do this kind of timing. Myron Kandel: during the Wall Street scandals that accompanied and followed the corporate scandals, people said to me more than one, said I don't have to worry about those wall street scandals because I am investing in mutual funds and they are squeaky clean. And then sadly we learn that mutual funds are not squeaky clean, we've had late trading and other abuses, as someone who has spent his entire career in mutual funds, how do you feel about that? Jack Bogle: I feel sickened by it. We've turned what was once, when I came into it all those years ago, a wonderful profession that had some aspects of a business, as all professions do. We've turned it into a business, a great big marketing business. Asset gathering is what mutual funds are all about now, with very few elements of a profession left in it. We've got to get back to thinking about trusteeship, fiduciary duty, and of putting the shareholder first. They are not complicated concepts. Myron Kandel: now you've said that in many cases mutual funds are really operated for the benefit of the management companies that manage the funds, and not for the interest of the investors who invest in those funds. What can we do about that? Jack Bogle: well, first, I mean there are really two things we can do, one of which, I'll give you the one that nobody likes first, and that is I think we need a federal statute of fiduciary duty that requires mutual fund directors to put the interest of fund share holders first and foremost, really first and only order of priority. That is what the investment company act of 1940 seems to be saying or really is saying when it says, this is federal statute by the way, mutual funds must be organized operated and managed in the interest of their shareholders rather than the interest of their managers and distributors. We need to put some meat on the bones of that high policy objective, that noble policy objective I might even say, that's going to be a hard thing to do, so we have to then go to and this should work, it will take time, what we call the Adam Smith solution. The invisible hand, we're all the invisible hand. There's no law, that requires an investor to participate in the seamy side of the mutual fund business. Jack Bogle: you can seek out very low cost funds, you can seek out index funds, you can seek out companies that have not been involved in the scandal. You can seek out companies that are investing for the long term, mutual funds I am speaking here, investing for the long term rather than speculating for the short term. You can seek out companies that are looking at corporations because they have a business value and not a speculative value that comes and goes. You can look out for mutual funds that have some sense of tax efficiency. One of the great scandals of the business, turnover is so high, that we impose staggering amounts of unnecessary taxes on our shareholders. So there are good options, not nearly enough in the fund industry, and if investors, investors really need to look out for their own interest until we get directors to look out for their interest which is what the law requires but is what I'm afraid is not happening very well. Myron Kandel: now, you feel that, and you've testified before congress on this, and spoken out, that the chairman of the mutual fund itself should be an independent person and not a representative of the management company that runs the fund, right, now why is that opposed? It seems so natural. Jack Bogle: well because there are powerful economic interests at stake here. And the typical fund manager wants to make all the profits he can or she can and they control the fund board by sitting there as chairman and the management company only has the chairman of the board and a number of its most informed board members, but they provide all the information to the directors. They probably don't come in and say well fellow directors we had a bad year and our costs are too high so I suggest you get another manager. I don't think that's ever been said in this business. So they have a lock on it and it violates the fundamental American precept of separation of powers. I have often said quoting James Madison, who said if men were angels, no government would be necessary, to what I would say if mutual fund chairman were angels, no governance would be necessary. The management company could have it its own way. But we have to divide up the powers so mutual fund shareholder, the man on the street, the woman on the street, the people who commit their hard earned savings for a lifetime gets a fair shake and we're not going to get it unless we have a structure that works in a proper and effective way. Myron Kandel: now, you just talked about the chairman of the board of the mutual fund itself, but you've gone so far as to say that not only should the chairman be independent of the management company, but the entire board 100% should be independent. Isn't that going a little too far? Jack Bogle: well how can it be going too far, its not going to happen because things that are really right and clear sometimes don't happen. The fact of the matter is that every management company sitting in that board room has an invested interest in having that contract with the manager continued by the funds, has knowledge they can use one way or another, has influence they can use one way or another, and they have an absolute direct conflict of interest and the law in the U.S., present state of the law, is you can disclose that conflict and get rid of it. Basically you say to the other directors there is a conflict here and here's what I want you to do, whether its actually expressed or explicit I don't know. I think the conflict is so profound that it cannot be disclosed away. Have an independent group watching over the funds shareholders. Why have the foxes watching the henhouse, that's not the way I would do it. Myron Kandel: how do you feel about the possibility of that happening? Jack Bogle: I don't worry a lot about possibilities mike. In the long run it is going to happen. In the long run it is going to happen, because investors are not going to ignore their own economic interest forever. They may ignore their economic interest for the rest of my relatively short life time, they might even ignore their economic interest for the long years you have left in your life, but not forever. So investors need to wake up and it will happen. There will be more vanguards. More truly mutual mutual funds and I hope there will be one or two in my lifetime but if there not I will go comfortable in my reward that I know they are going to happen. |
| Bogle Transcript 3 Return to index of stories... |
Myron Kandel: you know one of our slogans at the initiative is that using the words of Justice Louis Brandeis, that sunshine is the best disinfectant. That's another example of that. You refer to hedge funds, they are much in the news these days, their huge numbers, some people say they dominate the market, and certainly some aspects of the market they are dominant, are they a danger to our investment scene? Jack Bogle: well I think they are quite a danger to individual investors to get involved in them. First of all hedge funds are very very different. There not all good or all bad, they are like people, there's a little bit of each ilk out there. Some of them are enormously speculative, have leverage that you wouldn't believe, it would curl your hair, even curl mine, if you knew what was going on behind the doors of these hedge funds and we read about it in the papers almost daily now, but 700 hedge funds go out of business every year, so their dangerous to the people who are investing in them, and given too much leverage, as we've had in the case of long term capital management a few years ago, that really required a sort of federal reserve, not an intervention of the federal reserve, but a collection of banks that finally realized how serious the problem was and got together to try and solve it. They do pose a financial danger, don't know what quite to do about it, maybe have the banks do a better job with how they do their lending. Myron Kandel: are you in favor of more regulation of hedge funds at the federal level? Jack Bogle: well I don't want to, I'm not too much of a regulation believer, I do think it was a healthy idea for the SEC to require not regulation, but registration of hedge funds so at least they knew where the money flows and what they were investing in and that would have made for a healthier picture and probably would have modified behavior, going back to Brandeis's comment, it would have added a little sunlight even in the regulatory area. But you can't you know everyone knows, they'll move off shore and do the same wild things from Jamaica, or Luxembourg or wherever it might be, Monaco, I don't know where they go, its very hard to regulate investment behavior and our financial markets I think basically are served by free access in and out, free mobility to create capital, manage capital, invest capital. Myron Kandel: you know, you say your not in favor of regulation, but you recognize that regulation particularly in the securities markets both at the Federal and state level is necessary and important and has done some very important work in protecting the investor. Jack Bogle: oh absolutely, but our federal securities laws and the states tend to be this way, are much more inclined to regulate things like disclosure, to make sure you know what's in that. That's why we have a prospectus, it gives you the risks, costs, everything of that nature. Of course I'm in favor of that, totally in favor of it, my problem with regulation is to say well you can't invest in this kind of a company, you can't invest in small companies, you can't invest in risky companies, I don't think those are good regulations as long as the investor knows that the portfolio, the fund, or company itself is a very risky thing. Myron Kandel: I hesitate to issue with you, but I will, what regulation prevents investors from investing in risky investments, assuming their legitimate? Jack Bogle: I am saying there should not be regulation that keeps them from doing that. Myron Kandel: ok good. The fact of the way hedge funds are so short term orientated, you referred earlier to short term speculation, raises the issue of who owns the corporation. We said for years, the corporation is owned not by its management, whether it's a mutual fund or regular corporation, its owned by its investors. Who's the investor, the guy who was in this morning and is going to be out this afternoon, is it the person who's been for the long term, cares about health of the corporation, the people in the community, are there obligations beyond the short term interest of investors. Jack Bogle: that's actually a wonderful question, I don't think very many people are aware of how much the idea of ownership has changed, it seems like only yesterday that we actually had an ownership society. The ownership society has vanished from America, no matter what the administration may say, and it vanished a long time ago. In 1950, 92% think about this for a minute, of all stocks were held by individuals, they owned the stock and 8% were held by institutions. Now institutions own, not 8%, but 68% of all stocks, they control corporate America. But they are not owners in two very important senses: one, they are not owners because they are not the last line beneficiaries, they are agents of owners. We have taken ownership society and turned it into an agency society. Agency law has been turned on its head because the agents aren't recognizing the interests of their principles. The beneficiaries, the pension plans, mutual funds. We have an agency society without new rules to take care of this regulation. Jack Bogle: the other thing is, these crazy agents aren't owners in another sense, and that is they hold stock for an average of one year. They are in a rent a stock industry, and not an own a stock industry on average. We fall back on a small handful of long term investors these agents who are long term investors, maybe 20% of the total is all it is, but even they aren't doing their job of behaving like owners, and making sure the companies are running in favor of the share holders. Myron Kandel: but you still believe in the stock market? Jack Bogle: I still believe in the stock market but I think we have a lot of work to do when we have using this terminology I think it fits into a pretty easily understandable pattern. The ownership society is gone, and its not going to return, the agency society has failed by letting down its principles, so we need to have a fiduciary society where our pension trustees and mutual fund trustees and directors are acting in the interest of the American public investor. That's what we need. I've often said that Jack Bogle is the only member of the investment community who demonstratively has a heart. And the reason I can say that is that Jack Bogle had a heart transplant 10 years ago and he's going strong. Jack let me ask you this, did your outlook on life or the investment business change with a younger heart? Jack Bogle: well my heart, truth told, I received the heart of a man as it happens, who died at age 26, so I'm only 36 years old now, but the answer is, I've been asked the question in a lot of different ways but you would think to have the miracle of a second chance at life, to have the gift of 10 more years at life would make you much better person in all the ways you've suggested mike, and I'm afraid that I am still the same old flawed, fallible bogle that I have always been, but I try and improve every day in every way and I try to get a little bit better and maybe one day I'll get there. But not today. Myron Kandel: well I think that all of us here today agree that your doing well and we really appreciate your being here. Thank you very much |