There are two artifacts on the Vanguard Group's Valley Forge, Penn. campus that recall a 25-year-old fight. One is an eight-foot statue of John Bogle that executives pass each day on their way to the lunchroom. The other is a poster outside Bogle's office door. In the style of World War II-era propaganda, it reads: "Help stamp out index funds. Index funds are un-American."
Bogle, who launched the first index fund for individual investors in 1976, keeps the poster around as a sort of "in-your-face" to an industry that scorned the vehicles 25 years ago. Those were difficult times. Bogle had been forced out as head of Wellington Management. Markets were vicious. And the press was treating the idea of index investing about as well as the markets were treating people's money.
That year, the Boston Globe called the idea "conceding defeat," according to clips saved by Vanguard employees. An executive at the time called the idea "a crime" and a "cop-out." And another said indexing amounted to "a sure path to mediocrity."
Bogle never doubted the idea that would redeem him after his failure at Wellington. Since his college days at Princeton, he had held that beating the markets was a costly, risky endeavor for the individual investor--and many would no doubt get burned in that pursuit. Now, as the Vanguard 500 Index fund, the first of its kind, celebrates its 25th anniversary this year, more than $331.2 billion is invested in the vehicles. Vanguard's 500 Index product is the largest of them with $91.5 billion invested. And six of the company's 31 index products make up the 10 largest index funds in the market.
Bogle, 72 and retired from his duties heading Vanguard, still looms large over the Valley Forge campus. He has been a staunch advocate of cutting costs to investors. And index funds, with their hands-off management structure, have played hugely into that mantra. Index vehicles make up more than 40% of Vanguard's products, said Jim Stetler, a principal who has been with the company 20 years and works in its quantitative equity group.
But it's also Bogle's grit that keeps his legacy rumbling. Today, he talks with a sense of urgency, part infomercial weight-loss guru, part politician, as though all of the success of index investing never happened and he actually needed to pitch the product as an unheard-of yet viable idea. And that urgency is punctuated by a deep, youthful voice that rises to near-squeak when he drills his idea down.
Asked how index investing is likely to change in the coming years, he good-naturedly shouts: "No, no, no! It can't change. There is no guaranteed way other than owning the market. The more you trade, the more you lose. That's the Bogle theory and it's true."
Bogle maintains anybody "who departs from the market and wins is offset by someone who departs from the market and loses." Portfolio managers drive costs up with frequent turnover, he says. And he incredulously points out that investors must absorb all of the risk of non-index investing--and pay hefty fees in the process.
Getting It Right
In addition, 80% of index funds have it wrong, he says. Their fees are too high and those that do "get it right are temporarily waiving their fees," which Bogle says is a mistake. The point of the whole idea, he says, was to throw portfolio management theory out the window and simply garner sound returns over long periods from a holistic view of the markets' performance while keeping costs down.
"The index fund represents the dilemma of the financial services business," he says. Companies need to balance their own profitability against the notion that fees must be kept low. "It's a direct dollar-for-dollar tradeoff."
Don Cassidy, a senior analyst at Lipper, expects the investment class to continue growing for that reason. Some actively managed funds had outperformed benchmarks such as the S&P 500 during the past two years, focusing investors' attention on returns. But that's not the case anymore, nor has it historically been the case, he said. As investors come to terms with the idea of more mellow, single-digit returns, he predicts they will likely want to keep their fees down and minimize risk. "It's hard to argue with saving a hundred basis points a year," he says.
Stetler says executives at Vanguard are well aware of that issue. Those factors, he says, may increasingly send investors running into the arms of index funds. "The opportunity is just tremendous right now," he says. "2001 is a reality check. It's a much lower-return environment. It's almost like the winning investment strategy is not to lose."
That may sound a lot like the "mediocrity" pundits rebuked 25 years ago. So be it, says Bogle. "It will work. It has worked. It always will work," he says.