John Bogle is our guest on Episode One, produced on September 14, 2018. This fascinating podcast covers 65 years of John C. Bogle's life - from the early 1950s as a student at Princeton through September 2018. John Bogle died on January 16, 2019.
The discussion includes his role as Wellington's CEO, the formation of Vanguard and the first index mutual fund. These true stories are told by Jack Bogle himself from his newest book "Stay the Course" published in November 2018 by Wiley.
The John C. Bogle Center for Financial Literacy sponsors the podcasts.
You can discuss this podcast in the Bogleheads forum here.
Rick Ferri: Hello everyone and welcome to Bogleheads on Investing Podcast, podcast episode #1. On this inaugural episode we have a very special guest: John C. Bogle. Founder of the Vanguard Group and creator of the world’s first index fund.
Hi everyone, my name is Rick Ferri, and I’m the host of Bogleheads on Investing. This podcast is made available by the John C. Bogle Center for Financial Literacy, a 501c3 organization. On each episode, we’ll dive deep into the principles of low-fee investing, and other topics of interest with a special guest. All episodes can be found on bogleheads.org and the Bogleheads Wiki site. They will also be available on commercial sites such as iTunes and Soundcloud.
Ladies and gentlemen, I have with us today none other than the man who started it all, Mr. John C. Bogle. Let me read to you what Mel Lindauer said to you when he introduced Mr. Bogle at our investing conference. “While some mutual fund managers choose to make billions, Jack Bogle chose to make a difference.” And I think that exemplifies more than anything, our guest today. Good morning Mr. Bogle, how are you today?
Mr. Bogle: Rick, good morning, please call me Jack.
Rick Ferri: Thank you. I had the unique opportunity to review your upcoming book, Stay the Course, The Story of Vanguard and the Index Revolution. And we’re going to be talking a lot about that book today. It’s a great history of not only Vanguard but of your life as well. Highly recommend when it comes out in November that everyone read it because it’s just extremely thorough and a great read for anyone who is interested in the history of Vanguard and in how you got to create this great company.
Let me read one of the quotes from the book, to get this started. And this is from Warren Buffet, the Oracle of Omaha, who at the 2000 annual shareholder meeting which you and you of your family member attended, said this to the audience of 40,000
“Jack Bogle has probably done more for the American investor than any man in the country. Jack, can you stand up?”
And then what happened Mr. Bogle, or Jack? What happened after that?
Mr. Bogle: (laughing) Well, I’m a little embarrassed to say so. There was an explosion of applause, it seemed like everybody in the audience knew about me. And Warren had prefaced his remarks by saying their ought to be a statue for me. And there happens to be one here in Valley Forge, that’s another point. But it was embarrassing, and exciting, and very uplifting.
Rick Ferri: Was that the first annual meeting you had been to?
Mr. Bogle: Yes it is, first annual meeting of Berkshire.
Rick Ferri: But Mr. Buffet is not new to indexing. In fact, back in 1996 he wrote in his annual report for Berkshire Hathaway this quote: “Most investors, both institutional and individual, will find that the best way to own common stocks is through an index fund that charges minimal fees. Those following this path are sure to beat the net results, after fees and expenses, delivered by a great majority of investment professionals”. So he was not new to indexing, he’s been a fan of yours for a long long time.
Mr. Bogle: Well that’s 22 years ago Rick, and I think he was a great prophet. P-R-O-P-H-E-T, because the people that listened to him earned great profits, P-R-O-F-I-T.
Rick Ferri: There was a lot going on though in 1996 in your life, and also at Vanguard. The first time I ever heard you speak was in May of 1996. I was at the Atlanta CFA institute annual conference. And at that time I was a newly minted CFA for about a year and a half. And I was really having a difficult time with active management. I had done a lot of time analyzing the performance of active managers. It wasn’t coming out the way I guess CFAs were expecting it to come out.
I mean, if you’re a CFA and you are picking stocks you’re suppose to outperform. That’s sort of what the CFA institute was all about. Anyway, I’m listening to all the different speakers listing all the ways we could outperform and then you got up on stage. And I remember it quite clearly. You said this was the first public appearance you had made after having your heart transplant.
Mr. Bogle: It was pretty exciting to be back on my feet again, Rick. My son, John Bogle Jr. was the moderator. There were two people, an active manager I think and me, and the moderator was my son John Bogle. That was pretty exciting. And if I can add a little family anecdote. My birthday took place on May 8th a few weeks later. And he gave me a present down there, we had a nice family dinner there. And he gave me a squash racquet. And my wife almost fainted. She didn’t think I could ever get back on the squash court. But two weeks later I was back on the squash court. I don’t do that any more, but I had a couple of decades or a decade of playing squash. And it’s been quite remarkable and fun and productive I think, for me to be given an extra 21 years of life.
Rick Ferri: And hopefully many more.
Mr. Bogle: I hope so, but the old body…the spirit is willing Rick, but the flesh is weak. (laughing)
Rick Ferri: But I can tell you the mind is still there, there is no doubt about that. Ok, so what happened is you got up there and started talking to all of these CFAs, who have all been trained that they can outperform the market if they work hard enough. And, you got up there and you started giving us the facts. It was pretty blunt and straightforward. And basically straight out of your book, the first book you wrote back in 1993 called Bogle on Mutual Funds, with probably a little more detail that was even in that book.
And I was sitting there listening to this saying, I just went through this long CFA educational process where I’d been trained to believe that if I work hard I can beat the market and he’s telling me that I can’t. And that’s exactly what I’m seeing in my data, as I analyze money managers and mutual funds. I’ve got to pick up a copy of his book and read this because there is probably something in it. And I did do that, by the way. I did it in October of 1996, so a few months later I bought the book. And I can remember very clearly when I had my epiphany, my big a-ha movement. It was at a “House of Horrors” event where my children were going through this House of Horrors right before Halloween. There was this fake chainsaw in the background and lot’s of screaming and yelling. And I was sitting in the car waiting for them and I had the light on and I was reading this book.
And I came to some passages in that book that just absolutely blew my mind. Because you said in that book absolutely what I was seeing in the data that I was analyzing on mutual funds. I mean, to the penny. And at that point I realized, I had an epiphany. I realized that I was not alone. That in fact, there was a lot of other people out there, like me, that just didn’t believe, that knew something was wrong. And you were doing something about it. And that for me changed my life. And changed the direction I went in my career, and for that of course I greatly thank you. I just wanted to tell you that story. Seeing you that first time, after you had your “change of heart” as you called it, caused me to take a path that changed my life.
Mr. Bogle: I appreciate that, Rick. I do my best and that book was an interesting book. I think it’s fair to say that up until that time there was not a single book on mutual funds. Or a single book that looked at them from those various directions. Certainly that’s true. And I was recommended as the writer by the head of the CFA to a nice young woman named Amy Hollins, who worked for Dow Jones Erwin publishing, a big publishing house of the day.
And she came to me a couple of years earlier, and then again, and again and said everybody says I’m the only one that can do it. She was being flattering. We men like that when women flatter us. But I said look, I’m trying to run a business, my health is terrible, I just can’t do it, I’d like to. But when she came in 1992, she’d come each autumn, and came in 1992 and I said I’d like to write the book. I’d like to write weekends so I don’t disturb my business stuff. And I’m afraid that I may not live long enough to put it off any longer.
Because I was having trouble with my heart since I was 30 years old, when I had my first heart attack. So I did it. It was a tremendous success, publication wise, and it said what I wanted to say. And I look at it once in a while and I’m pretty happy with that book. Actually, Rick, to be candid, I’m not sure I’ve written another book that was that good.
Rick Ferri: Well I would say that book has had the biggest impact. You’ve written some other books that have had a big impact. But the shockwave that book sent through the industry, and outside the industry, was tremendous. Like I said, it changed lives. But 1996 was also a difficult year for you as well. Because, starting to get into your book a little bit, it was also a difficult year for Vanguard.
Mr. Bogle: Yes it was.
Rick Ferri: That was the year you actually had to step down as CEO. And I have some questions about that. You were 65 years old at the time, and you had heart issues so you stepped down. There is a rumor out there, and I just want to clear it up whether it’s true or not. Did you actually have something in the by-laws at Vanguard that said at 65 you HAD to retire…
Mr. Bogle: (interrupting) Absolutely not.
Rick Ferri: Oh ok.
Mr. Bogle: I did it for two reasons. First my health was extremely uncertain. Many many years before one doctor told me I would probably not live to 40. I’ve struggled with it all those years. In and out of hospitals, and whether in Boston or Philadelphia or Bryn Mawr Pennsylvania. And I thought I owed it to the shareholders that there was continuity of management. So that was the first thing I’m dealing with.
And second, sometimes in this world we get older and we’re not quite aware of it, and we overrate what we can do, and the aging process (although I didn’t feel it personally) was very much in my mind. I thought it was time for the old guys to make room for the younger guys.
Rick Ferri: But by that time Vanguard was the second largest mutual fund company, behind Fidelity, at the time. So you had really grown the company. And you had also by that time introduced all of the basic broad market index funds. Everything from the Total Market, to a bond fund, I think the REIT fund was introduced in ’96, the Total International Index Fund. So you had the portfolio of index fund in place, the framework was in place to bring that company forward. Isn’t that right?
Mr. Bogle: You are absolutely right. So you could say it was on my mind that I had put together the index basics for the entire enterprise in terms of centrality and acceptance, they were all there. So the die was cast, if you will. Those funds that you identify, 500, Total Bond Market, Total Stock Market, Total International, all those funds that I started are our largest funds today. Which is interesting Rick, and that is, we’re talking over a decade ago, and we have had no innovation in any of those funds. They are the same as they were then.
Try and tell that to Steve Jobs, or the guys at Google, a company with no innovation in it’s basic product line in what is now 12 year or 14 years (trails off…)
Rick Ferri: No, and I’ll have to tell you something else I learned from you more recently than when I first had the epiphany and started converting all my business and such to indexing. Those core funds are all you need. As I get older, and I just turned 60 this year, my thinking has been shifting more and more to what you’ve been talking about. Even though I’ve been a follower of yours for what, almost 22 or 23 years and I made the switch that long ago, I am only now starting to see the true genius of what you’ve done (laughing).
Mr. Bogle: Thank you (laughing)
Rick Ferri: As far as simple broad market index funds, bond market, maybe international, maybe some real estate. A simple index fund portfolio is all…you…really…NEED. Everything else is just icing on the cake or the flavor of the icing on the cake that probably cost you more money and in the end probably doesn’t do any more for you.
Mr. Bogle: (laughing) You made a good point. Staying the course, the name of the book, or Stay the Course is all about buying something that’s solid, well diversified, and holding it forever. And to give the usual phrase I give that follows that “to enjoy the miracle of the compounding returns without it being eaten away by the tyranny of investment costs.” If you want to think of anything, someone once said “all this poor guy Bogle’s got going for him is an uncanny ability to recognize the obvious.” And they say that’s a criticism but I say that’s a compliment.
Rick Ferri: Well you called this the “index revolution” in you book, and I think that’s what is was. You also tried to coin another phrase, and I want to bring that out. You’ve been working on coining a phrase called “TIF” or “Traditional Index Funds”. I want you to explain what you mean by that, relative to all other index funds.
Mr. Bogle: Well I’m delighted to do that because I’ve tried it maybe 10 times in speeches and other appearances, and has yet to be adopted. I wanted to contrast ETFs with TIFs. Exchange Traded Funds, with Traditional Index Funds. The basic difference is traditional index funds are passive funds held by passive investors. And ETFs are passive funds held by active investors. And therein lies a world of difference.
And what the statistical services do, is talk about ETFs and then mutual funds. So they mix in the other part of the equation, they mix index funds, traditional index funds, with actively managed funds. I mean they make absolutely no sense. I tried and wrote to all the leaders of these statistically things about a year ago and said here’s what you have to do, here’s what the data look like. And I didn’t even get a single answer to my letter.
Rick Ferri: (shocked) They didn’t answer you? Interesting.
Mr. Bogle: But I haven’t given up hope. You know me.
Rick Ferri: Ok, I have a thought on this, I did read into this a little bit. When I first heard you say “Traditional Index Funds” my mind said the say, the Vanguard Total Market or the SP500, that tracks a market index and only tries to achieve the return of the market index. I didn’t differentiate in my mind whether that was done in an index fund or an exchange traded fund. Because to me, it was the strategy of the fund itself, where you have traditional index funds, and then you have all of these “factor” funds, you know active management that’s trying to make believe that it’s an index for the purpose of confusing people. So that’s what I thought when I first heard you talking about “TIF”. I think that might be some of the confusion there.
Mr. Bogle: Well I’m working on it. And I tried to explain it a little more fully, because it’s not all a black and white thing. Try this one. There are a thousand ETFs that are concentrated in certain areas. Buy short, single country, and that and this. A thousand out of two thousand. This data is a little old. And 63% in diversified US stocks. In the traditional index area, there are 69 diversified index and only 140 trading funds.
So, the distinction is quite clear and when you look at the data, over half of ETF assets are in factor funds or concentrated or speculative funds. Where only 10% of the assets, maybe 12% of such funds, the factors the betas the concentrated funds in those kinds of funds in traditional index fund forms. So it’s not a clean break, but it’s an obvious break. And I’m going to keep after TIFs until the day I die. So stand back world.
Rick Ferri: (laughing) Ok, we have been warned! Let’s go ahead and continue to get into your book, Stay the Course, the Story of Vanguard and the Index Revolution. There are four parts to it. The History of Vanguard, the Vanguard funds themselves, which I found very interesting, then “Looking ahead” and “A concluding memoire”.
Now here is something that you wrote, which I find interesting, and I think it might typify your association with the company Vanguard. You wrote in here that when you were writing this book, that you requested to review to the corporate minutes of the Vanguard mutual funds during the long period which you served as the chairman. But that was denied by Vanguard. You know, a lot of people still think that you run Vanguard in many ways.
Mr. Bogle: I get letters from them every day.
Rick Ferri: From people? Who are asking you to fix things at Vanguard?
Mr. Bogle: Exactly.
Rick Ferri: So maybe I can rephrase this to, what is your current relationship with Vanguard. How does it work?
Mr. Bogle: Well, and to be candid, I don’t have much of a relationship with Vanguard, because I’m OUT. I don’t participate in the management, at all, I think that’s appropriate, I’m not complaining about it. I get no information. If a shareholder writes me I have no access to their records. But that’s FINE. Because I don’t run the place anymore. I moved over to let other people run it, and they are running it. (in audible or cut) If they ever want my advice, they know they can get it at any time.
But they think they know more, because they are in the business currently on a daily basis. I have no doubt they think they know more than I do. And they certainly know more than I do about the current moments in the business, cash flows and that nature. Although, I must say there is so much public information, that I’m still very much informed about those areas. But look, when you retire from, and I don’t even want to use the word retire because I’m anything but retired. But when you leave position of chief executive, even if you are the founder of the firm and that’s an important distinction, the new guys who want to take over should take over. And the old guys should move out of the way, because I think the founder is in a different position than a mere previous CEO. And it’s certainly true, as you suggest, that I am still for better or worse the face of Vanguard to many many people, to many shareholders, the public the media and so on.
Rick Ferri: That’s a great answer. Thank you Jack. I’m gonna get back to your book and start talking about where it all began. Which, in your book you start talking about Princeton and your 1951 essay. And you reference that as the beginning of your introduction and analysis, and quite detailed analysis, because I’ve read the thesis a few years ago, of the mutual fund industry as it was back then. And in your thesis you talk about a one mutual fund company, you talk about a lot of them, but one of them you talked about was Wellington and at the time Walter Morgan, Mr. Morgan who was the president or the CEO, a founder?
Mr. Bogle: CEO and founder
Rick Ferri: Yes, and also something I didn’t know until I read your book, he is also a Princeton graduate class of 2020 that’s, excuse me 1920, I’m a hundred years ahead. B: 1920, I met Mr. Morgan when he was 50, and knew him for 50 years, he died about three weeks after his 100th birthday. A great man.
Rick Ferri: Did you meet him while you were writing your thesis?
Mr. Bogle: It’s possible I did, that I met him on the Princeton campus but we didn’t have any discussion about the nature of the business or anything like that until I sent him a copy of the thesis afterward.
Rick Ferri: But there was a lot of analysis in your thesis about the mutual fund industry at the time and you must imagine that when you were writing that thesis you went to these mutual fund companies which at the time were different than they are now, most of the mutual funds as you wrote in your book which were fund companies just basically had one fund. That they were started to manage one fund as opposed to the way the fund industry now is where fund companies have multiple funds.
Mr. Bogle: I didn’t have an opportunity to visit people. I called ’em mostly on the phone. I did visit one fund manager, happened to be for Calvin Bullock (?) in New York, because my uncle knew him and we had lunch together up there, in the New York Bankers Club. But I did not get a lot of input from from the industry people themselves. I got what I could from the ICI, which was next to nothing, and then I got a lot from the limited, admittedly limited coverage in the media, but the whole history of the industry as told in the investment company Act of 1940, through the hearings that were held in 1939-1940. So I had a lot of input, a lot of facts, a lot of chances to make up my mind. Oh and I also relied, I should add, if you’ll remember this or not. But we used to have the Wiesenburger annual publication called Investment Company
Rick Ferri: Yes, I’m that old, I remember.
Mr. Bogle: It had the performance records of every fund, year by year. In those days performance was not something that was kind of right out there for everybody to look at. It was not a big deal, if you will.
Rick Ferri: At the time, 1951, what was the benchmark?
Mr. Bogle: The average the people looked at was the Dow Jones Industrial Average, right there, and that’s a very imperfect index as you know. In the long run of course it gives returns similar to the S&P 500, but in the short run it’s very tricky. Sometimes better, sometimes worse, and on a daily basis it can be absolutely crazy because it’s only got 30 stocks and they’re weighted by price. So high priced stock does some big jumping around — and it’s changed a lot. It was it was a happy day when we picked the S&P 500 as the basis for our index fund.
Rick Ferri: You know I actually talked with people over at S&P when you negotiated that contract and I think David Blitzer, who was the head of the SP committee, I was speaking with him I believe that he told me a story that you came in and said, you know, we’d like to license the S&P 500 and make a fund out of it. And they didn’t know what to do, because nobody had really come to them with that and they you had to try to negotiate how much they were gonna charge you to do that. And I recall a number of about $25,000 a year they just threw out there, and and you said okay. Is that how it worked? Is that how it happened?
Mr. Bogle: That’s pretty close. Although as a sideline, David said, and I think I’m quoting him accurately, and David said in retrospect what they were really thinking then was how much were we gonna charge them for giving this new attention of the S&P 500.
Rick Ferri: As you have.
Mr. Bogle: It’s all changed now, but their fees are out-of-rageous.
Rick Ferri: Yeah, well it’s become a big business indexing now, that index funds are licensing you know fund companies are licensing indexes of course. That is their business now, so all the indexes that are created are created for the sole purpose of becoming a product, as opposed to measuring something or something of economic value. So things have really changed in the indexing industry as well. Which speaks to my mind, by the way, the difference between in my mind a traditional index versus these other thing. And that’s what I was thinking, getting back to your traditional index fund concept.
Mr. Bogle: Well the traditional index funds, you’re right I may have not done a good job on articulating the difference, but basically the true traditional index funds – and this is — we’re trying to make a mix. It’s not necessarily easy to make. But there are funds that are designed to be bought and held forever. And that means very large broadly diversified funds, five hundred, total stock market, total international, maybe total or emerging markets, and total bond market. And now you can do reasonable variations on that and one is one of the obvious ones is municipal bonds are not included in that bond market.
A lot of wealthy people, a lot of potential clients, need municipal bond funds. So you have to have a long and then immediate and short. So that the concept we introduced here at Vanguard in the, 1974 I think, and making the investor choose between long, intermediate, and short. The muni, the municipal bond industry, doesn’t really have a very good index. So it’s an index fund without being a formal index fund. It has an extremely high correlation with the indexes you see, but they’re they’re very hard to match because the municipal bond has so many different areas of so many little bonds and you know different call provisions and all that. It’s worked very very well are muni funds, long and intermediate and short and limited term. They have a very high correlation, certainly in the mid nineties, with the indexes as they exist. So they’re quasi index funds or something like that.
Rick Ferri: Well I can tell you a story about those funds, three funds. I used to manage several hundred million dollars of municipal bonds for clients of mine, and they were all basic bond ladders from one to ten years, state-specific and all of that. And I was looking for a benchmark to determine what how I should grade my performance as a manager of municipal bonds, to the general municipal bond market. I could not find a municipal bond index that worked, so I used a combination of the Vanguard limited term municipal bond fund and intermediate term municipal bond fund, which the duration, the average maturity if you will, of those funds combined equaled what my portfolio looked like.
And so I was able to benchmark my portfolio of municipal bonds to something that was a better index of municipal bonds, than the indexes themselves. And by the way, because of that I stopped managing municipal bonds and and went to all the Vanguard bond funds.
Mr. Bogle: (laughing) Well it’s hard to beat the deal, the trading costs in the municipal bonds are very very high as you know. We have become through that idea of long intermediate and short. It gave us an important role — we were a late entrance and as you read in the book — late entrance into the municipal bond area and all of a sudden we changed the way the bond and the bond industry, bond fund industry worked. Everybody went to long-intermediate-short.
It’s so much smarter, so much better for the client and so much greater clarity as to whether a fund is doing well or ill. I have to add, Rick, I was not unaware an index or whatever might be in this segment, like long-intermediate-short, the more important low cost becomes. Low cost is a very valuable differentiator in the total municipal bond market, but an invaluable, totally invaluable extremely deterministic really, when you break down the market by maturities, holding quality constant.
Rick Ferri: Well these things that we take for granted now, when we look back and see where they came from, a lot of the great innovations that are out there today that everyone is using have come from you and your work at Vanguard which is amazing in itself. And as I read the book, all of this comes out. The first factor funds, you know the value and growth,you were the first –
Mr. Bogle: (interrupting) Funny story. We have in this day of factor funds, which by and large I do not approve of. I don’t think there are factors that are permanently good, so why are we the starters, the creators, of the first growth index fund and the first value index fund, both of which are the two largest factor funds in the field according to Morningstar? By far. And the reason I did it had nothing to do with one doing better than the other.
If you look at my annual reports written to the shareholders in those days, said look, it’s really designed to accumulate money on the growth side in the growth index and have a very low tax rate. And then when you retire, you can move over to the to the value side and have a little less volatility and more income. It was a financial planning kind of an idea. And I said don’t try and pick one over the other for performance, because I’m going to tell you that the most likely event is they will both have the same returns over the next 25 years. I’m not sure, we used 25 for a period. Same long run returns. Well 25 years later they both had returns of 9%.
And the devil in the detail is that investors didn’t do what I told them, they traded them back and forth and — don’t hold me to this exact number — but I think investors in the Value Fund had a return of about 5% investors compared to the funds themselves, and investors in the Growth Fund had a return of about 7%. That would be four percentage points and two percentage points less than the returns of the fund itself. And that’s the problem with any fund that involves trading.
So they were started for the right reasons I think, and maybe I was just too dumb realize that people wouldn’t take my advice about how to use them. I am proud of forecast though because I don’t know how many people would have agreed with me that growth and value would do the same for 25 years. Particularly 25 years ago when everybody thought value was going to do well forever. Rick, NOTHING does well forever.
Rick Ferri: As you wrote in your book. It works until it doesn’t.
Mr. Bogle: Exactly. The reality is value, meaning you see the data you see the annual returns, value is unquestionably the leader if you go back to the late 1920s is when these things began. But if you go back 25 years, they’re the same. They come and go, and their returns over the last roughly 25 years are identical. So the value advantage did not persist for a long time and in my opinion the reason that didn’t persist was everybody starting to recognize it and act on. Which in theory at least, means you’d bid up the price of value stocks and bid down the price of growth stock. And then they’d perform the same. This is the market. It’s a great arbitrager between the past or the future.
Rick Ferri: But we are all susceptible to making mistakes and sort of getting on the bandwagon. And I’m gonna go back to some early earlier history. You were hired by Mr. Morgan after you graduated from Princeton. And you worked there and you became his heir apparent pretty much by at the beginning of by the mid sixties, if you will. And that was that was during —
Mr. Bogle: Actually, I can correct you Rick. In the mid sixties, that is to say in 1967, he called me into his office and said “I want you to run the company from now on, like, I don’t want to do it anymore. It’s a crazy business.” And so that was a little more than his heir apparent, that was his heir.
Rick Ferri: Okay, and you then has said well you know, this is the go-go era if you will — and this is all in your book, so and you’ve talked about it many times — how you made the decision you needed to bring on a growth manager into the company. And that is what you did, you went out and you hunted down and looked for a growth manager who you ended up bringing on. Partners with you know, it was a publicly traded company at that time but they ended up having majority control, and that as you said worked for a while until it didn’t and that ultimately caused you to get fired. And which started.
You go into this in a lot of detail in the book so I don’t want to and take too much time about it, but my point was that, you learned the hard way that there’s a cycle or a wave between growth and value and it really cost you, at least at the time it seemed like it was costing you, it almost cost you your entire career. Because you got —
Mr. Bogle: Well let me just correct you ever so slightly. We had a balanced fund, the most conservative balanced fund and since there was a few of them we were often the industry leader in cash flow. It’s amazing how Wellington fund was our only fund up until 1958. When the balanced fund share of industry cash flow dropped from 40 percent to 1 percent, it doesn’t take a genius to figure we better do something about that.
And the original idea was to bring in, or join forces, with a firm that was strong in equities. So the firms I looked at were the firms you would recognize today: American funds and American funds would be the most obvious out of Los Angeles; The Capital Group, they were not interested. I talked to a fund called Incorporated Investors, stand alone pioneer from Boston, stock fund, and they were not interested. I talked to a little tiny group of funds, mostly equity funds in New York City, who had I think it’s 24 million dollars worth of assets. Tiny-tiny, in five funds six funds and they were uninterested. Well, that was Franklin.
Charlie Johnson said, “you know I don’t know if this is ever going to amount to anything. But it’s a family thing and I think I’d just as soon stay independent and see what happens.” He was smart. So finally I came up, the only thing I could do was which was okay in a way, was to bring in a company that had four professional managers, four professional investors, and turned out a Go-Go fund which was called Ivest fund. So, that was my best opportunity, but not my most desirable opportunity. I wanted to do something with a more middle of the road fund, and if you can’t do it you go with your second best. Because we had to act. We were dying! We were going to an era where there were 83 consecutive months of redemption.
Rick Ferri: Well you brought them on and that worked for a while. It seemed like you know you caught the second half of the go-go era, and I think things were going well for a while. Although for Wellington it still didn’t stop the hemorrhaging of money because people just weren’t interested in those funds anymore. I mean the whole world was going go-go you know. In a way –
Mr. Bogle: Well, let me come back to that. They said when the merger came along, my new partners, we can’t wait to get (inaudible) in the book. Can’t wait to get our hands on Wellington. And when they did, they ruined it. It had the worst ten-year record under their direction of any balanced fund in the industry. The worst. It’s just as hard to be last, Rick, in this world as it is to be first. So they ruin it, because they turned it into too Go-Go a fund. And the portfolio manager wouldn’t listen to me when I told him it was too aggressive. This is all in the book. I made a mistake, there’s no question about that and maybe I should have looked for yet another merger partner.
Rick Ferri: Well we’re all very glad you made that mistake, Jack, quite frankly.
Mr. Bogle: (laughing)
Rick Ferri: Because what happened as a result of that was nothing less than absolutely phenomenal. When you eventually got fired by the Wellington board, you still retained your position as the fund chairman, of the, the funds. I want you to to explain to the people who are listening the difference between being the CEO or the chairman of a asset manager who is making the investment decisions in funds, and the fund itself. There’s actually two different boards. You were fired from one but you did not get fired from the other. Could you explain that?
Mr. Bogle: Yes I can. First, the the funds the mutual funds, the mutual funds as a group are pretty much no more than corporate shells. They hire manager to do everything that they need to stay in existence. They hire an outside manager (inaudible). He manages the portfolio, an outside manager to do the financials and shareholder record-keeping, an outside manager to do the marketing and distribution. All the same firm. So the fund and the firm are pretty much wrapped up and bound together in the industry, and nothing like this had ever happened before. Generally speaking when the manager, which is the controlling firm, fired its president, the fund fired it. They were in lockstep.
Why didn’t that happen here? Because we still had directors from the old Wellington management company that I had run on the board. And they were barely a majority. And I tell that story and they’re how close they came to being a non-majority, but they believed in me. And they didn’t want me thrown out by these managers who had done them, in fact a terrible job. And why they kept him around to manage the money I’ll leave to wiser heads than mine.
So, the fund all of a sudden became something in effect that had never become before: an operating firm with a chief executive who DID something, who had no conflicts of interest, and a small staff. 28 for us, to do mostly accounting because we couldn’t do marketing, we were not allowed to get into marketing we were not allowed to get into investment management. All we could do was administration and shareholder record-keeping which is essentially the third leg of the mutual fund stool. I knew, as I explained in the book, that we would get nowhere if we’re just running the old skeleton of an administrative company. So we had to take over investment management and we had to take over marketing, both of which we were pledged not to do. But we did anyway.
Rick Ferri: Well it took a while, but you were able to convince the board the other board members in the fund itself, and the book is very detailed about how this happened, to allow you to take over. And one of the ways in which that occurred was through your idea, or your invention if you will, of a index mutual fund. The very first one by the way. There had been a few attempts, and you talked about in the book, of doing an index S&P type index investment pool in various places like Wells Fargo.
But no one had attempted to do it within a mutual fund that was going to be available to the general public. So, you came up with the idea of doing that, at Vanguard. And you said to the board, if I recall, I am managing, we’re not picking the stock. So it stopped being, we’re not the manager so we’re within the charter.
Mr. Bogle: Exactly.
Rick Ferri: And then you were able to convince them to allow you to start a S&P 500 fund. And if I might jump ahead one one point, you you originally tried to sell this fund through the broker dealer industry with a commission. True?
Mr. Bogle: That is true! Well you have to get some money in the fund, and in those days you didn’t just put out a shingle and say please send your money in. We put together an underwriting group and they thought we could do two hundred and fifty million dollars and they did eleven. It was a complete failure, it was the worst underwriting probably in the history of Wall Street. So how did they fail? I guess they failed it was a really lousy idea, Rick. (laughing)
Rick Ferri: Well no, if I recall the commission that these that was being charged was lower than the commission of say selling at American funds. Wasn’t the commission maybe five percent or 4 percent versus —
Mr. Bogle: In those days the normal commission was seven and a half to eight.
Rick Ferri: So knowing the mentality of brokers, which I was one for ten years, why on earth would I as a broker want to put my client’s money in a fund that only pays me a five percent commission, in an untested product by the way, when I could put my client’s money in something like an American Funds or some other fund that paid me eight and a half percent?
Mr. Bogle: And the fact that the actively managed funds do this paola! And they do their brokerage trading with the firms that sell their shares. Sometimes directly, sometimes what was called a “give up” in those days. You do the business with a firm like many Goldman Sachs and they give up half of the commission to the firm that’s selling to you. Don’t ask me how that’s legitimate, and it proved not to be legitimate eventually. But in any event, here’s a fund that’s not gonna do any trading at all.
So it was not a broker’s product, but we had to get some money in at the beginning. And we tried and tried and tried. I don’t know how many pairs of shoe leathers I wore out trying to find first an underwriter, and then trying to travel the country that with these sales meetings in introduction meetings. And it all came to basically a failure. But we had the first index fund!
Rick Ferri: And you also did manage to bring in what was it, 11 million, I know you were trying to get about a 150 million, but you did manage to get 11 million. And there’s where the leap of faith occurred, when you said to the board that you wanted to go ahead and launch the fund anyway, and they in their wisdom agreed to go ahead and do it.
Mr. Bogle: Yeah there was no issue about that. The issue is starting, we formed the fund in September of 1975 which was only a few months, five months, after we began operations in May ’75, four months. So we did it almost immediately. The first strategic thing we did as Vanguard. And we did it FAST. The underwriting took place less than a year later, August of ’76.
It was, it’s amazing what a struggle we had and yet it’s also amazing when you look at — there’s a lot of funny stuff going on out there about starting the first income account and this and that — and you look at all the people that did it and there are five or six or seven or eight who claimed to be first at indexing. None of them exist anymore. None-of-them-exist-anymore (with emphasis). And that one first index mutual fund is now one of the two largest funds in the world. So first or not, we’re certainly first now.
Rick Ferri: But when you’ve took in the 11 million there was a decision that needed to be made. So you did the underwriting, you wanted to bring in 150 million, it was a dismal failure. You only brought in about 11 or 11 and a half million. How do you launch an S&P 500 fund with eleven and a half million dollars?! You can’t even buy all 500 stocks! So what did you do?
Mr. Bogle: Well you can’t buy all 500 stocks in round lots, and you don’t want to buy non-round lots because it’s too expensive. So we did a SAMPLING. And I think the original portfolio was around 275 stocks, and you know if you sample by, have the right amount in each industry for example, you’re going to come very close to the returns. I mean first stocks had a lot of commonality in their performance, stocks as a group, and when you get the industry that’s an even more greater commonality.
There was (inaudible) if you have six airline stocks at 6% of the index and you own only one of them or maybe two, you’re going to track that just as well as if you owned all of them. And we did. The tracking was not as precise as we do today, couldn’t be. And is actually run by a part-time, a young woman who in her full-time job was in her husband’s furniture store in Wilmington Delaware. But she did fine! It wasn’t sophisticated like it is today.
Rick Ferri: That was your portfolio manager? It was a woman who worked for you who, it was a part-time job, she was managing the first S&P 500 index fund portfolio part-time while she also worked in her husband’s furniture shop full-time?
Mr. Bogle: Right.
Rick Ferri: That’s amazing, that’s just unbelievable (laughing). Well, I’m gonna skip ahead —
Mr. Bogle: Yeah because I’m often fond to say “You can’t make this stuff up.”
Rick Ferri: (laughing) I’m gonna move ahead a little bit because I know we’ve spent some time, considerable time so far, and this could go on for a long time. Because I started printing out all the things I wanted to talk about from your book and I ended up, I got 50 pages printed and I just stopped because there’s so much stuff to talk about.
But I don’t think I do want to talk about when you turned the S&P 500 fund from a load fund where was sold through brokers into a no load, and that was a new concept, and you also merged one of the Wellington funds into the S&P 500. And that gave you enough money to finally buy all 500 stocks, and you were no load, AND at that time you got permission to do your own marketing, so now you were a full-fledged, Vanguard became a full-fledged company with all all three legs. I mean you were able to do the administration, you’re able to do the marketing, and you were able to do the management.
Mr. Bogle: We were ready to compete in the full (inaudible) line mutual fund field, and stand back everybody here comes Vanguard.
Rick Ferri: (laughing) And here you came. But very very slowly because if I recall, it took you something like a 10 or 11 or 12 years for the Vanguard S&P 500 fund to actually get its first billion dollars. So it wasn’t like it, it didn’t explode.
Mr. Bogle: And yeah, you had to keep running the company as if it would come sooner or later, and it did. We started in 1974 with a billion-five. By 1990 we were at 55 billion, but less than 10% of our assets were in index funds, less than 5 billion. Then the boom comes. We’re now 78% of our assets in index funds. Even in the 2000s, 2010, we were 60%. So the momentum of indexing and the Vanguard way, the mutuality — and they go together by the way, Rick — if you’re not mutual, you really don’t want to be in the index business. As I often said all the damn money goes to the clients and managers don’t like that. They want a little money to go to them. And they compromise and give half of the money of the client. That’s all hyperbole.
Rick Ferri: I wanted to talk about a story where you went to the SEC and you asked them, you submitted a filing to do the first bond index fund, and you got a lot of pushback on that where they said no you can’t call it an index fund because you’re not buying all of the bonds in the index. So you had to call it something else originally.
Mr. Bogle: An interesting sidelight is, when we work with the SEC I travel alone. No lawyers, no retinue, and nobody in my side to tell me what to do, and nobody consult with, I’m confident to do it myself. And I think it looks better to the SEC. They always have a room full of people and they wonder who this funny non-lawyer is. So we get down to present this and they you know are hardly expert on the name, they wanted to talk about the name, and they said look we’re just not going to let you call it “Vanguard Bond Index Fund”. And I said okay we’ll call it “Vanguard Bond Market Fund”. They said that’s fine and then I said, but we’ll refer to it as a Vanguard Bond Market Index fund. They said that’s fine, just so long as you don’t put in the name. So it was fun to do.
Rick Ferri: And what I didn’t realize when I was reading your book was that Vanguard manages something like 25%, now, of all fixed income assets in mutual funds. It’s phenomenal amount of money that Vanguard manages in bonds most of which are in bond index funds. So this has been an incredible growth area once you finally got it.
Mr. Bogle: But we also managed about 25 percent of all all the money in the equity funds. Our total market share is 25 percent, and that bonds are actually a little below that, and stocks are a little bit higher than that.
Rick Ferri: I’m going to go back to active management though, because I found something in your book that which I found very interesting. I hadn’t before, but you put in your book what you call Vanguard’s four Ps in evaluating fund managers, and you’re talking about active managers. Because you know Vanguard traditionally like you said it until 1990 95 percent of the assets into Vanguard were actively managed.
So you had to have some sort of, create some sort of a system or methodology for choosing the active managers who you were going to hire to manage the funds that you had, like Prime Cap and such. And what I read in your book which is the first place I think I’ve read it before, was you actually had a laid out here a system that you used for determining which active managers that you were going to hire.
Mr. Bogle: Yeah it was actually in less of a system, maybe a series of checkpoints, I don’t mean to belabor that but it wasn’t it and we did ratings all up and down those numbers and gave gave managers scores from one to ten. We looked at whether they met the basic performance standard, with performance being a last thing we looked at. But we looked at philosophy, we looked at people, and you know without those kind of things, we look at the portfolio to make sure it carried them out. And then finally we look at the performance. Performance is so deceptive because it doesn’t repeat.
And it’s cost investors I’m sure hundreds of billions of dollars just jumping back and forth, because they think they buy it to get the performance and and then they don’t get the performance so they sell it. And there’s no better example in that, and I don’t mean to be catty, than Magellan fund. Who did it very well for quite a number of years and got to be a hundred and ten billion dollars and never done done well since. And it’s now about eleven billion dollars in assets. It’s a loss of a hundred billion dollars investors have withdrawn, or the marketers has taken away.
Rick Ferri: In 1996 when you turned over as CEO, what percentage of the assets at Vanguard were index funds and what was active? Do you recall?
Mr. Bogle: Sure, we were 31% index.
Rick Ferri: So okay, you really jumped even over a five-year period of time some say 1991 to —
Mr. Bogle: Oh yeah. I have a little bit in the book about momentum, and that index momentum you know, we went from let’s say 10% in 1990 so let’s say 7% in 1989 to 50% in 1999. So the growth rate has really slowed down believe it or not, to 75% to 78% percent in 2018. In other words it went up five times, I guess that’s right, and now and after that is going up about 50 percent.
Rick Ferri: By 1996 all the pieces were in place for the huge growth of indexing and traditional index funds and that has been the area that has really taken off at Vanguard. And most of the assets are going have gone into those traditional index funds that you created in 1996 or prior or they were on the board at least by 1996. And that really is what Vanguard indexing is about, is those core funds, the ones that you had created.
But for the last 22 years you’ve been very influential in the industry and very much a part of the industry and educating investors, and not only educating investors but also trying to educate the industry and educate regulators on where the industry needs to go. And part three of your book is all about the future of investment management. Where you look at where we are now and give your views, basically three ideas, of where the company is going or should go in the future.
And the very first one that you talk about is the mutualization of major firms. And what I read about this is that you believe that other major mutual fund companies eventually must mutualize, like Vanguard started out doing, if they’re going to survive. Can you elaborate on that?
Mr. Bogle: Well it’s pretty easy to elaborate on. In that the difference between a mutual company and a traditional company outside external manager, is that the mutual company basically gives all those huge management company profits that they would otherwise earn back to the shareholders. And the external manager does not.
This is a particular problem when the external manager is a subsidiary of a big conglomerate. Because the big conglomerate buys the mutual company, this is the way corporations work, they buy the mutual company and they want a 15% return or a 20% return in their capital and if they don’t get it they will hire somebody who will get it! That’s the business, to make money by getting in on the ground floor of an industry.
So in my book I think I point out of the 50 largest mutual fund companies 40 of them, maybe forty one, are externally managed by financial conglomerates. They’re publicly held I’m sorry to say, sorry I misstated that, they’re publicly held about half by financial conglomerates and half by public investors. And those investors want money! They want growth, they want dividends, these are the shareholders the management company.
So it’s a direct conflict of interest and that is the one major reason why mutual funds don’t outperform the market indexes. There are a whole lot of other reasons, but that comes right in there. So how are you going to get your fees, means you got your fees so low you made no money, I don’t know what your owner would say? So they can’t compete on cost, and people have started to realize that cost is almost everything.
Performance comes and goes, costs go on forever. And if people look (inaudible) interest in cost, seeing what a tremendous burden it is over the long term — and I think I had data in the book that show if the market yields 7% you’ll you end up over 25 years I guess with $30 for each dollar invested initially, then maybe 50 years let’s say 50 years, $30 per dollar and if you get 5%, a dollar grossed at $10. That means two thirds of your long-term return has been consumed by cost. It makes no sense! And as people get aware of that they are going to have to get their costs down. As their clients get aware of it, and when the clients wake, up the industry will wake up.
Rick Ferri: I see somewhere in their book you wrote that you came up with the number of how much money Vanguard has saved investors and it was somewhere on the order of two hundred and seventeen billion dollars is what you estimated Vanguard has saved investors. Because of the continued pressure pushing down fees, so you have a lot of data in there about that. And there was one thing too I want to point out about what you just said about the cost, is that it’s always been my belief that costs matter that’s been your mantra cost matter.
Mr. Bogle: You’ve taken my motto! (laughing)
Rick Ferri: No, no, that’s your motto, that’s what I’m saying, it’s not mine it’s yours. “Costs matter”. The reason why index funds outperform most active management, the bottom line, is cost. It’s not because we have dumb managers out there, because in aggregate all the managers put together are the market. So we’re just talking about cost. Correct?
Mr. Bogle: Before cost the average manager is average. I’m talking about if the market total return of 7%, all the investors in the market earned gross 7%. This is not nuclear science, this is not brain surgery, this is the relentless rules of humble arithmetic.
Rick Ferri: As William Sharpe said. Your last argument is about the antiquated laws, the legislation that we have from the Investment Company Act of 1940. You say that there needs to be a complete rewrite of the Investment Company Act which is the law that governs mutual fund companies and investment companies. I mean, you talk about the financial institutions act of 2030 to replace the Investment Company Act of 1940. You make the argument that, that act of 1940 existed when there was only a few companies around and they all looked a lot like Wellington, if you will, with one fund. And it’s been too many patches and the whole thing needs to be redone.
Mr. Bogle: Well that’s right. If you read the act with care, which I did a long long long time ago, the reality is it was written mainly to curb the abuses of closed-end companies which sprang up in the late 1920s and vanished in the 1930s. So it was a closed-end company, act by and large. It also it regulates funds. Each fund, no fund for example could own more than 10% of any of the voting stock of any security. Where today we don’t have a mutual fund industry as such. We have a mutual fund complex industry. So if each fund can only have 10%, does that mean if you have 20 funds you’re gonna have 200%? I don’t think so.
Rick Ferri: One of the areas that to me has really helped propel your message and your vision has been social media. The Bogleheads for example, which was originally established on the Morningstar Forum and then we moved off to a separate independent website called Bogleheads.org, has done I think of just a tremendous job of helping to spread your message.
Low fees fees matter and all of the good investment ideas that you have been putting out there for many many many years. I see social media as helping to really expand the knowledge of the individual investor out there, and really has helped people to understand and embrace the concept to have that epiphany or that aha moment about why index funds work. You’ve never really talked about get getting the word out and I haven’t read anywhere where you’ve really got into your comments about social media and how it might have helped you and help the Vanguard grow. Can you comment on that?
Mr. Bogle: Sure I have not written a lot about social media generally. But I have written, including a couple of forewords about a particular social media called “The Bogleheads”. They have been an enormous asset to Vanguard. A staggeringly large asset. And not only do they get heard when they have a complaint — and then a complaint from them is as good as gold! You know with if we get a complaint from someone that we know, it turns out we will see how many people are affected by it, how many shareholders and you fix it. You want people who criticize you, up to a point.
And the Bogleheads have not only helped one another as everybody knows, I mean it’s been a fantastic website with participation that’s beyond belief, I think by far the most popular financial website that’s out there. But it’s independent, has nothing to do with us. They have nothing to sell but good grace and good advice. So the Bogleheads stand alone in being a huge asset to Vanguard, and a huge asset to indexing. I should add, without taking anything away from the Bogleheads at all, that another great source of our strength is academia.
Few business school courses on investment do not talk the index as “book” if you will, the Bogle message. It’s the academic community — Andy Lowe at MIT, Bill Sharpe, Burton Malkiel at Princeton they’re all there, and he’s not quite an academic but David Swensen at Yale, money managers of the colleges which are very very very much indexing. So it’s not just the man on the street if you will or woman on the street, the Bogleheads, worthy of help and worthy of honor, but it’s a man off the street and in the ivory tower of education and financial education and sophisticated concepts that have also been a great asset.
Rick Ferri: Rest assured that the Bogleheads will ensure that you have a legacy. Well with that we thank you very very much for everything that you’ve done for the industry, everything you’ve done for millions of investors in the US and internationally, and your work will go on for many many years after all of us are gone. So thank you for this interview we greatly appreciate it.
Mr. Bogle: Thank you Rick, good to talk to you, and good luck to the Bogleheads!
Rick Ferri: This concludes the first episode of Bogleheads on Investing. Join us each month as we have a new special guest. In the meantime, visit Bogleheads.org and Bogleheads Wiki. Participate in the forum and help others find the forum. Thank you for listening and have a great week.