Cautionary Investment Tales – Part I

Most readers are not aware that when this column was first published in Viewpointe some 25 years ago, the graphic that accompanied it read “INVESTMENTS,” with a sub-head of “You and Your Money.”  What prompted me to start that column was the fact that I had been publishing a mutual fund newsletter for some ten years, first sending it by mail, and subsequently, as readership numbers grew, only on the Internet.  However, by then I had become a convert (not religiously, but intellectually) to the concept of Index Funds, especially to the S&P 500 Index Fund. That presented another problem: how often could I write about Index Funds without repeating myself?

That is when I made the decision to write about…anything and everything, as I do today.  I estimate that over the past 25 years, some 400 articles have appeared in this and other Viewpointe columns, since in the early days I would post two or three, yes, even four articles in the same Viewponte issue––I was younger then.  My point in describing this is to assure you that I am not a novice in the field of investments. You will read below that John Bogle of Vanguard agrees.

Tale 1

Almost 20 years ago, in September 1999 I published an article in this newspaper about John Bogle, then the Chairman of Vanguard. In that article I praised him and more specifically his revolutionary idea that resulted in the S&P 500 Index Fund that was actually initiated in 1975.  A friend of mine (living in Boca Pointe) had been sending my articles to a friend of his who turned out to be very close to John Bogle.  He in turn saw fit to send the newspaper to Mr. Bogle.  Mr. Bogle was kind enough to respond to me and here is some of what he wrote:

“Dear Bob, Thanks so much for your note and for your expression of support.  I thoroughly enjoyed the “expanded version” of the article you wrote for your community newspaper.  Thanks for sending it to me. (I even sent a copy of your article to my publisher!). You obviously got my message “loud and clear,” and I am confident it is the right message. Indeed eternal.”

He then concluded with this:  “While these have not been the easiest days for me the loyalty of so many shareholders like you has given me a real lift. Whether I remain on the Board of Directors or not, I will continue to work at Vanguard for years to come, keeping an eagle eye on the interests of our shareholders and our crew members, and continue my mission of giving mutual fund investors ––both at Vanguard and throughout the industry––a fair shake. You deserve no less.  Thanks again.”

What I did not realize at the time was that Mr. Bogle was being forced by Vanguard to retire since he had reached the required age of 70, but he was very reluctant to do so, and was fighting the request.  He wrote the letter to me on September 16, and he did retire just two days later.

John Bogle has never really retired.  Here we are twenty years later and just a few weeks ago he wrote an opinion piece in the Wall Street Journal.  He wrote, “There no longer can be any doubt that the creation of the first Index Mutual Fund was the most successful innovation––especially for investors––in modern financial history.” Of course Mr. Bogle is acknowledged (and rightfully so) as the father of index funds.

Mr. Bogle points out that the initial public offering of what became the S&P 500 Index Fund attracted only $11.3 million and was called “Bogle’s Folly.”  Today, forty-two years later total index fund assets have surpassed $6 trillion.  Of this total about 70% is invested in broad market index funds modeled on the original Vanguard fund.

In May 2017 an article written for the CFA Institute’s Financial Analysts Journal, Bogle provided his seven investing rules for successful stock market investing:

• Invest you must. The biggest risk facing investors is not short-term but, rather the        risk of not earning a sufficient return on their capital as it accumulates.
• Time is your friend. Investing is a virtuous habit best started as early as possible. Enjoy the magic of compounding returns. 
• Impulse is your enemy. Eliminate emotion from your investment program. 
• Basic arithmetic works. Net return is simply the gross return of your investment portfolio less the costs you incur. Keep your investment expenses low. 
• Stick to simplicity. Basic investing is simple—a sensible allocation among stocks, bonds and cash reserves; a diversified selection of middle-of-the-road, high-grade securities; a careful balancing of risk, return and (once again) cost.
• Never forget reversion to the mean. Strong performance by a mutual fund is highly likely to revert to the stock market norm—and often below it. 
• Stay the course. Regardless of what happens in the markets, stick to your investment program. Changing your strategy at the wrong time can be the single most devastating mistake you can make as an investor. 

“Over the long run, the growth trends in our economy and financial markets have been solidly upward, despite the gyrations and uncertainty we inevitably experience as the years roll by,” Bogle concluded.

“It is reasonable to assume that this growth will continue,” he said. “Do not let false hope, fear and greed crowd out good investment judgment. If you focus on the long term and stick with your plan, success should be yours.”

So what’s the cautionary tale here?  Don’t overlook John Bogle’s advice.  In fact, the last paragraph written in the referenced article says it all:  “Mr. Bogle’s fidelity to the index fund hasn’t made him as rich as, say, Warren Buffett.  But it has earned him Mr. Buffett’s respect.  In Berkshire Hathaway’s annual report, Mr. Buffett wrote, “If a statue is ever erected to honor the person who has done the most for American investors, the hands-down choice should be Jack Bogle.”

Tale 2

John Maynard Keynes, the Englishman considered by many to be the most influential economists of the 20th Century, is quoted as saying;  “Ideas shape the course of history.” Ironically, this was confirmed by another famous economist Paul Samuelson an American economist of Jewish descent who in 1970 was the first American to win the Nobel Prize in Economics. He might also be called the godfather of the index fund since he played a major role in precipitating the index fund.  In the Journal of Portfolio Management in autumn of 1974, he pleaded “that, at the least, some large foundation should set up an in-house portfolio that tracks the S&P 500.” In fact, Bogle has written, “While I'd hinted at the idea of an index fund in my senior thesis at Princeton University in 1951 (mutual funds “may make no claim to superiority over the market averages”), Dr. Samuelson was much more forceful, strengthening my backbone for the hard task ahead: taking on the industry establishment.”  Encouraged by Samuelson’s essay, Bogle initiated the S&P 500 Index Fund.

The cautionary tale here: Give credit where credit is due. It enhances your reputation.

Tale 3

Earlier this summer, the Fifth Circuit Court of Appeals revoked the U.S. Department of Labor fiduciary rule, which required that financial advisors and brokers act in the best interest of their clients when overseeing retirement accounts. The court vacated the rule after the Trump administration opted not to pursue a Supreme Court appeal of the panel’s initial split decision against the Department of Labor. Essentially, the Fifth Circuit decided that the DOL did not have the legal authority to issue a regulation changing the definition of a fiduciary.

Although the fiduciary rule is dead, its spirit and intent will live on. The regulation was crafted to protect consumers seeking advice from financial advisors. It stood for the principle that advisors need to avoid conflicts of interest and act in the best interest of their clients, not their firms or for their personal gain. Advisors should offer investment recommendations based on the client’s investment goals and risk profile, not because products generate fees.

Here are some questions to ask your current or potential advisor and what to look for in their answers.

• Are you a fiduciary? A direct question deserves a direct answer. Pay attention to how the advisor responds. If your advisor has told you that he or she is acting as a fiduciary, ask them to show that to you in writing.
• Do you receive any type of compensation in addition to what I’m paying you? Some advisors receive commissions or other product-based compensation when they steer clients into particular investment products (such as mutual funds, annuities and variable annuities). This is a clear conflict of interest and can indicate that the advisor is not, in fact, a fiduciary. Make sure your advisor is providing unbiased advice and not simply selling you investment products.
• Are you “dual-registered?” Some advisors are registered as both investment advisors and broker-dealers. Often, a broker-dealer is acting in the role of salesperson. If your advisor is also a broker-dealer, make sure you understand which hat they are wearing when providing advice to you.
• Have you ever been cited by a professional or regulatory organization for disciplinary reasons? To be extra sure, you can look up the advisor’s records on FINRA’s BrokerCheck to find out if they have any complaints. Keep a close eye out for complaints related to providing financial and advisory services.

The cautionary tale here is to ask bluntly and without embarrassment whether your advisor is a fiduciary––If his answer is No, or if he hesitates to answer, find a new advisor.

More cautionary tales next month.