Arnold Kling  

Faith-based Investing?

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Nassim Nicholas Taleb argues that people who reject blind faith in religion are nonetheless guilty of blind faith with respect to the stock market.


He believes in the stock market because he is told to do so. — automatically allocating a portion of his retirement money. And he does not realize that the manager of his mutual fund does not fare better than chance — actually a bit worse, after the (generous) fees. Nor does he realize that markets are far more random and far riskier that he is being made to believe by the high priests of the brokerage industry.

Meanwhile, John C. Bogle writes,

individual investors remain major participants in the stock market, but now do so largely through mutual funds and public and private pension plans. But such participation lacks the traditional attributes of ownership such as selection of individual stocks and engagement in the process of corporate governance.

...The excessive advisory fees, expenses, hefty sales loads, and huge commissions on portfolio transactions paid to brokers in return for their sales support consumed something like 45% of the real returns earned on fund portfolios during the past two decades.

Second, unlike their predecessors in the '50s and '60s, financial institutions focus on investment strategies that emphasize short-term speculation in evanescent stock prices, rather than traditional long-term investing based on durable intrinsic corporate values. From 1950 to 1965, equity mutual funds turned over their portfolios at an average rate of 17% per year; in 1990-2005, the turnover rate averaged 91% per year. The old own-a-stock industry could hardly afford to take for granted effective corporate governance in the interest of shareholders; the new rent-a-stock industry has little reason to care.


Kind of makes you want to stick your money in a mattress.


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COMMENTS (9 to date)
John P. writes:

Hence the recurrent recommendation that the average investor stick with low-fee index funds.

james governor writes:

yes i noticed this a while ago

The Hand of God
The Invisible Hand

same difference, eh

Timothy writes:

Well...except for the complete misunderstanding of Smith's phrasing. Smith said that market participants behave "as if guided by an invisible hand" but the point was that there isn't actually a hand (visible or not) doing any sort of guiding.

Roger McKinney writes:

I like the advise of a Univ of Chicago prof: Stick with indexed funds. If you want to juice your returns, borrow money to buy more index funds.

Also, "Rich Dad, Poor Dad" author, Kyosagi advises us to watch the cycles. People should have gotten into the stock market when it was 7800. The opportunities for better-than-average returns has passed. Stay out of real estate now. Kyosagi got out of the stock market before it crashed and into real estate before it took off.

eric writes:

isn't the equity premium puzzle that returns to equity have been too high? This suggests allocating even more to equities than in the past would be optimal.

Scott Peterson writes:

What is called for is employer sponsored 401(k) plans where the individual employee has the option of selecting a brokerage such as E-Trade where the individual can make their own investment decisions and trades. Right now, probably 99% of company sponsored 401(k)'s only give one the option to pick among a set of funds sponsored by whichever mutual fund firm was selected by HR or Purchasing.
By trading on their own account, the individual can avoid much of the fee bloat if they choose to do so.

Bill Stepp writes:

Bogle is tilting at windmills, in his umpteenth revision of the same WSJ op-ed.
No one is forced to buy mutual funds, annuities, etc., and anyone can buy individual stocks for almost nothing. His constant refrain about excessive transactions costs rings hollow for this reason.
He complains about the "huge commissions on portfolio transactions paid to brokers," and ignores the commissions paid by individual investors. He is also exorcised about the fact that fund management firms (some of which have public shareholders) want a return on their capital. Don't the brokerages that employ "customers men" also want the same thing?
Bogle loves to complain about the competition, like all capitalists. And like too many capitalists, he wants more regulation--"a clearly enforced public policy that honors the interests of our citizen-investors and puts these beneficiaries in the driver's seat where they belong," whatever that chestnut is.
Too bad the WSJ doesn't see through his hornswogle.

richard writes:

Bogle is recommending that people invest in low cost index funds, rather than higher cost alternatives that are not expected to add value. If people can market overly expensive investments, why can't he recommend that investors avoid them?

As others have said, low cost index funds are the answer and likely a much better alternative than a mattress.

JC Ernharth writes:

Bogle is as self serving as the next bunch. I find it funny that he points out that participants are removed from a picking intimacy, yet ordinarily encourages folks to index -- the height of removal from picking. And if active mgmt is so terrible, why does vanguard even bother to offer active management??

Finally, like many passive index proponents, he over relies on the averages. Be my guest in deferring to the averages, but because a train, on average, does not come down the track does not mean you act like at all times a train isn't on its way, or that you can't see it when it is coming.

That said, anyone who has a 65 year time horizon can make it all smooth out as Bogle generally recommends. And if you are fine doing it yourself, knock yourself out. Most people aren’t, so they will hire and pay for someone’s help.

Moreover, regression towards the mean happens, and the reality of our massive structural imbalances in the economy – largely ignored by the Bogles of the world because it invokes the premise of “market timing” -- translates IMO to really poor returns if you go with passive indexed asset allocation, or even passive conventional asset allocation as is the industry norm. Paradigms shift, and the industry is filled chalk full of methodology reaffirmed by the averages vs. discernable reality, and further cemented as almost religion thanks to the 1982 to 2000 markets. People today are still waiting for that same old train.

Folks... It ain't commin'. Big names like Peter Bernstein, Warren Buffet, Jim Rogers, and more than a few others who have “market timed” more than a few paradigm shifts seem to agree.

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