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Humble Arithmetic

Adam M. Grossman  |  January 21, 2019

IN THE HISTORY of the investment industry, May 1, 1975, is a date to be celebrated. On that day, the industry took not one, but two, remarkable steps forward.

The first change was an action by the SEC to deregulate stockbrokers. For the first time in more than 100 years, brokers were given the freedom to set their own commission rates on stock trades. The result was a boon for individual investors. Today, instead of paying hundreds of dollars to trade a stock, most investors pay less than $10.

Coincidentally, on that same day, a mutual fund industry veteran named John Bogle launched a new company, which he called the Vanguard Group. Soon after, the company launched a new investment vehicle for everyday investors—the index fund.

Bogle passed away last week, at age 89. In the words of Warren Buffett, “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.” I couldn’t agree more.

Today, Vanguard is the industry leader, entrusted with $5 trillion of investor savings, but that success didn’t come easily. In fact, the firm got off to an inauspicious start. As Bogle liked to say, the opportunity to start Vanguard came only when he was “fired with enthusiasm” from another company. Even with Vanguard up and running, it took time for the index fund concept to catch on.

Bogle’s idea was simple: Instead of wasting time and money trying to pick the best stocks to include in a fund, just own all the stocks and pass the savings along to investors. As Bogle put it, “Strip all the baloney out, and give people what you promise.” It was a deceptively simple formula for success.

Despite that simplicity, it was an uphill battle. Upton Sinclair once wrote, “It is difficult to get a man to understand something when his salary depends upon his not understanding it.” Not surprisingly, competitors were doggedly critical.

Shortly after Vanguard’s launch, Fidelity Investments’ then-chairman, Edward “Ned” Johnson, derided the concept of an index fund, saying, “I can’t believe that the great mass of investors are going to be satisfied with an ultimate goal of just achieving average returns.” Other fund companies distributed literature accusing index funds of being “un-American.” Some called Bogle a communist or a traitor.

While the critics were relentless, Bogle had the data on his side. As early as the 1930s, research was beginning to show that the odds were stacked against fund managers trying to beat the market. By the mid-1970s, even the father of investment analysis, Benjamin Graham, acknowledged that stock-picking wasn’t as effective as it had earlier been. In a 1976 interview, Graham was asked whether he believed in “careful study of and selectivity among different issues” — in other words, stock picking. His answer: “In general, no. I am no longer an advocate of elaborate techniques of security analysis in order to find superior value opportunities.”

In the decades since, the data continued to pile up in Bogle’s favor. Recognizing that they couldn’t beat him, many of his earlier critics acceded to what Bogle called “the relentless rules of humble arithmetic” and decided to join him, launching their own index funds.

Throughout the years, Bogle seemed to persevere despite all odds, including his own health. Starting at age 31, he suffered a series of six heart attacks. By 37, his doctor advised him to retire. Bogle responded by switching doctors.

Perhaps the most remarkable aspect of Bogle’s life: When he set up Vanguard, he chose a unique mutual structure, meaning that Bogle had no ownership stake. Instead, the company is owned by its customers. It’s still the only investment firm with this structure. Had he not made this choice, Bogle would easily have been among the wealthiest Americans. But he was proud that he wasn’t.

In 2005, Nobel laureate Paul Samuelson said, “The creation of the first index fund by John Bogle was the equivalent of the invention of the wheel and the alphabet.” That may be overstating it—but not by much.

Adam M. Grossman’s previous blogs include Repeat for EmphasisApple Dunking and Intuitively Wrong. Adam is the founder of Mayport Wealth Management, a fixed-fee financial planning firm in Boston. He’s an advocate of evidence-based investing and is on a mission to lower the cost of investment advice for consumers. Follow Adam on Twitter @AdamMGrossman.

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