Christine Benz: Hi, I'm Christine Benz for Morningstar. Actively managed mutual funds have been losing market share to passively managed products. I recently sat down with Vanguard founder Jack Bogle to discuss his views on the trend.
As we've talked about, the decline in assets at actively managed funds has been quite striking. What's your take on what's the fate of active funds? Do you think that they'll just ebb away, or do you think that they will have a resurgence? In some future market environment will they have a chance to outperform?
Jack Bogle: Actually to give you the facts, the assets have not really dwindled at all. They've grown, because the net withdrawals, a trillion dollars in the last eight or nine years, have been more than offset by rising stock prices. They have a business that's hemorrhaging, but they don't know it because the assets keep going up. At some point, I believe, as I said in my talk at Morningstar earlier this year, I believe particularly funds that are owned by financial conglomerates, those conglomerates buy businesses to make money for themselves. This is not complicated.
If you buy a mutual fund manager for a billion dollars, you're going to want to take out $200 million a year. That's for you. That's your objective in going in there. You're objective is not to serve shareholders. Well, you want to serve shareholders. There's no doubt about that, but with that kind of a carry over, you need to take all that money out, it's going to be very difficult to do.
I think these conglomerates will, over time and maybe not too distant time, sell their mutual fund management companies, either make them independent, spin them off, because I do think that I made very clear that public ownership of management companies is a violation of fiduciary duty by definition.
Benz: Because you can't serve those two masters.
Bogle: You can't serve two masters, and let's be clear: The officers of the fund have a fiduciary duty to the fund shareholders, and the officers of the fund who are also the officers of the manager, have a fiduciary duty to the management company shareholders. That's the two masters. As the Good Book tells us, for he who tries to do that will love the one or the hate the other. Since we live in a monetarily oriented society to say the least today, the one that will get the love is the one that makes all the money. Too bad.
Benz: One area where investors seem to have at least some faith in active management is in the fixed-income space. When we look at flows, we see that, yes, the index products are seeing healthy flows certainly, but so are the active bond funds. Do you think that that faith in active management there is well placed?
Bogle: Well, that's a really good question. I'm actually speaking to the Fixed Income Analysts Society Inc., FIASI, in New York on Tuesday. Didn't have enough to do next week, so I volunteered--not quite. The reality is that there has been a lot of drive in and out of bond manager for the extraordinary performance. Bill Gross is a classic example of that. Built PIMCO into a huge giant, and it's probably now, let me guess that their assets are maybe 25% of what they were at the high. Then DoubleLine, another one, Jeff Gundlach has been good, not as--about the same kind of margin as Bill was in his good years--but pretty good. So, DoubleLine is drawing a lot of capital.
It's interesting, this business generally doesn't seem to care for mutual funds. We have about a 25% of market share of both municipal bond funds and taxable bond funds.
Benz: Vanguard does.
Bogle: Yeah, Vanguard does. That's about the same as our market share on the equity side. Sooner or later, cost takes over. You can have flurries--and Bill Gross, I have a great admiration for him--he is not finding it easy at Janus to do the same kind of things he did before, although his portfolio is tiny in size there. I think Gundlach runs about, let me just guess, around $30 billion, not a giant but big. They are doing things that I couldn't describe to you if I went to school for a year. I say more power to them. Every time I meet an active manager, the last words I ever leave with them is good luck. I want the person I'm talking to have good luck, but all managers as a group have 50% good luck and 50% bad luck.
Indexing is growing more slowly, admittedly, in the bond area and part of that is that the bond index fund is, I think, really too constricted in its basic formulation, the Bloomberg Barclays Aggregate Bond Index, Aggregate U.S. Bond Index, I think is the title now. It's an intermediate-term bond index. It's probably around 70% in governments and government agencies. That's not where you get the extra returns, and I think we looked at, it's about 20%, 25% in corporates. I think that's not a balance that most people would intuitively pick. Now what do I know? Sorry to tell you, nothing, but I would take a 50/50 corporate/Treasury would be a reasonable pick, and maybe not quite so short.
But then am I talking as an active manager or as an indexer? This puts the indexer in a powerful position because he has a presumption or she has a presumption, and that she has the right answer. I don't concede that. Bond indexing is a complex, highly complex I would say, matter compared to stock indexing.
Benz: You have suggested, though, that investors could reasonably add a little bit of a high-quality corporate bond fund alongside total bond market index to augment or perhaps offset ...
Bogle: Well, that's where we get the 50/50 that's in my book, 50% corporates, 50% notes. You might even want to extend those notes a little, Treasury notes. There aren't any easy answers to this. That might be great advice or it might not, but the bond index fund, which is by far, Vanguard Bond Index Funds--there happen to be two of them, identical--is around $310 billion, and I think the next largest bond fund is maybe below $100 billion, I'd just guess. It's completely dominant, even more dominant in cash flow than a percentage of assets without being quite as perfect as I would like it to be. Now, I don't have the responsibility of doing it. Talk is cheap. I talk about it, but people here at Vanguard have to make their own decision. But we've come a long way when you think of this $300 billion bond index fund dwarfing everything else, it's hard to say it isn't going our way.
