Are ETFs Too Easy to Sell?

Jim Wiandt reports on internecine warfare among index investors:

Mr. Bogle has done some intensive research that shows that ETF investors have an even stronger tendency to trade their way into losing to the market, and to an even greater degree than active mutual fund investors.

Mr. Bogle is in effect saying that guns do kill people and that ETFs should perhaps be locked away safely in a cabinet and not employed in retail investor portfolios.

This is a fascinating concept — and, as Wiandt emphasizes, an entirely separate discussion from the question of whether investors are being ripped off when they trade in and out of structured ETFs like the USO oil fund or vehicles which give leveraged exposure to the stock market.

The question is this: assume, for the sake of argument, that you’re a buy-and-hold investor in broad stock market indices: You’ve decided, not unreasonably, that’s the best way to go. The problem is that you’re human, and humans (Neal Templin being one example) have a tendency to do exactly the wrong thing and sell when stocks go down, even when they have no immediate need for the money and indeed are just moving money around within their 401(k).

Now, are you more likely to panic and sell your index funds if they’re ETFs than you are if they’re mutual funds like the ones peddled by Mr Bogle? If so, then maybe it’s better to stick to mutual funds in general — and possibly even switch to a company like Dimensional in particular, not because it has higher returns (it’s selling index funds, after all) but because it has salesmen who can talk you gently back from the precipice and thereby prevent you from doing exactly the wrong thing at exactly the wrong time.

On the other hand, I’d want to take a very close look at Bogle’s “intensive research” before accepting its conclusions — precisely because it’s not easy to separate the buy-and-hold crowd from the day-trading crowd. Both of them invest in ETFs, but for very different purposes. How could Bogle have separated out only those ETF buyers who would otherwise have invested in mutual funds? I’ll be very interested to find out.

Comments

[Alan Young]

Last August, I saw markets taking daily shocks, and wanted to sell. But at the time, I was in mutual funds. By the end of the day, it was too late (who knew whether the next day would be better or worse?)... so I would get discouraged, take no action, and get hit again... until I'd lost 30-40% in the fund.

And where were the fund managers whom I'd counted on to protect my capital and outperform the market? Just as paralyzed.

With rare exceptions, I'm not likely to buy mutual funds again. I'm racking up a lot of transaction costs with frequent trades, but I sleep better.

2009 Jun 16 06:09 PM

[Ron Rowland]

Alan Young writes..."And where were the fund managers whom I'd counted on to protect my capital and outperform the market? Just as paralyzed."

The mutual fund manager and prospectus that say they will protect your capital are few and far between. The vast majority of mutual fund managers have a mandate to remain fully invested and remain in their style box.

Why were you counting on them? What made you think it was their job and not yours?

Felix, I think you are correct - Bogle's research (and conclusion) are probably suspect and self-serving.

2009 Jun 16 06:42 PM

[Analyste de Boston]

The mutual fund industry smells SERIOUS competition, as those investors (like mine) tell their friends they're MAKING MONEY in the Bear Market... with ETFs. The good word is spreading. Those trapped in 401k Plans with a limited choice of mutual funds are slowing awakening to the reality they're trapped in second-rate investments, without real diversification choices or opportunities afforded by alternative asset classes. Obviously, Mr Bogle aims to keep it that way.

Of every provider I ever interviewed or worked with, Vanguard does more to limit consultant demands and tamp down participant choice: they're all about "controlling costs" ... their bottom line! Good for them, not for you.

The Mutual Fund industry is gunning hard against a rising tide of ETFs. Look for more blog- and pop finance-planted attack articles & shill attacks like "ETFs are a Scam!" That's to be expected, it's the nature of da' bizness!

2009 Jun 16 07:03 PM

[ETFdesk.com]

while the trading is made easier, its nice to have the ability to trade options (specifaclly sell calls) and take tax losses much easier for individual investors...

2009 Jun 16 10:52 PM

[LKofScotland]

this is actually a very interesting article. we have now witnessed the triumph of John Bogle (in watching the world's largest index fund be bought for hefty 17 billion IN AN OBLITERATED WALL STREET CONTEXT) and yet that shining city on the hill is still not made. i don't think it smacks of self-interest (who in their right mind would promote index funds out of self interest?!!!) but perhaps a very daunting demand for ethical behvavior in a world that has become for all intents and purposes valueless. In other words the "morality" so to speak of the mere existence of index funds suffices for me especially after reading the comments above. Do they even know what happens when the price of oil approaches $100 a barrel for a second time and "this time for sure"? The economic perils are simply too staggering to list. Listening to all these day traders come out and mouth off about how they're cleaning those "cheap funds'" clock would be laughable were it not simply criminal. the wall street journal during the bubble years famously had their "dart board" for picking stocks which was simply criminal in my mind to have back then. Not now. In fact it goes to show the criminal dishonesty that the WSJ engages in that it will not bring the dart board back "because the news might be bad." As if economies, let alone markets, only go up! So what if this is the coup-de-grace of NY City? How many cities had to be obliterated just to create NY City in the first place? It took TWO world wars. And obviously many new cities have been created right here in the USA since the end of the last "Great War." More than anything I think index funds have saved this economy from a Wall Street created economic catastrophe and they are FINALLY getting some recoginition in the form of BIG MONEY being used to buy their firms. I think the link up of actively managed asset managers with index funds are not only the "new banks" they seem to be acting as the ONLY banks right now. And shouldn't we all be thankful for that? With raging inflation on the horizon if not already upon us, shouldn't we all be thankful that at least SOME type of private financial clearing house exists. Or perhaps a return to the fall of 2008 really is all Wall Street wants. As Marylin Manson said, "if I can't have you then nobody can."

2009 Jun 17 10:54 PM

[Jonas Zamora]

It is self serving in that he wants to be right in his views. I serve clients in real life and the buy and hold mentality on Wall Street and firms like Vanguard only served to losse them money. They all make the argument that if you miss the best days in the market your returns would be poor. I would argue that if you missed the worst days you would be better off because you have a bigger base to compund returns.

If you have a $100,000 S & P 500 portfolio and were invested a year ago and you held on through the downturn and the lows, your investment would be down to down to $49, 850 at the 52week low on the index(see MSN Money). If you held on and have been riding this recovery fronm the lows your money would get up to about $68,658 at today's close. We are up over 37% from the lows yet this portfolio is no where near where it was a year ago. Tell me how buy and hold is effective for regular folks whose investment lifetimes are finite? No one ever talks about what happens when you miss a bulk of the downturn. Preserving capital is better because you have a bigger base for compunding. The above case has to have over 100% returns just to get back to breakeven.

2009 Jun 18 05:59 PM