Bogle: Investors 'Getting Killed' in ETFs 27 comments
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By Matthew Hougan
A new analysis by Vanguard Group founder John Bogle indicates that investors are generally making poor decisions when buying and selling exchange-traded funds.
During a webinar hosted by the Journal of Indexes and IndexUniverse.com on Wednesday, the indexing pioneer unveiled the results of his recent look into investment tendencies by ETF investors. Bogle now provides independent research and analysis through his Bogle Financial Markets Research Center.
Bogle compared the returns of 79 ETFs in a variety of major asset categories over the past five years to the returns of the average dollar invested in those ETFs over the same time period. It’s a common statistical practice in mutual fund analysis, allowing investors to see whether they’re buying at the bottom and selling at the top, or vice versa.
While investor returns typically trail fund returns by some margin, Bogle expressed surprise at the degree to which investor returns suffered in ETFs.
“These numbers … are unbelievably consistent,” said Bogle. “Out of 79 ETFs we covered, 68 had investor returns that were … short of the returns earned by the funds themselves. “
And by no small margin. The degree of investor-lag ranged from 0.4% per year for large-cap value funds to -17.9% per year for financials ETFs. Investors seemed to do the worst in high-profile and volatile sectors like emerging markets, financials and REITS.
click to enlarge
On a simple average basis, ETFs in the study delivered a 1% compounding return over the trailing five years, translating into a cumulative gain of 6%. Investors, however, earned a -3.5% average compounding return, translating into a cumulative loss of 12%.
“When you combine those, you’re talking about 18% of investor capital that’s been lost by all this trading,” said Bogle.
To hammer his point home, Bogle compared the returns of investors in Vanguard ETFs with the returns of investors in comparable Vanguard mutual funds. The study, looking over the same five years, confirmed that investors trading in and out of Vanguard ETFs did worse, on average, than investors in Vanguard mutual funds.
"Investor lag in the ETF category is large and significant,” said Bogle. “The … mutual funds have a lag here and there, but in general, come very close to the markets they are in.
“So we have evidence—strong evidence—that exchange-traded funds, because of the timing that goes on in them, are not acting in the best interest of investors. Or, that investors are not acting in their own best interests, which may be a better way to put it.”
Data for the study were compiled by Morningstar. The study looked at monthly cash flows and monthly fund returns. Bogle noted that this is not a precise format, as daily cash flows into and out of the funds could skew the results.
“Is that way of aggregating data (on a monthly basis) precise? No it is not,” said Bogle. “But I’m persuaded in the absence of compelling data on the other side that these data are telling us something that is worth knowing … that mutual fund trading is about as valuable as trading individual stocks, which is to say, not valuable at all, and harmful to your returns.”
A complete replay and transcript of the webinar will be available on IndexUniverse.com on Thursday.
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This article has 27 comments:
You have to distinguish between people who use ETFs to trade the market, and people who use them as investment tools.
Without that distinction, stats like the above are meaningless to investors.
We already know that trading is a statistically losing proposition, no matter what vehicle you use.
Well said.
It's an interesting take on ETF's.
My own experience has been very mixed when I am not trading in something I have a lot of familiarity with. The returns have not mirrored the success of regular direct trades. I really need to sit down and punch out the numbers for myself but ETF's (and in particular inverse ETF's) have robbed me more times than I would like to admit. And yet they can be mesmerizing to the point you can hardly walk away from your computer for fear of missing the oddball irrational and untimely spikes in your favor. I have frankly learned to hate them and suggest to anyone that it pays better to just directly invest in the companies you have researched and understand well.
Does that mean ETFs are a bad idea? I have nothing but respect for Bogle, but it's really, really hard to not see sour grapes at work here. He made a fortune peddling index funds and he's clearly upset that others have cottoned on to the idea.
That's not the main point here. The main point is that ETFs aren't doing what they say they do. Many, such as the notorious FAZ, are essentially defective and many investors are misled by their alleged mandates.
It's to Mr Bogle's credit that he admits Vanguard ETFs aren't doing significantly better than anyone else's.
On Jun 18 09:16 PM John Christy wrote:
> This is a thoroughly asinine argument. The average dollar calculation
> is interesting, but it's really just a slightly more robust proof
> of the obvious: most investors make bad decisions. Ok, we all get
> it.
>
> Does that mean ETFs are a bad idea? I have nothing but respect for
> Bogle, but it's really, really hard to not see sour grapes at work
> here. He made a fortune peddling index funds and he's clearly upset
> that others have cottoned on to the idea.
Mutual funds aren't the best investment around. They tend to consistantly underperform their index, have fees, and you pay taxes on the theoretical profit. ETFs are no different. But hey, who ever said people were rational obviously hasn't watched the people around them in any level of detail.
The fund industry is a multi billion dollar industry built to prey on investors fear telling them they are incompetent at making financial decisions. Perhaps they are right, after all people keep dumping funds into mutual funds even though facts tend to point to the conclusion that if investors are incompetent, then too are fund managers.
I invested in mutual funds when it was a 401k and I got matching funds. Otherwise... forget about it.
But I consider ETF's to be a quick and easy way to enter a sector of the market (industry sector, global markets). It does allow me to enter into many companies in one transaction which will level the volatility and simplify the research on my part.
I'm not impressed with the ETF's that carry 100+ different stocks. Too much diversity, I might as buy one share of everything. I consider this to be a downfall as they end up too diverse to benefit from any of the leaders. Ideally, you would simply pick the top 20 and let them perform.
ETF's have some benefit, but they do act differently than a stock or mutual fund, so you have to understand how to treat them. But then I treat stocks differently -- some are growth and some are earnings.
Bottom line is that the mutual fund managers are not going to reallocate to cash when things get overheated and buy when they get oversold. Neither individual investors as a group or professional money managers have much success in "market timing". Mutual fund managers simply don't do it. They are so concerned with following their benchmark that when they get to much cash coming in that they can't invest fast enough they close their funds instead of letting the cash position build up for the rainy day where they could go on a parade buying stocks when their cheap or using that extra cash to meet the redemption from shareholders so they don't have to add additional price pressure by liquidating even more of the stocks that are down in price. The fear of under performance drives mutual fund managers from the long term asset allocation decisions to protect capital. When the crowd panics, individuals sell stocks, ETFs, hedge funds, and mutual funds. Prices collapse. This is THE time to buy and when markets are down 50% its a John Templeton generational moment to step up and buy as much as you can and borrow as much as you can to buy more.
The only vehicle I know of that might allow a manager to reallocate to cash might be a Closed End Fund. By being protected from the flows of Investors the CEF manager can go to cash and back without fear of under performance. Paramount is retaining the NAV of the fund so their fees go up. Consider Russian CEF that Mobius managed, I remember him once saying the risks are too high I've gone mostly into Cash, by doing so he avoided a big crash and could readily buy up bargains after the crash. I doubt an open end manager could have done this. I tend to think an ETF couldn't have done this either.
THE CEF provides the manager room to flex. CEFs also provide valuable financial behavior data(premium/discount) about how investors are willing to pay for a basket of assets relative to their worth.
On Jun 18 06:33 PM ETF Grind wrote:
> We already know that trading is a statistically losing proposition,
> no matter what vehicle you use.
- Sovestor.com
I do not consider them to be buy and hold trackers of an industry group or index... many have options underlying the strategy and the ETF will suffer its own version of time decay just like options do as it reprices.
If you get a big move going on the underlying market they cover, as we saw last Fall (down) and this Spring (up) pile on and ride it hard, then get the hell out because the smart money is doing so too.
Even the 3X stuff like FAS and FAZ is warning in their new prospectuses that they are meant as day trade type instruments - TACTICAL, not Strategic.
Get in fast once the move has started, get out faster before it has peaked.
Similarly, I own KWT, the clean energy ETF. I do this because I like the sector, but I think that, much like the advent of computers, there are too many companies that will fail (even the front runners today) because of technological breakthroughs pushing them out of business. In this way, I'm in the sector I like, but I don't have to buy 5 different company's stocks in order to catch the upside, and I have a limited downside.
Ultra or leveraged ETFs I think are just for traders. If you don't thoroughly understand what they do, and how they do it, stay out of it. I don't use these because they don't match my investment style.
"Some market observers have been making comments in the recent past to the effect that leveraged ETFs are a scam designed to sluice money from retail investors into the pockets of professionals. While we would concur with this it shouldn't really be surprising, as to the extent that they are a scam they are simply following the rich tradition of many Wall St financial instruments, and compared to sub-prime mortgages, for example, they are a "mom and pop" operation as many European banks and financial institutions still smarting from immense losses will attest. This is not to say that you can't make good money out of them at times - in the same way that an experienced gambler may enter a casino in Las Vegas with a fair chance of coming out richer, but knowing that whatever his fortunes, the house will always win. Right now there are some bear ETFs which have been driven down almost to zero by the big market rally that look set to do really well if the market heads south soon as expected, even taking into account the eroding time value of option elements comprising them and the suspected tendency of the management of these funds to use them as ATMs".
Worth a "punt" on the long side maybe?
However I like them as I can often find ETFs that have lower costs than a mutual fund on the same topic. Many of these low cost ETFs are in fact ETFs offered by Vanguard.
Leveraged ETFs are a tool for market professionals. All too often they are a means of capturing losses but not gains.
I look at ETF's, stocks, and funds as trains going from point A to point B--when I choose to board, it matters not where the train has come from, or where it might go after I get off...if it gets me where I want to go, it has performed as expected.
The point is "average" not anecdotal evidence of "exceptional" investors in ETFs.
I really don't find that argument difficult to grasp at all.
"Investors 'Getting Killed' in ETFs"
Would the opposite title also be true?.....
"Investors 'Getting Killed' in non-ETF Equity Trades "
The point being, we've had a terrible, volatile, down market. Most people, whether they were traders or investors, regardless of style, lost money. It didn't matter whether they were using ETFs or not.
Stating that people lost money in ETFs is such a market unfairly singles out ETFs as being problematic when in fact we've had much larger systemic problems in the general market.
Obviously one of the points being put forth is that people trading ETFs have underperformed the ETFs' actual returns. That's hardly the fault of the ETF if people are making poor timing decisions on their trades. I wouldn't be surprised if the same were true for actual non-ETF equities. People make poor decisions frequently, and may be extra prone to selling at the wrong time during a panic situation. Of course they are out of the equity when it recovers and subsequently underperform the market.
The artcile is certainly correct based on the data presented: Investors (and traders) must be making poor decisions if they are underperforming the actual ETF. I'm just not sure this isn't something we all pretty much knew, and whether or not knowing this actually matters to our individual bottom lines or future trading decisions.