Vanguard Founder John Bogle's Outlook For The New Year

Includes: BRK.A, BRK.B, CL, JNJ, KO, PEP, PG
by: Tim McAleenan Jr.

John C. Bogle, the founder of the Vanguard Group, is famous for launching the first mutual fund at Vanguard in 1976. The firm now controls $1.7 trillion in U.S. assets, and has a reputation for running the lowest cost index funds in the industry. Earlier today, Mr. Bogle did an interview with Business Insider and gave his usual opinions in line with his reputation for independent and against the grain thinking-he called for higher taxes on dividends, higher taxes on investment bankers, further differentiation between earned and unearned income, and lambasted portfolio turnover among money managers and individual investors. In the final question of the interview, Bogle was asked to give a prediction for the market outlook in 2012. In response, Bogle said:

"If you're investing in stocks with the idea of a one year outcome, you should not invest. You can lose a lot. If you invest in stocks with a five-year outlook, I would think it is highly debatable if you should do that. You have to think about more than just the probabilities of a market crash. You have to consider the consequences for your savings, and whether you'd be decimated. As for bonds, with interest rates and yields so low now, you just have to take those for what they are-a lot lower than what they have been historically. With the economy, I'm cautious. I don't expect a boom in consumer spending over the next two or three years. People don't have the wherewithal to spend a lot more, and in today's world, they don't have the confidence. Confidence can change overnight, but wherewithal cannot." (Source)

One thing that I like about John Bogle is that he is never afraid to challenge the premises implicit in a question. Obviously, in the next couple of days, most of you will see a bevy of articles titled "10 Stocks to Rule 2012" or "5 All-Stars For 2012" that come up with all sorts of reasons explaining why Stock XYZ is poised to outperform the overall market in the coming year. This entire endeavor is folly, as Benjamin Graham liked to point out, because "in the short-run the stock market is a voting machine, but in the long-run the market is a weighing machine." Ultimately, the stock prices will correlate with earnings, but the path there is not a straight line. You can come up with a sound thesis that explains why Colgate-Palmolive (CL) will increase soap earnings by 10%, or that Coca-Cola (KO) will rapidly expand the Powerade line in Europe, or that Proctor & Gamble (PG) will greatly increase sales of Gillette in India. But even if you're right in that regard, there is no guarantee that the market will recognize that reality in the form of higher share prices within the next twelve months.

On a personal level, Bogle's rejection of explicit predictions in the near-term reinforces my belief that dividend-growth focused investing provides the best yardstick for measuring investments as well. I can recognize great companies like PepsiCo (PEP) or Johnson & Johnson (JNJ), but I cannot guarantee that the per share price will go up by 13% in 2012. However, I can look at the company's dividend history, payout ratio, and expected earnings per share growth, and then come up with a pretty good estimate of the approximate dividend increase to expect in 2012. If you own a dozen blue-chip stocks that generate $5,000 in annual income, you can set a goal of hoping that your investments will organically increase dividends by 7% in the coming year to raise your annual income to $5,350 without adding any further investments. And most likely, if these types of goals are met on a year in and year out basis, the share price gains will eventually follow. At Berkshire Hathaway (BRK.A) (NYSE:BRK.B), Warren Buffett does not spend his time worrying about how the market values his company's earnings, but instead, focuses on growing his annual profit stream to the greatest extent possible on a risk-adjusted basis.

Of course, Bogle takes his conjectures a step further and calls into question whether any investor should put aside money in the market that he may need within the next five years. This reminds me of the Keynes quote, "The markets can stay irrational much longer than you can stay solvent." The most dangerous (and psychologically depressing) thing that an investor can do is come up with a sound investment thesis, put his own money on it, see the price decline, and have to sell to meet living expenses before the company's performance meets the objective of the investor. Bogle is absolutely correct to reject the premise of the gimmicky market outlook questions, because investors are much better off putting their money on what they expect will happen, rather than trying to add an additional layer of difficulty by predicting when it will happen as well.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.