Jack Bogle On The Limits Of The Fiduciary Rule And The Future Of The Advisory Industry

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Speaking two weeks after his 88th birthday, Jack Bogle called the fiduciary rule “silly” and said that financial advisors’ fees are heading lower. Indeed, he said, advisors are destined to charge hourly or retainer fees, like lawyers and accountants.

Bogle is the founder and retired chairman of Vanguard Investments. He spoke at the CFA Institute’s Annual Conference, held in Philadelphia. He spoke for about 20 minutes and was then interviewed on stage by Ted Aronson, the founder and managing principal of AJO Partners, a Philadelphia-based active manager of equities.

“The fiduciary rule is silly because it applies only to retirement plans,” Bogle said. He said that brokers will be in a compromised and uncomfortable position when they work with a client who has retirement and non-retirement portfolios, under the fiduciary and suitability standards, respectively. The SEC will need to step in and make the fiduciary rule apply universally, according to Bogle.

Despite his prediction of fee compression, Bogle was upbeat about the future of the advisory business.

He said that he has “a lot of respect for RIAs,” but cautioned them to avoid individual stock trading, and instead to rely on asset allocation, which he said is “not as complex as it used to be.”

“Concentrate on what can really help the client,” he said, “like explaining the implications of market timing and the complexities of retirement and tax planning.”

He was far less sanguine about the future for active managers.

Reflections on a revolution

“The realm of investing has been no exception to the rise of innovation,” Bogle said.

Just as innovation has upended the media, music, retailing and transportation industries, it is slowly transforming the investment management business, according to Bogle.

He was not referring to so-called robo advisors, which he said are unlikely to have a significant impact. The transformative innovation is the availability of information that has exposed the high fees charged by some active managers and the overwhelming advantage of traditional index funds (TIFs).

“So far,” he said, “the index revolution has claimed no victims.”

But, he said, “Everything happens at the margins.” He noted that over the last decade, TIFs have had $1.3 trillion of inflow and active funds have suffered $1.1 trillion of outflows.

“That trend seems to be accelerating,” Bogle warned. “We are on pace for the biggest year for index flows and the second worst year for active funds.”

“Indexing is not a fad or fashion, but a fact of life,” Bogle said.

The failure of active management has gone unnoticed by consumers because the absolute returns were very good, according to Bogle. Since 1900, he explained, U.S. stocks have had a nominal return of 9.5%, consisting of 4.4% from dividends and 4.6% from earnings growth, which Bogle collectively termed the “investment return,” plus another 0.5% in P/E expansion, which he called the “speculative return.”

Since 1982, the results were even better: 3.3% from dividends, 5.4% from earnings growth and 3.4% from P/E expansion, for a nominal return of 12.1%. Active managers who charged high fees were still able to produce decent absolute returns, and their underperformance relative to TIFs was largely unnoticed by investors.

Looking forward, Bogle said, in the next 10 years investors should expect only 2.0% from dividends and 4.0% from earnings growth. With P/E ratios at 26.3, Bogle said investors could expect to lose 2% from P/E contraction, for a total return of 4.0%.

“Future returns will suffer as well,” he added, “as fund expenses will take a larger chunk of returns.”

By Robert Huebscher, read the full article here.

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