Financial Literacy - Financial tuneup
Advice from the index-fund mastermind

In fact, I wouldn't buy the Vanguard ETF because you pay a commission. What's the matter with that? The answer is nothing. So Stein and I are on the same square. What troubles me and troubles me deeply is: What are ETFs? They are index funds that you can trade all day and they are index funds you pay a commission on. Those two things strike me as a great disadvantage.

Trading is your enemy, because it's based on emotion. People do trade them with great rapidity. So I have a problem with trading ETFs, which you are lured into doing if you watch the market all day long, and also, the types of ETFs we have.

(In 2007) there (were) 690 types of ETFs, and only 12 are broad-market ETFs, like the S&P 500 or the World Stock index or similar total-stock indices. That leaves 678 funds that are vehicles for speculating. Whether it's in emerging cancer shares or the Taiwanese stock market, or the Nasdaq, those are speculative things to do. I can't tell you they won't work, but I can tell you that when you have a speculative instrument that you can trade all day long, I would bet an awful lot of money that you would be better off instead of doing a lot of trading over the next 10 years in those narrow, specialized, undiversified and, in terms of commissions, costly instruments -- you don't have a fighting chance of beating the kind of index strategy that I just described.

Investing for everyone

q_v2.gifYou were the first to introduce index funds in the form of mutual funds for everyday investors. Would you say that this was your greatest contribution to the investing public?

a_v2.gifVanguard 500 Index Fund is unequivocally the first index mutual fund. I don't dwell on my contributions such as they may be to the investing public. I've tried to do my best to build a better world for the average investor and, for that matter, for pension funds and institutional investors, too. Central to that was the creation of Vanguard, which was and is the only truly mutual mutual fund organization.

The management company is owned by the funds. Its profits, running about $12 billion a year (in 2007), are largely rebated -- 98 percent or something -- to our fund shareholders in the form of lower expenses. Without that kind of structure, it would be very difficult to bring out an index fund.

We went no-load around the time the index fund was introduced. We then focused on being a low-cost provider in the mutual fund industry. And therefore following, when we became effective operationally in May 1975, the first thing on my agenda was to start an index fund, which depended on low cost to work. The chicken-and-the-egg is that Vanguard was the chicken, and the index fund, the egg. But which was the most important?

We've been the most innovative company in this industry. And, I would argue quickly, soundly innovative. I don't give you points for innovation if you bring out an Internet stock fund at the height of the stock market boom in early 2000. That's bad innovation. In terms of good innovation, I think it's pretty clear we've led the way.


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