Consuelo Mack WealthTrack - July 24, 2009
CONSUELO MACK: This week on WealthTrack: in a television exclusive, Yale's legendary financial wizard David Swensen zaps the mutual fund industry and his endowment model critics and casts his magic spell on diversification, asset allocation and contrarian investing. Next on Consuelo Mack WealthTrack. Hello and welcome to this Great Investors edition of WealthTrack. I'm Consuelo Mack. Back in May we devoted an entire program to David Swensen, the legendary chief investment officer of Yale's endowment. Now the response to that rare interview was impressive- traffic to WealthTrack's website doubled in the weeks thereafter. We've decided to broadcast a second part of the Swensen interview that has never aired. Yale's David Swensen is an important figure in the financial world. He has literally transformed the way big university endowments are managed all over the country and he was recently named to President Obama's new economic recovery advisory board. Swensen's track record is full of superlatives. Since joining Yale 24 years ago at the tender age of 31, Yale has led all university endowments in average annual returns, becoming the nation's second largest behind Harvard. Under his leadership, Yale's endowment generated 20 consecutive years of positive returns from 1988 until June of 2008, the end of its fiscal year. In the decade ending June of last year, the endowment had clocked average annual returns of 16.3% vs. 6.5% for the average college endowment and a mere 2.5% for the S&P 500. That performance put Swensen in the top 1% of all institutional money managers and added an estimated $15 billion to Yale's endowment. Yale did not escape the past year's market wrath. Yale has been projecting a decline of 25% for the fiscal year, which ended on June 30, 2009. How did Swensen generate such market-beating long-term results? He and his team radically altered what Yale's endowment invests in: from the traditional mix of stocks, bonds and cash, they switched heavily to alternative investments and dramatically reduced their positions in domestic stocks and bonds from over 70% to under 15% of the portfolio. Swensen has literally written the book on university endowment management. His recently revised edition of Pioneering Portfolio Management: An Unconventional Approach to Institutional Investment is considered to be the bible for institutional money managers, and he has taken his message to individual investors with his book Unconventional Success: A Fundamental Approach to Personal Investment. In my interview, I asked Swensen whether he had seen the financial crash coming.
DAVID SWENSEN: In some ways, you could say that we saw this coming -- in the end of 2007, we took all of Yale's cash and put it into Treasuries. This was well before Bear Stearns failure and Lehman's failure.
CONSUELO MACK: Now where are we? What's your assessment of how far we've gone in repairing the financial system?
DAVID SWENSEN: Well, actually, you ask, I guess, first how it was that we got here, and I think that Jack Bogle gave a fascinating speech a few months ago where he talked about moving from the ownership society to an agency society, and about the need to move from the agency society to a fiduciary society. It really resonated with me. If you look at the investment banking world that I joined in 1979- I spent six years on Wall Street before I went to Yale, I spent three years at Lehman Brothers, three years at Salomon Brothers. They were private partnerships. The partners sat on the trading floor and knew what the exposures were because they owned the companies. So that was Jack Bogle's ownership society. And then you look at the absolutely insane capital structures that evolved in the intervening years; you saw way, way too much leverage in the financial system. Investment banks were the worst, but commercial banks were over-levered as well, and you looked at the character and quality of the assets, and the assets, I think, by and large were on their way to someplace else, but of course, when the music stops they don't get to go someplace else, so they're there.
CONSUELO MACK: Right.
DAVID SWENSEN: And it was other people's money because they were publicly traded entities, right? And so it was "heads I win, tails you lose" in terms of compensation for the individuals at these financial institutions. And the trick is getting away from this agency society - this set of financial institutions that are dealing with other people's money.
CONSUELO MACK: With no skin in the game.
DAVID SWENSEN: Yeah, or no skin or inadequate skin in the game, and then move to a fiduciary society.
CONSUELO MACK: How do we do that?
DAVID SWENSEN: I think it's a very, very difficult question, but if you think about commercial banking, for example, I think that it would be great if we ended up with a set of very simple, deposit-gathering balance-sheet lenders, and the deal would be that if you get government insurance on the deposits, you have to accept the high degree of regulation, and as part of the deal, it could be that when you generate loans, and these highly regulated deposit-gathering, balance-sheet-lending banks would only provide basic financial services.
CONSUELO MACK: Are these like the old S&L's?
DAVID SWENSEN: Actually, like the Bailey Brothers savings and loan of "it's a wonderful life," that's exactly what they're like, and you could require that they keep a large part of what it is that they originate on their balance sheet. Doesn't mean you can't have some securitization, you can't have some syndication, but you have to eat your own cooking. You have to live with the consequences of your actions.
CONSUELO MACK: What about regulation? Because you have some actually pretty big ideas about needing a much more-- broader, comprehensive regulation. So what is it?
DAVID SWENSEN: One of the pauses of the problems that we find ourselves facing is that there was this religion of deregulation, or this cultish belief that the market was always going to get you to the right solution. CONSUELO MACK: Right. Self-governing.
DAVID SWENSEN: Right, and Alan Greenspan was right at the top of the list of those who were advocating that position, that general attitude, and it turns out that that was an incredibly naive approach, because what the deregulation led to was this huge overleveraging and this incredible lack of quality control among our large financial institutions. We need to have much stronger regulation, much higher quality, we need to devote far more resources to the regulation of our financial system, broadly defined. I'm certainly not just talking about banks and securities firms. I think it's absolutely obvious that hedge funds need to be regulated. Long-term capital, 1998, $5 billion of equity, $150 billion of positions on the balance sheet, $1.2 trillion of derivative positions.
CONSUELO MACK: That was one institution.
DAVID SWENSEN: One institution.
CONSUELO MACK: That could have brought the system down.
DAVID SWENSEN: Could have brought the system down. Why is it that we are more than 10 years later, we haven't come to the conclusion that we need to regulate entities that could pose a threat to the system? I think it's absolutely obvious that any institution that could pose a threat to the system should be under the regulatory umbrella.
CONSUELO MACK: You have talked about the new reality -- PIMCO refers to it as the new normal. So what is the new reality that we're living in now as far as the investment climate, the economic climate, looking at the big picture? What do you think the new reality is that we should expect?
DAVID SWENSEN: I think that at least for the near term, we have to have more modest expectations about what it is that our investment portfolios are going to generate for us.
CONSUELO MACK: For instance, what is more modest -- Yale delivered 16.3% returns in the Yale endowment over a 10-year period.
DAVID SWENSEN: That was a pretty good run.
CONSUELO MACK: That was a terrific run.
DAVID SWENSEN: And I think stocks over that period were up a little bit more than 3% per annum and bonds somewhere between 4 and 5% per annum, so there was just a huge gap between what the portfolio produced and what you could have generated from marketable securities. If we think that equities over long periods of time--
CONSUELO MACK: 11% --
DAVID SWENSEN: 11, 12% returns, that's exactly the number I was going to come up with. I think we have just gone through a period where the economy took a more substantial hit than I think any of us--
CONSUELO MACK: Anticipated. And I guess than we have in, like, 50 years.
DAVID SWENSEN: Right. And we're still in a position where the financial markets, which were broken a few months ago, have yet to heal completely, and so I would say that at least for the intermediate term, you have to have lower expectations with respect to equities and maybe all other financial assets. Bonds- starting out with 3, 3.5, 4% coupon on Treasuries. That's a very, very, very low starting point.
CONSUELO MACK: Corporate bonds. We've had several guests on who were investing in corporate bonds, and they just said the returns are pretty exceptional. Are you at all attracted to the distressed bond market? Are you at all attracted to the corporate bonds or high-yield junk bonds, those kinds of securities?
DAVID SWENSEN: It depends on what hat I'm wearing. If I'm wearing my Yale hat, I think there are some extraordinary opportunities in the credit markets. If I'm wearing my individual investor hat, I don't think that there are high quality vehicles that individuals can tap into.
CONSUELO MACK: Because you don't want individuals to lose money, in other words -- you don't think individuals should take the kind of risks that you can take at Yale or -
DAVID SWENSEN: Well, I think if the right investment vehicle were there then I could recommend that an individual take those kinds of risks because one of the things that has come out of these broken credit markets are some very attractive risk-adjusted opportunities. But the corporate bond market is very, very tough. You need to have the same kind of analytical capabilities that you have to analyze equities, and on top of that you have to understand call provisions. It's incredibly complicated, and the mutual funds that specialize in this area generally are high cost and do a poor job of dealing with these incredibly complicated issues.
CONSUELO MACK: There are some hedge-fund managers who have come out with mutual funds, and we've had a couple on our show -- Cliff Asness from AQR and Andrew Lo, who you probably know from MIT, and again, it's in the spirit of portfolio diversification, they're giving an individual an opportunity to invest in arbitrage or to replicate some hedge-fund returns. What do you think about those kind of options for individuals that I'm sure we're going to see more of in the years ahead?
DAVID SWENSEN: I believe that there are a handful of high quality managers and -- I think Cliff Asness and Andy Lo are really impressive guys, and there are also some impressive guys on the equity side and in the mutual-fund world, but it's a handful among the thousands of mutual funds, and individuals, by and large, aren't well equipped to separate the wheat from the chaff.
CONSUELO MACK: Right.
DAVID SWENSEN: And when the probabilities are overwhelming that they'll end up with the not-so-good managers or the bad managers or the terrible managers as opposed to this tiny handful of high-quality managers. I think the only reasonable advice that I can give is to stay on the passive end of the spectrum. Put together a portfolio that you can implement using index funds.
CONSUELO MACK: It seems so unfair. So you think that individuals are always going to be, essentially, at a disadvantage, so the best that we can hope for is to have market returns and to have a portfolio that has some noncorrelated assets? Is that --
DAVID SWENSEN: Yeah, it seems unfair in a sense, but most everybody has something that they do with their lives other than studying financial markets.
CONSUELO MACK: Right.
DAVID SWENSEN: And I know how hard it is to beat the markets. They're actually quite efficient. And so I've got an incredibly highly qualified, wonderfully motivated group of colleagues at Yale, and we work really, really hard to put together these market-beating portfolios.
CONSUELO MACK: And the market-beating portfolios, our viewers should know -- you're not investing the money yourself.
DAVID SWENSEN: No.
CONSUELO MACK: You outsource.
DAVID SWENSEN: With outside stock managers.
CONSUELO MACK: Right. So is there one or two things that you insist upon in choosing a manager? I mean, what are the things that you look for in choosing a good investment manager? Criteria.
DAVID SWENSEN: If we talked about this 20 years ago, I probably would have come up with a list of objective criteria.
CONSUELO MACK: And now?
DAVID SWENSEN: And now, I just say it's all about the people. You want to have really high quality people, great integrity, very intelligent, hard-working, people that have found an edge that they can exploit.
CONSUELO MACK: In their particular niche.
DAVID SWENSEN: In their particular niche. And I would say it's people first, people second, people third. You just want to be partners with great people.
CONSUELO MACK: But size counts too, right? You don't like to invest with funds that get too big?
DAVID SWENSEN: Size is the enemy of performance. So the people that we invest with -- I like to say have a screw loose because they don't define winning by amassing as large a pool of assets as they possibly can, because if they did that, they would invariably make more money because it's asset-based fees, and they sometimes get a carry on the performance so the bigger the pile of money, the more money they're going to make and that's one of the big problems with the mutual-fund industry. It's not about creating great investment returns, it's about amassing these huge piles of assets because that's the way that the fund companies generate greater profits. But the managers that we're with are actually being good fiduciaries to the university because almost invariably they'll limit the size of assets under management so they can produce great investment returns, and they define winning by having a great investment record as opposed to the greatest degree of fee income that they can possibly generate.
CONSUELO MACK: Assets under management. Haven't you been tempted to leave Yale and the not-for-profit sector and make more than a paltry couple million a year?
DAVID SWENSEN: I get paid incredibly well for what I do, and I love being part of an academic community. I love being part of the economics department at Yale. I have been teaching since 1980, even longer than I have been working at Yale. I love the students. I like the idea that I'm supporting one of the world's great institutions.
CONSUELO MACK: So this is something you want to continue to do.
DAVID SWENSEN: As long as they'll have me.
CONSUELO MACK: I'm sure they'll have you for a long time. I should end it there but I'm not going to. What about your kids' portfolios? How do you invest -- I've got a 21-year-old son and you have got three children. So how are you investing their portfolios?
DAVID SWENSEN: I've got a combination of index funds and some closed-end funds trading at a discount. I guess that's kind of the one asterisk that I would put by the purely passive approach. I love what Jack Bogle has written. I love what Charley Ellis has written. I love what Burton Malkiel has written. They're fans of index funds. But Burt Malkiel has also written about buying closed-end funds at a discount and I think that's an interesting strategy for individuals to pursue if they just can't stand having a purely indexed portfolio.
CONSUELO MACK: And at this point in the economy and in the markets, are there one or two areas that you would emphasize over others that you think are going to do extremely well over the next five years, let's say?
DAVID SWENSEN: TIPS are interesting, because if the fiscal stimulus and the monetary stimulus work, it's hard to see an environment where we're not dealing with substantial inflation. If they don't work, the fiscal stimulus and the monetary stimulus, then I think you have to worry about deflationary pressures, and if you buy new-issue TIPS, you have the protection of getting your principal back, and so new-issue TIPS- not the ones that have accredited to above par because of the passive inflationary adjustments- new-issue TIPS are actually instruments that could help you in an inflationary environment and in a deflationary environment.
CONSUELO MACK: And not TIPS funds. You buy the new-issue TIPS because then you hold them to maturity and you get the principal back at maturity.
DAVID SWENSEN: Yeah. And to get the deflation protection, you have to keep in the new issues, because if you are in an inflationary period, the value of the principal goes up along with inflation, and then you've got something that you can lose before you get back to par. I guess the other thing that I think people should pay attention to in their portfolios that they probably by and large don't pay enough attention to would be emerging-markets exposure. I'm not sure where I come out on the decoupling issue, but you could certainly imagine a circumstance where China and India and Brazil, maybe some of the other big emerging-markets countries perform substantially better than some of the developed economies where you see the direct impact of the clots of the financial system.
CONSUELO MACK: What is it that we should know about your unconventional approach, that individuals should take to heart?
DAVID SWENSEN: I think that the sad fact is that the game is really stacked against the individual, that almost any provider of financial services to individuals, whether it's a stock broker or a mutual-fund manager, has a conflict between the fiduciary responsibility that's owed to the client and the profit motive. And when you see that conflict, the profit motive more often than not wins, and so the only way that an individual is going to end up with a reasonable outcome is to educate themselves, and I think the only reasonable way to do that is to read books, and you can read Charley Ellis's book or Jack Bogle's book -
CONSUELO MACK: Winning The Loser's Game, or Enough, Jack Bogle has written a lot of books. I might add your books, Unconventional Success.
DAVID SWENSEN: And you've just got to take control of your financial destiny, and not believe that you can pass responsibility off to a trained professional and that you'll end up with a good outcome, unfortunately, that just isn't the way that the world works.
CONSUELO MACK: I have a suggestion for you, David Swensen, and that is you should start a mutual fund, and take your fiduciary responsibility and make it accessible to the rest of us. At any rate, that's a dream, I'm sure, but thank you so much for being with us on WealthTrack and spending so much time with us.
DAVID SWENSEN: Thank you.
CONSUELO MACK: For those of you who would like to hear more from Yale's David Swensen, next week we'll be repeating part one of our wide-ranging interview with him as we continue our Great Investors series. If you would like to watch this program again, just go to our website, wealthtrack.com starting on Monday. You can see it as streaming video. Thanks for visiting with us and make the week ahead a profitable and a productive one.
© 2009 WealthTrack.com All rights reserved.contact Powered by OfficeThug
Showing posts with label john c bogle. Show all posts
Showing posts with label john c bogle. Show all posts
Saturday, August 1, 2009
Sunday, July 19, 2009
Consuelo Mack -- Must Read
My "transcript" from listening on line to yesterday's show:
Sunday, July 19, 2009
Consuelo Mack from Yesterday
Prior Interviews of Peter Bernstein
Died this summer. June. Age of 90.
Recognized expert on risk.
Against the Gods
Weighing of the Waters
2005 interview
Pascal’s Wager, 1654
French mathematician; compulsive gambler
He invented probability
Very religious man; a nut
Life of sin
Then Retired to a monastery
Is there a God? Can’t reason this.
If I believe in God and lead a virtuous life
I can decide how to lead my life. If I lead a bad life of sin and lust, and there is a God, I’m in bad trouble.
Very often you have to forget the probabilities because the consequences are so serious.
Doesn’t always mean you make the cautious decision. Woman…in airplane crash.$100,000 settlement. All she had in the world. Young, in her 20’s. We would put ½ in bonds, with the other ½ we would shoot the moon. She didn’t have enough anyway and if she lost it she was a goner anyhow.
Late 1970’s when bonds were yielding 15-16%. Inflation also 15-16%
Take a big position in bonds. (Early ‘80’s).
2005 interview (continued)
In a low-return environment…
Believe in diversification.
US is worked over as an investment opportunity.
You should not be “comfortable” with everything you own.
Go overseas.
Disagrees with mantra re US stocks.
No more than ½ in assets in US at most if I were starting fresh.
Etfs -- Will offer a whole big piece.
Ishares, msci
All the world stocks except the us.
Similarly bonds outside the US. Similarly Gold.
2005 interview (continued)
Dividends matter.
Still matter. Cash in your pocket. You know what it is.
Tax rate is same as on capital gains now. Payouts are so low. Dividends will increase faster than earnings.
Optimist…problems do get solved.
A lot of youth in this country.
Vitality you get in the equity markets. Outside the us. I’m a big believer in funds. If people manage that money themselves I know they would have done worse.
2007 interview
Wrote book: “Capital Ideas”
Academics. Most never owned a share in their lives. Risk.
Methods to try to maximize the trade-off between risk and return. Overwhelming importance of diversification. Reduces your risk.
How much risk do I want to take? Really think that question through.
Can I live with volatility.
The efficient markets hypothesis. Mark Hulbert. A five or 10-year
track record means a lot more than…
Own index funds too.
Cost of doing it. Management fee. Jack Bogel.
I won no actively-managed mutual funds. Only index funds. A lot in index funds.
Decisions that human beings are making now that repr opportunity or risk.
Risk is the centerpiece. We can’t manage returns; we can manage our risk.
How much can I stand the heat of the oven.
Harry Markowitz. “But I have to think about risk as well as return.”
Yale: if everything goes wrong, what will the effect be on Yale, etc.
Individuals should do the same.
Once you have it made it’s silly to take more risk. Risk means you might lose.
2007 interview (continued)
…shoot the moon.
International, commodities.
Thing that worries me the most is the dollar. Foreigners will say “enough is enough.”
Very easy to move out of the currency to somewhere else.
Odds are small but the consequences are enormous.
Own securities denom in other currencies. Short term treasuries. Gold. Very expensive to own but a little goes a long way.
Sunday, July 19, 2009
Consuelo Mack from Yesterday
Prior Interviews of Peter Bernstein
Died this summer. June. Age of 90.
Recognized expert on risk.
Against the Gods
Weighing of the Waters
2005 interview
Pascal’s Wager, 1654
French mathematician; compulsive gambler
He invented probability
Very religious man; a nut
Life of sin
Then Retired to a monastery
Is there a God? Can’t reason this.
If I believe in God and lead a virtuous life
I can decide how to lead my life. If I lead a bad life of sin and lust, and there is a God, I’m in bad trouble.
Very often you have to forget the probabilities because the consequences are so serious.
Doesn’t always mean you make the cautious decision. Woman…in airplane crash.$100,000 settlement. All she had in the world. Young, in her 20’s. We would put ½ in bonds, with the other ½ we would shoot the moon. She didn’t have enough anyway and if she lost it she was a goner anyhow.
Late 1970’s when bonds were yielding 15-16%. Inflation also 15-16%
Take a big position in bonds. (Early ‘80’s).
2005 interview (continued)
In a low-return environment…
Believe in diversification.
US is worked over as an investment opportunity.
You should not be “comfortable” with everything you own.
Go overseas.
Disagrees with mantra re US stocks.
No more than ½ in assets in US at most if I were starting fresh.
Etfs -- Will offer a whole big piece.
Ishares, msci
All the world stocks except the us.
Similarly bonds outside the US. Similarly Gold.
2005 interview (continued)
Dividends matter.
Still matter. Cash in your pocket. You know what it is.
Tax rate is same as on capital gains now. Payouts are so low. Dividends will increase faster than earnings.
Optimist…problems do get solved.
A lot of youth in this country.
Vitality you get in the equity markets. Outside the us. I’m a big believer in funds. If people manage that money themselves I know they would have done worse.
2007 interview
Wrote book: “Capital Ideas”
Academics. Most never owned a share in their lives. Risk.
Methods to try to maximize the trade-off between risk and return. Overwhelming importance of diversification. Reduces your risk.
How much risk do I want to take? Really think that question through.
Can I live with volatility.
The efficient markets hypothesis. Mark Hulbert. A five or 10-year
track record means a lot more than…
Own index funds too.
Cost of doing it. Management fee. Jack Bogel.
I won no actively-managed mutual funds. Only index funds. A lot in index funds.
Decisions that human beings are making now that repr opportunity or risk.
Risk is the centerpiece. We can’t manage returns; we can manage our risk.
How much can I stand the heat of the oven.
Harry Markowitz. “But I have to think about risk as well as return.”
Yale: if everything goes wrong, what will the effect be on Yale, etc.
Individuals should do the same.
Once you have it made it’s silly to take more risk. Risk means you might lose.
2007 interview (continued)
…shoot the moon.
International, commodities.
Thing that worries me the most is the dollar. Foreigners will say “enough is enough.”
Very easy to move out of the currency to somewhere else.
Odds are small but the consequences are enormous.
Own securities denom in other currencies. Short term treasuries. Gold. Very expensive to own but a little goes a long way.
Wednesday, April 15, 2009
Morgenson -- John C. Bogle
He Doesn’t Let Money Managers Off the Hook
By GRETCHEN MORGENSON
Published: April 11, 2009
EVERY once in a while, if only for sanity’s sake, it is wise to leave our bankrupt era behind and seek out a bit of wisdom from a moral authority. It’s a challenging exercise, given that so many formerly stellar reputations are now shipwrecked and that all those once-smart guys and gals have been reduced to bull-market geniuses.
Times Topics: Gretchen Morgenson
And yet there are a few voices of reason and integrity left in this upside-down world. One is John C. Bogle’s. He is the founder of the Vanguard Group, an author and an investor advocate. With almost 58 years in the money management business, Mr. Bogle has kept his reputation intact. That alone sets him apart.
But Mr. Bogle is also worth talking to because he is a thinker, a sort of financial philosopher. And earlier this month he lectured at Columbia University about, not surprisingly, the financial crisis and its causes. What he said was illuminating.
In his talk, he cited the usual suspects: borrowers, lenders, securitizers, regulators and Wall Street traders. But he also identified one group that hasn’t been singled out for shame: the institutional money managers that allowed the nation’s financial companies to amass enormous risks on their balance sheets and pay gigantic compensation based on false profits. The big funds let this happen without uttering a word.
“When I read the causes of the recent unpleasantness, I haven’t seen one single person who has said that the owners of these corporations, including the banking corporations, didn’t seem to give a damn about how they were being run,” Mr. Bogle said in an interview last week. “We own all this stock but we pretty much do nothing.”
That “we” he talks about really refers to those in charge of our retirement accounts, pensions and savings: mutual funds and professional money management firms that, as institutional investors, control 70 percent of the shares of large public companies today.
Such an outsize stake means that the institutions wield great power and influence over corporate America. Yet, as Mr. Bogle points out, few institutions have played an active role in board structure and governance, director elections, executive compensation, stock options proxy proposals or dividend policies at the companies they own.
“Given their forbearance as corporate citizens,” Mr. Bogle said, “these managers arguably played a major role in allowing the managers of our public corporations to exploit the advantages of their own agency.”
INDEED, while many still believe that the American way of investing makes ours an ownership society, Mr. Bogle says we live in an agency society, one in which we rely on agents — mutual fund managers, pension fund managers — to make our investment choices for us.
An ownership society was an accurate depiction of where this country was 50 years ago, Mr. Bogle says. Not today.
And he says that the trust we have placed in these agents is undeserved. In his view, the agents have failed to serve their clients — mutual fund shareholders, pension beneficiaries and long-term investors; instead, the agents have served themselves.
Consider fees. Charges levied on mutual fund investors are much higher than those that the identical firms exact on pension clients, for example. The three largest money managers, Mr. Bogle pointed out, charged an average fee rate of 0.08 percent to pension customers. This compares with 0.61 percent charged to fund shareholders.
Money managers also haven’t done the kind of due diligence that might have protected their investors from titanic losses. “How could so many highly skilled, highly paid securities analysts and researchers have failed to question the toxic-filled, leveraged balance sheets of Citigroup and other leading banks and investment banks?” Mr. Bogle asked.
Keep in mind that these failures have occurred in spite of the Investment Company Act of 1940, which states that “mutual funds should be managed and operated in the best interests of their shareholders, rather than in the interests of advisers.”
In the face of all this, Mr. Bogle suggests that we force our agents to relearn what being a fiduciary means. A fiduciary, these managers seem to have forgotten, acts for the sole benefit and interest of another. We need to replace the agency society with a fiduciary society, he argues.
To achieve this, Mr. Bogle says, the government must apply a federal standard of fiduciary duty to institutional money managers. This would force them to use their stock holdings as a cudgel, to demand that directors and executives of corporations honor their responsibilities to their owners.
“We need Congress to pass a law establishing the basic principle that money managers are there to serve their shareholders,” Mr. Bogle said. “And the second part of the demand is that fiduciaries act with due diligence and high professional standards. That doesn’t seem to be too much to ask.”
Some money management firms are publicly traded themselves, and Mr. Bogle says that those firms offer an added layer of deep and serious conflicts because executives running them try to serve two masters: their shareholders and their fund clients.
Such conflicts can be resolved only by separating the money management units from the larger, publicly traded firms, Mr. Bogle said. Under such a plan, the Deutsche Bank Group, for example, would spin off DWS Investments, its mutual fund unit, or Sun Life of Canada would divest itself of MFS Investment Management.
And with a fiduciary law in place, Mr. Bogle believes, money managers would be far more responsible about corporate citizenship than they are now.
“The funds should demand with all their voting power that the companies they own are putting the interests of their shareholders first,” he said. “This would have implications for executive compensation, nominating directors, and other corporate governance matters.”
Mr. Bogle doesn’t think that the mutual fund industry will rush to embrace his idea. The powerhouses in the business have battled fiercely against attempts to shine sunlight on their practices or rid their operations of conflicts.
But as our current financial crisis has made clear, there are significant problems in the structure of the mutual fund business, and now is the perfect time to solve them.
“This will create a lot of opposition, but it is not a regulatory solution, it is a principles-based solution,” Mr. Bogle said. “We would gradually develop a series of decisions about how these things fit into the overall fabric of investment management. Is it easy to articulate? No, but is the principle easy to understand? Absolutely. Shareholders come first.”
Rescue Plan For Funds Will Come At a Price (September 20, 2008)
MUTUAL FUNDS REPORT; Why Your Fund Beat the Average, but You Didn't (October 8, 2006)
MARKET PLACE; Real Money Rides on an Argument About the Fundamentals of Investing (August 15, 2006)
Fund Managers May Have Some Pay Secrets, Too (April 16, 2006)
Bogle, John C Get E-Mail Alerts
MOST POPULAR - BUSINESS
E-Mailed
Blogged
Promising Test for Dendreon’s Prostate Cancer Drug
More Hotels Facing an Uncertain Future
U.S. Planning to Reveal Data on Health of Top Banks
News Analysis: Obama Stands Firm on a Sweeping Agenda
Harder-Edged Warnings About Britain’s Economy
Recession Pain, Even in Palm Beach
So Botox Isn’t Just Skin Deep
Media Executives Plan Online Service to Charge for Content
Tech Recruiting Clashes With Immigration Rules
Goldman Using Share Sale to Return Bailout Funds Go to Complete List »
Crisis Altering Wall Street as Big Banks Lose Top Talent
'Surgical' Bankruptcy Possible for G.M.
Banks Holding Up in Tests, but May Still Need Aid
China Slows Purchases of U.S. and Other Foreign Bonds
Obama See 'Glimmers of Hope' for the Economy
U.S. Imagines the Bailout as an Investment Tool
In Boston, Paper's Peril Hits a Chord
In Switch, Magazines Think About Raising Prices
Boston Globe Surprised by Size of Demand for Cuts
Cities Turn to Fees to Fill Budget Gaps Go to Complete List »
By GRETCHEN MORGENSON
Published: April 11, 2009
EVERY once in a while, if only for sanity’s sake, it is wise to leave our bankrupt era behind and seek out a bit of wisdom from a moral authority. It’s a challenging exercise, given that so many formerly stellar reputations are now shipwrecked and that all those once-smart guys and gals have been reduced to bull-market geniuses.
Times Topics: Gretchen Morgenson
And yet there are a few voices of reason and integrity left in this upside-down world. One is John C. Bogle’s. He is the founder of the Vanguard Group, an author and an investor advocate. With almost 58 years in the money management business, Mr. Bogle has kept his reputation intact. That alone sets him apart.
But Mr. Bogle is also worth talking to because he is a thinker, a sort of financial philosopher. And earlier this month he lectured at Columbia University about, not surprisingly, the financial crisis and its causes. What he said was illuminating.
In his talk, he cited the usual suspects: borrowers, lenders, securitizers, regulators and Wall Street traders. But he also identified one group that hasn’t been singled out for shame: the institutional money managers that allowed the nation’s financial companies to amass enormous risks on their balance sheets and pay gigantic compensation based on false profits. The big funds let this happen without uttering a word.
“When I read the causes of the recent unpleasantness, I haven’t seen one single person who has said that the owners of these corporations, including the banking corporations, didn’t seem to give a damn about how they were being run,” Mr. Bogle said in an interview last week. “We own all this stock but we pretty much do nothing.”
That “we” he talks about really refers to those in charge of our retirement accounts, pensions and savings: mutual funds and professional money management firms that, as institutional investors, control 70 percent of the shares of large public companies today.
Such an outsize stake means that the institutions wield great power and influence over corporate America. Yet, as Mr. Bogle points out, few institutions have played an active role in board structure and governance, director elections, executive compensation, stock options proxy proposals or dividend policies at the companies they own.
“Given their forbearance as corporate citizens,” Mr. Bogle said, “these managers arguably played a major role in allowing the managers of our public corporations to exploit the advantages of their own agency.”
INDEED, while many still believe that the American way of investing makes ours an ownership society, Mr. Bogle says we live in an agency society, one in which we rely on agents — mutual fund managers, pension fund managers — to make our investment choices for us.
An ownership society was an accurate depiction of where this country was 50 years ago, Mr. Bogle says. Not today.
And he says that the trust we have placed in these agents is undeserved. In his view, the agents have failed to serve their clients — mutual fund shareholders, pension beneficiaries and long-term investors; instead, the agents have served themselves.
Consider fees. Charges levied on mutual fund investors are much higher than those that the identical firms exact on pension clients, for example. The three largest money managers, Mr. Bogle pointed out, charged an average fee rate of 0.08 percent to pension customers. This compares with 0.61 percent charged to fund shareholders.
Money managers also haven’t done the kind of due diligence that might have protected their investors from titanic losses. “How could so many highly skilled, highly paid securities analysts and researchers have failed to question the toxic-filled, leveraged balance sheets of Citigroup and other leading banks and investment banks?” Mr. Bogle asked.
Keep in mind that these failures have occurred in spite of the Investment Company Act of 1940, which states that “mutual funds should be managed and operated in the best interests of their shareholders, rather than in the interests of advisers.”
In the face of all this, Mr. Bogle suggests that we force our agents to relearn what being a fiduciary means. A fiduciary, these managers seem to have forgotten, acts for the sole benefit and interest of another. We need to replace the agency society with a fiduciary society, he argues.
To achieve this, Mr. Bogle says, the government must apply a federal standard of fiduciary duty to institutional money managers. This would force them to use their stock holdings as a cudgel, to demand that directors and executives of corporations honor their responsibilities to their owners.
“We need Congress to pass a law establishing the basic principle that money managers are there to serve their shareholders,” Mr. Bogle said. “And the second part of the demand is that fiduciaries act with due diligence and high professional standards. That doesn’t seem to be too much to ask.”
Some money management firms are publicly traded themselves, and Mr. Bogle says that those firms offer an added layer of deep and serious conflicts because executives running them try to serve two masters: their shareholders and their fund clients.
Such conflicts can be resolved only by separating the money management units from the larger, publicly traded firms, Mr. Bogle said. Under such a plan, the Deutsche Bank Group, for example, would spin off DWS Investments, its mutual fund unit, or Sun Life of Canada would divest itself of MFS Investment Management.
And with a fiduciary law in place, Mr. Bogle believes, money managers would be far more responsible about corporate citizenship than they are now.
“The funds should demand with all their voting power that the companies they own are putting the interests of their shareholders first,” he said. “This would have implications for executive compensation, nominating directors, and other corporate governance matters.”
Mr. Bogle doesn’t think that the mutual fund industry will rush to embrace his idea. The powerhouses in the business have battled fiercely against attempts to shine sunlight on their practices or rid their operations of conflicts.
But as our current financial crisis has made clear, there are significant problems in the structure of the mutual fund business, and now is the perfect time to solve them.
“This will create a lot of opposition, but it is not a regulatory solution, it is a principles-based solution,” Mr. Bogle said. “We would gradually develop a series of decisions about how these things fit into the overall fabric of investment management. Is it easy to articulate? No, but is the principle easy to understand? Absolutely. Shareholders come first.”
Rescue Plan For Funds Will Come At a Price (September 20, 2008)
MUTUAL FUNDS REPORT; Why Your Fund Beat the Average, but You Didn't (October 8, 2006)
MARKET PLACE; Real Money Rides on an Argument About the Fundamentals of Investing (August 15, 2006)
Fund Managers May Have Some Pay Secrets, Too (April 16, 2006)
Bogle, John C Get E-Mail Alerts
MOST POPULAR - BUSINESS
E-Mailed
Blogged
Promising Test for Dendreon’s Prostate Cancer Drug
More Hotels Facing an Uncertain Future
U.S. Planning to Reveal Data on Health of Top Banks
News Analysis: Obama Stands Firm on a Sweeping Agenda
Harder-Edged Warnings About Britain’s Economy
Recession Pain, Even in Palm Beach
So Botox Isn’t Just Skin Deep
Media Executives Plan Online Service to Charge for Content
Tech Recruiting Clashes With Immigration Rules
Goldman Using Share Sale to Return Bailout Funds Go to Complete List »
Crisis Altering Wall Street as Big Banks Lose Top Talent
'Surgical' Bankruptcy Possible for G.M.
Banks Holding Up in Tests, but May Still Need Aid
China Slows Purchases of U.S. and Other Foreign Bonds
Obama See 'Glimmers of Hope' for the Economy
U.S. Imagines the Bailout as an Investment Tool
In Boston, Paper's Peril Hits a Chord
In Switch, Magazines Think About Raising Prices
Boston Globe Surprised by Size of Demand for Cuts
Cities Turn to Fees to Fill Budget Gaps Go to Complete List »
Tuesday, July 22, 2008
Morgenson Yesterday
Advertise on NYTimes.com
Fair Game
Borrowers and Bankers: A Great Divide
writePost();
new_york_times:http://www.nytimes.com/2008/07/20/business/economy/20gret.html
By GRETCHEN MORGENSON
Published: July 20, 2008
THE credit crisis has exposed and worsened a dangerous and deepening divide in this country between a vast number of average borrowers and a fairly elite slice of corporations, banks and executives enriched by the mortgage mania.
Borrowers who are in trouble on their mortgages have seen their government move slowly — or not all — to help them. But banks and the executives who ran them are quickly deemed worthy of taxpayer bailouts.
On the ground, this translates into millions of troubled borrowers, left to work through their problems with understaffed, sometimes adversarial loan servicing companies. If they get nowhere, they lose their homes.
Taxpayers, meanwhile, are asked to stand by with money to inject into Fannie Mae and Freddie Mac, the government-sponsored mortgage finance giants, should they need propping up if loan losses balloon.
The message in this disconnect couldn’t be clearer. Borrowers should shoulder the consequences of signing loan documents they didn’t understand, but with punishing terms that quickly made the loans unaffordable. But for executives and directors of the big companies who financed these loans, who grew wealthy while the getting was good, the taxpayer is coming to the rescue.
To be sure, bailouts are becoming increasingly necessary in our highly leveraged, interconnected financial world. One obvious reason that huge companies are not allowed to fail is that so many people are hurt by such debacles. If a family files for bankruptcy or loses a home, the pain still hurts, but its emotional and financial ripples are confined.
And in the heat of a financial crisis, there is often little time to think through who deserves a bailout and who does not. In especially dire circumstances, leaders have no choice but to rescue companies. Think about Bear Stearns: even though it was relatively small in size for a brokerage firm, its demise had to be averted because of a possible domino effect that might have also taken down its many trading partners. In that multibillion-dollar bailout, it was Bear’s big and wealthy counterparties who benefited.
Fannie Mae and Freddie Mac, however, present an exponentially larger problem. They are unquestionably too big to fail. With $5.2 trillion in mortgages either on their books or guaranteed by them, their bailout was completely predictable. If those companies had been left for road kill, the mortgage market would have ground to a halt and a financial conflagration of historic and devastating proportions would have resulted.
Not all big banks get bailouts, of course. IndyMac Bank, one of the nation’s largest savings and loans, was closed down by regulators last week.
Nevertheless, we are in dangerous territory today where bailouts are concerned, and not only because they feed Americans’ suspicions that only the rich and powerful get help in our country.
Bailouts are also ticklish affairs because of the precarious state of our economy. As Americans are being asked to shore up reckless financial companies, they are also being punished by high oil prices, rocketing food costs and a stomach-churning slide in the buying power of their currency, the once-almighty dollar.
So asking Main Street to bail out Wall Street leads to this inevitable question: Weren’t the financial folks the ones who helped create the mess we’re in?
Yet last week, regulators gave a nice boost to Wall Street and other members of the financial club. Christopher Cox, the chairman of the Securities and Exchange Commission, devised an emergency rule change for traders wishing to sell short the shares of 19 financial companies, including Lehman Brothers, Merrill Lynch, Fannie Mae, Bank of America and Citigroup. The rule states that if you haven’t borrowed the shares you intend to sell short, you can’t make the trade. It extends until July 29.
There are several interesting aspects to this change. First, if the S.E.C. believes that shorting without previously borrowing shares is a problem in the market, why not apply the rule to all stocks? After seeing many of the 19 companies’ stocks shoot higher after the plan was announced, executives at General Electric, the American International Group and MBIA, companies whose shares have also been pummeled in the financial crisis, must surely feel left out of the fun.
Once again, this emergency action smacks of the regulatory responses of recent years: do nothing to curb the deal-making mania while it is occurring, but when the rout comes along, hurry up and rein it in.
Of course, people prefer rising stock prices to declining ones. Wouldn’t it be wonderful if shares never fell? But such actions call into question the claim that ours is a free-market system. More and more, our version of free markets holds that they are free only when asset values rise. When they fall, the markets must be managed.
HERE is a question: Might not the routs, which inevitably follow the manias, be less painful if things were not allowed to get wild and crazy on the upside? Might not the American people be better off with regulators who curb market enthusiasm — whether in the form of errant lending or voracious, ill-considered deal making — when it reaches manic levels, to protect against the free fall, and the bailouts, that ensue?
No, no, no — perish the thought, especially when the taxpayer is there to pick up the bill.
Which returns us to the dispiriting divide between those who receive help and those who don’t.
“The banks are too big to fail and the man in the street is too small to bail,” said John C. Bogle, the founder of the Vanguard Group, the mutual funds giant, who is a philosopher of finance.
Mr. Bogle is working on his seventh book, titled “Enough,” which is scheduled to be published in November. He said he was disturbed by the extreme speculation that spread into the entire economy during the housing boom and that now threatens both consumers and investors.
“I predicted last summer that this would be my 10th bear market,” he said. “But this one is different. The others were more marketlike, reflecting problems in the market, not problems in the society and the economy as this one does. As a result, we’re in for a much more troublesome era than after the other big bear markets.”
Mr. Bogle, like most investors, is an optimist at heart. But he believes that we must work to correct the growing imbalances in our country. “We Americans are one lucky bunch,” he said. “But, let’s face the truth. While the Declaration of Independence assures us that ‘all men are created equal,’ we’d best face the fact that we may be created equal but we are born into a society where inequality of family, of education and, yes, even opportunity begins as soon as we are born.”
“But the Constitution demands more,” he adds. “We the people are enjoined to form a more perfect union, to establish justice, ensure domestic tranquillity, and to promote the general welfare and to secure the blessings of liberty to ourselves and our posterity. So it’s up to each of us to summon our unique genius, our own power and our own personal magic to restore these values in today’s imbalanced society.”
Not a bad idea, bringing a little 18th-century enlightenment to this moment of 21st-century gloom.
Fair Game
Borrowers and Bankers: A Great Divide
writePost();
new_york_times:http://www.nytimes.com/2008/07/20/business/economy/20gret.html
By GRETCHEN MORGENSON
Published: July 20, 2008
THE credit crisis has exposed and worsened a dangerous and deepening divide in this country between a vast number of average borrowers and a fairly elite slice of corporations, banks and executives enriched by the mortgage mania.
Borrowers who are in trouble on their mortgages have seen their government move slowly — or not all — to help them. But banks and the executives who ran them are quickly deemed worthy of taxpayer bailouts.
On the ground, this translates into millions of troubled borrowers, left to work through their problems with understaffed, sometimes adversarial loan servicing companies. If they get nowhere, they lose their homes.
Taxpayers, meanwhile, are asked to stand by with money to inject into Fannie Mae and Freddie Mac, the government-sponsored mortgage finance giants, should they need propping up if loan losses balloon.
The message in this disconnect couldn’t be clearer. Borrowers should shoulder the consequences of signing loan documents they didn’t understand, but with punishing terms that quickly made the loans unaffordable. But for executives and directors of the big companies who financed these loans, who grew wealthy while the getting was good, the taxpayer is coming to the rescue.
To be sure, bailouts are becoming increasingly necessary in our highly leveraged, interconnected financial world. One obvious reason that huge companies are not allowed to fail is that so many people are hurt by such debacles. If a family files for bankruptcy or loses a home, the pain still hurts, but its emotional and financial ripples are confined.
And in the heat of a financial crisis, there is often little time to think through who deserves a bailout and who does not. In especially dire circumstances, leaders have no choice but to rescue companies. Think about Bear Stearns: even though it was relatively small in size for a brokerage firm, its demise had to be averted because of a possible domino effect that might have also taken down its many trading partners. In that multibillion-dollar bailout, it was Bear’s big and wealthy counterparties who benefited.
Fannie Mae and Freddie Mac, however, present an exponentially larger problem. They are unquestionably too big to fail. With $5.2 trillion in mortgages either on their books or guaranteed by them, their bailout was completely predictable. If those companies had been left for road kill, the mortgage market would have ground to a halt and a financial conflagration of historic and devastating proportions would have resulted.
Not all big banks get bailouts, of course. IndyMac Bank, one of the nation’s largest savings and loans, was closed down by regulators last week.
Nevertheless, we are in dangerous territory today where bailouts are concerned, and not only because they feed Americans’ suspicions that only the rich and powerful get help in our country.
Bailouts are also ticklish affairs because of the precarious state of our economy. As Americans are being asked to shore up reckless financial companies, they are also being punished by high oil prices, rocketing food costs and a stomach-churning slide in the buying power of their currency, the once-almighty dollar.
So asking Main Street to bail out Wall Street leads to this inevitable question: Weren’t the financial folks the ones who helped create the mess we’re in?
Yet last week, regulators gave a nice boost to Wall Street and other members of the financial club. Christopher Cox, the chairman of the Securities and Exchange Commission, devised an emergency rule change for traders wishing to sell short the shares of 19 financial companies, including Lehman Brothers, Merrill Lynch, Fannie Mae, Bank of America and Citigroup. The rule states that if you haven’t borrowed the shares you intend to sell short, you can’t make the trade. It extends until July 29.
There are several interesting aspects to this change. First, if the S.E.C. believes that shorting without previously borrowing shares is a problem in the market, why not apply the rule to all stocks? After seeing many of the 19 companies’ stocks shoot higher after the plan was announced, executives at General Electric, the American International Group and MBIA, companies whose shares have also been pummeled in the financial crisis, must surely feel left out of the fun.
Once again, this emergency action smacks of the regulatory responses of recent years: do nothing to curb the deal-making mania while it is occurring, but when the rout comes along, hurry up and rein it in.
Of course, people prefer rising stock prices to declining ones. Wouldn’t it be wonderful if shares never fell? But such actions call into question the claim that ours is a free-market system. More and more, our version of free markets holds that they are free only when asset values rise. When they fall, the markets must be managed.
HERE is a question: Might not the routs, which inevitably follow the manias, be less painful if things were not allowed to get wild and crazy on the upside? Might not the American people be better off with regulators who curb market enthusiasm — whether in the form of errant lending or voracious, ill-considered deal making — when it reaches manic levels, to protect against the free fall, and the bailouts, that ensue?
No, no, no — perish the thought, especially when the taxpayer is there to pick up the bill.
Which returns us to the dispiriting divide between those who receive help and those who don’t.
“The banks are too big to fail and the man in the street is too small to bail,” said John C. Bogle, the founder of the Vanguard Group, the mutual funds giant, who is a philosopher of finance.
Mr. Bogle is working on his seventh book, titled “Enough,” which is scheduled to be published in November. He said he was disturbed by the extreme speculation that spread into the entire economy during the housing boom and that now threatens both consumers and investors.
“I predicted last summer that this would be my 10th bear market,” he said. “But this one is different. The others were more marketlike, reflecting problems in the market, not problems in the society and the economy as this one does. As a result, we’re in for a much more troublesome era than after the other big bear markets.”
Mr. Bogle, like most investors, is an optimist at heart. But he believes that we must work to correct the growing imbalances in our country. “We Americans are one lucky bunch,” he said. “But, let’s face the truth. While the Declaration of Independence assures us that ‘all men are created equal,’ we’d best face the fact that we may be created equal but we are born into a society where inequality of family, of education and, yes, even opportunity begins as soon as we are born.”
“But the Constitution demands more,” he adds. “We the people are enjoined to form a more perfect union, to establish justice, ensure domestic tranquillity, and to promote the general welfare and to secure the blessings of liberty to ourselves and our posterity. So it’s up to each of us to summon our unique genius, our own power and our own personal magic to restore these values in today’s imbalanced society.”
Not a bad idea, bringing a little 18th-century enlightenment to this moment of 21st-century gloom.
Subscribe to:
Posts (Atom)