Acquired
02:26:30 · David Rosenthal
[02:26:30] S1: The vast, vast, vast majority of active management, again, of all types, not just like equity management funds, like everything out there in the financial ecosystem. So John Reckenthaler wrote on Morningstar in a retrospective on the financial crisis years later, active managers had long promised that when a bear market finally arrived, that they would outperform Vanguard's fully invested index funds. It did, and they did not. Yep. Yeah. And then related to what I was saying there, even more than the underperformance, you know, some might say nonperformance of the active management industry during the crisis. The crisis just completely bursts whatever halo or status or bubble had emerged around Wall Street and fund managers for most of the investing public. A lot of people's views of Wall Street during the financial crisis changes from, hey. These are smart people who I should probably invest my money with to these people are charlatans at best and crooks at worst. You've got the bailouts. You've got the Occupy Wall Street movement. You've got Lehman Brothers. You've got all this stuff, like public sentiment turns against Wall Street and active management in not just a major way, but arguably a permanent way. And who is there as the hero of Main Street, the little guys, but Malvern, Pennsylvania based, Jack Bogle and Vanguard, which makes no profits, has no fees above costs, has no corporate owners, and has always been the champion of the average American. I mean, you could not draw up a better marketing event for Vanguard than the financial crisis.
02:28:29 · Ben Gilbert, David Rosenthal
[02:28:29] S0: Yeah. And I think for a lot of people, they just decided to hang it up on thinking too hard about their finances. They they thought, look. I thought I was clever for trusting this person's cool strategy. I thought they were clever. Turns out none of us were clever enough, and the easy button where nobody's making any promises about how much better they're gonna do. I mean, Vanguard makes you no promises. It's hey. You're gonna get the market. If you're interested in the market, it has historically performed well because it essentially captures the productivity growth and innovation of the world's most successful economy. In fact, since they started existing nine since 1975, it's done extraordinarily well. Something like 11.6% compound annual growth rate if you reinvest dividends, that's a delightful average. If that's average, I'll take average. [02:29:20] S1: Right. Right. [02:29:20] S0: You know? Your your life is gonna be in great shape if you just compound that for a long time. And so I think for a lot of people, it was I'm fed up with clever. Give me straightforward. [02:29:30] S1: Yep. Well and the one explicit promise that Vanguard does make to you is we will not profit from you. Right. And that goes especially in this moment during and after the financial crisis, like, goes so far with so many people. [02:29:44] S0: Yes. Did you see you know what's interesting is Vanguard actually raised their fees in 2008. [02:29:49] S1: I didn't see that.
02:29:49 · David Rosenthal, Ben Gilbert
[02:29:49] S1: I didn't see that. [02:29:51] S0: I think structurally, they they sort of need to raise them when there's contractions in the market. First of all, you should know Vanguard did not lay anyone off during the financial crisis, which is kind of unbelievable. Yeah. [02:30:02] S1: Wow. [02:30:03] S0: So they have a fixed cost base that they have to cover, and now their AUM is lower, assuming they didn't get net new inflows because the underlying stocks are worthless. [02:30:11] S1: Right. [02:30:11] S0: Right. They they actually have to effectively raise money from their customers in the worst times to meet their obligations to pay all of their headcount and fixed costs. Now when they raise it, it's from, like, point o 7% to, like, you know, something slightly higher than that. So it ends up kinda being fine, and it's just noise. [02:30:31] S1: Still, like, very, very, very low. Right. Yeah. Interesting. [02:30:34] S0: But it is sort of this interesting impact of the mutual ownership model. [02:30:38] S1: Yeah. During market contractions, they actually have to raise their fees. [02:30:41] S0: Or at least have historically Yeah. Done that. Yep. So what what what's the impact of this?
02:30:41 · Ben Gilbert, David Rosenthal
[02:30:41] S0: Or at least have historically Yeah. Done that. Yep. So what what what's the impact of this? [02:30:46] S1: Well, just to put an even finer point on this, Saint Warren over in Omaha comes back into the story here. In 2007, fortuitously, right before the crash, he had issued a public challenge Warren Buffett had. He said that he would bet $1,000,000 of his own money against any and all takers from the hedge fund industry that over a ten year period starting on 01/01/2008, the Vanguard five hundred index fund would outperform after fees the same dollar amount invested in any portfolio of at least five hedge funds. And then the winner of the bet would get to select a charity that the funds would be donated to. [02:31:37] S0: It's kinda crazy. Right? You get to pick any five hedge funds you want. Yep. And you can go pick the five best. [02:31:43] S1: You can pick the five Tiger Cubs. You know? Whatever you want. [02:31:46] S0: And they just have to outperform the S and P over a 10 period. [02:31:49] S1: Not just the S and P, specifically, the Vanguard five hundred index fund. [02:31:53] S0: I know. It's cool he named [02:31:54] S1: it. It's really cool that he named it. [02:31:55] S0: It's good good for Vanguard. [02:31:56] S1: So this also just tells you kinda everything you need to know. Only one person took him up on the bet. Do you know I you do know who. [02:32:05] S0: Of course, know who this is. [02:32:07] S1: You know who it was. Our friend [02:32:08] S0: Ted, I'm sure you are listening. Acquired.
02:32:08 · Ben Gilbert, David Rosenthal
[02:32:08] S0: Ted, I'm sure you are listening. Acquired. [02:32:11] S1: Ted Siety's host today of the capital allocators podcast. The only hedge fund industry manager that took Warren up on his bet and accepted the challenge. And as Ted would be the first to tell you, he got whooped. [02:32:27] S0: It didn't look that way at first. The the hedge funds were off to a good start, but in the fullness of of the decade I don't have the numbers in front of me, but it was something like the S and P performed, like, a 130 something percent, and the hedge funds in aggregate were, like, 30 to 40%. [02:32:42] S1: I've got the numbers right here. Yeah. It is not even close. So the Vanguard five hundred index fund over the ten year period blows away Ted's selected hedge fund portfolio so much so that Ted ends up conceding early to Warren. [02:32:57] S0: Wow. [02:32:57] S1: Yeah. Like, a a year or two before it's over, he's Ted's like, yeah. Warren, you won. [02:33:03] S0: What charity am I making the Yep. The check [02:33:05] S1: out to? When all is said and done, the Vanguard five hundred returns a total of a 126% net after fees for the ten year period, while the hedge fund portfolio returns just 36%. So, yeah, what's that? Four Over ten years. Over ten years. Yeah. And, yes, Ben, the the charity that the check is made out to is Warren Selects Girls Inc of Omaha as the recipient of the money. [02:33:32] S0: I wonder we we gotta ask Ted if it was an option to pick the RENTECH Medallion fund.
02:33:32 · Ben Gilbert, David Rosenthal
[02:33:32] S0: I wonder we we gotta ask Ted if it was an option to pick the RENTECH Medallion fund. [02:33:38] S1: That's a good question. So Ted, it'd be fun to ask him. He actually chose a five hedge fund of funds to get a total basket of about a 100 different hedge funds in the portfolio. And Warren said, like, yeah. Sure. That's fine. [02:33:53] S0: Because then you're just buying the average. And the extra fee [02:33:56] S1: layer on top of the fund of funds [02:33:57] S0: too. What? [02:33:59] S1: I'm not sure why you made that choice. But either way [02:34:03] S0: But yeah. But but truly, like, the more diversification you get, the more you're just buying the market. And the more you're buying the market, the less interested you should be in paying fees. You should pay fees when it's more concentrated and thus uncorrelated with the market. [02:34:17] S1: Right. Right. Well, either way, Warren writes in Berkshire's 2016 annual letter related to all this, Quote, if a statue is ever erected to honor the person who has done the most for American investors, the hands down choice should be Jack Bogle. For decades, Jack has urged investors to invest in ultra low cost index funds. In his crusade, Jack was frequently mocked by the investment management industry. Today, however, he has the satisfaction of knowing that he helped millions of investors realize far better returns on their savings than they otherwise would have earned. He is a hero to them and to me.