Bogle Grades Financial System ‘D’ as Volcker Urges Curbs

Volcker Named to Panel on Too-Big-to-Fail
Former Federal Reserve Chairman Paul Volcker had advised President Barack Obama during negotiations over what became the Dodd-Frank Act. Photo: Rich Clement/Bloomberg

Together they have 120 years experience in financial markets. John Bogle, 82, popularized index investing. Paul Volcker, 84, broke the back of 15 percent inflation as Federal Reserve chairman in the 1980s.

Today, they shared the same stage in New York and this view: confidence in the U.S. financial system is broken.

Bogle, the founder of mutual fund company Vanguard Group Inc. who has spent his career advocating a low-cost approach to personal investing and railing against conflicts of interest in his industry, said he would grade the U.S. financial system a ‘D’. Volcker, who has urged Congress to ban proprietary trading by commercial banks, said banks are lobbying to undermine financial regulation aimed at making the industry more stable.

“There’s no question that confidence in government is shaky,” Volcker, who’s a towering 6 foot 7 inches (201 centimeters) tall, said in New York today at The John C. Bogle Legacy Forum hosted by Bloomberg Link. Washington is “filled up with law firms that cover whole city blocks. Lobbying firms. And it’s all living off the influence of the government.”

The so-called Volcker rule seeks to stop regulated banks that receive support from the government from making risky bets with their own money. Wall Street firms including Goldman Sachs Group Inc. have argued the limitations could harm capital markets by reducing the role of banks. The Dodd-Frank Act, the regulatory overhaul enacted in 2010, requires that the rule be in place by July 21.

‘Giant Distraction’

Bogle, whose influence on the fund industry was discussed at the event by more than a dozen figures from the fields of investing and finance, said he backed the Volcker rule and called for investors to focus on longer-term investing instead of short-term trading and chasing stock-market swings.

“Returns are not created in the stock market,” said Bogle, who suffered at least six heart attacks before a successful transplant in 1996. “The stock market is a giant distraction and investor confidence in active management is broken.”

Bogle, a Princeton University graduate, founded Valley Forge, Pennsylvania-based Vanguard in 1974 and introduced the Vanguard 500 Index Fund, the first retail index mutual fund, two years later. His economics research at Princeton helped lay the groundwork for index mutual funds. When Bogle retired from Vanguard in 2000, the company established the Bogle Financial Markets Research Center.

Rather than relying on a manager to choose individual stocks or bonds in the hope of outperforming the market, the index fund simply bought most of the securities to closely track the Standard & Poor’s 500 and kept costs low.

Passing Fidelity

The Vanguard 500 Index fund has $99.5 billion in assets. Vanguard index funds make up four of the 10 biggest stock and bond mutual funds in the U.S., according to data compiled by Bloomberg. The company, which oversees about $1.65 trillion, surpassed Boston’s Fidelity Investments in 2010 to become the largest mutual-fund manager.

David Swensen, who pioneered an investing style that helped endowments beat markets by using alternative assets such as private equity and real estate, said at the same conference that investors who don’t have access to top managers are best off using index products such as those promoted by Bogle.

“There are two sensible approaches to investing -- either 100 percent active or 100 percent passive,” said Swensen, the chief investment officer of Yale University’s $19.4 billion endowment. Unless an investor has access to “incredibly high-qualified professionals,” they “should be 100 percent passive -- that includes almost all individual investors and most institutional investors,” he said.

Excessive Compensation

Bogle has also long criticized what he calls excessive executive compensation and the conflicts of interest that he says most money managers confront in pledging to maximize returns for clients and profits for company shareholders.

Bogle aimed to solve the potential conflict for Vanguard by setting up the company as a cooperative, owned by the funds it managed. The firm doesn’t distribute profits. It lowers fees when revenue grows faster than expenses, in effect returning excess proceeds to investors.

“Ordinary investors were for the first time given a fair shake,” because of Vanguard’s structure, Burton Malkiel, a Princeton economist, said during the conference.

Yale’s Swensen said that, by contrast, many other mutual fund firms still “allow profit to trump fiduciary responsibility.”

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