The Legend of Jack Bogle, and the Future of ETFs

Episode 87 of the Investopedia Express with Caleb Silver (May 23, 2022)

Investors continue to have a hefty chunk of their portfolios in the stock market. Bank of America reported earlier this month that its private clients have an average of 63% of their portfolios dedicated to stocks, far more than after the 2008 financial crisis, when they had just 39% of their portfolios in stocks. We know a lot of money's moved to cash and government bonds lately, but millions of investors have just held on to their mutual funds and index funds and watched them fall day after day.

And yet the sell-off has not been disorderly. Yes, we've had some 4% declines on the regular lately, but the fear gauges have not been screaming. Just look at the volatility index (VIX). It hasn't top 40, not yet, and it usually does that when markets are in a deep spiral. Either investors think things are going to get better soon, or we aren't nearly afraid enough. The Investopedia Anxiety Index, our proprietary index of readers searching for fear-based terms around the markets, economy, and their personal finances, is kind of simmering, but it's nowhere near the levels it hit during March of 2020.

The backlash against executive pay is also heating up, which we usually see in or around bear markets. Shareholders are raising a stink about executive pay in annual meetings and proxy votes. According to the AFL-CIO annual Executive Paywatch report, the average S&P 500 CEO made 299 times the average worker's pay in 2020 when factoring in salary, stock, and bonuses. Of note, only 31% of investors at JPMorgan's annual shareholder meeting voted in favor of a $52.6 million stock option award that was part of CEO Jamie Dimon's 2021 compensation package. It was the first time the bank's board lost such a vote since it was introduced in 2009. While the shareholder vote is non-binding, the bank's board said it would "take the feedback seriously" and intended for the bonus to be a one-time event. Intel shareholders voted against a compensation package of some of its top executives, including part of a $178.6 million payout for CEO Pat Gelsinger. That motion was also advisory and won't take effect immediately, but the flares have been fired. Shareholders at AT&T and General Electric also voted against hiking executive compensation packages this year following lousy first-quarter results. The tables are turning.

Meet Eric Balchunas


Lori Hoffman / Bloomberg

Eric Balchunas is the senior ETF analyst and funds product specialist at Bloomberg, co-host of the Terrific Trillions podcast, and the author of several books. In his current role, Mr. Balchunas writes articles, research, and feature stories about ETFs for both the Bloomberg terminal and He also regularly puts out the Bloomberg ETF Newsletter and is a frequent speaker at both Bloomberg events as well as industry conferences. Prior to joining Bloomberg, Mr. Balchunas was a public relations associate with the Abernathy MacGregor Group.

What's in This Episode?

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Passive, low-cost index investing completely revolutionized the investing world. Jack Bogle, the founder of Vanguard and the godfather of index investing, set that change in motion around 50 years ago, upending the American investing paradigm. And it shows no signs of slowing down. Today, exchange-traded funds which emerge out of index investing are mounting a similar campaign to transform the investing industry. With well over $10 trillion of our assets under management and more than 8,500 ETFs listed and growing every day, the revolution is well underway. No one tracks that industry more closely than Eric Balchunas. He's the senior analyst for ETFs for Bloomberg Intelligence, co-host of the Terrific Trillions podcast, the author of several books on ETFs, and most recently the author of The Bogle Effect: How John Bogle and Vanguard Turned Wall Street Inside Out and Saved Investors Trillions. He's also our special guest this week on The Express. Welcome, Eric.


"Great to be here. Great to see you."


"Big fan of your work. I want to talk ETFs in the current market environment first, and then let's get in to your terrific new book for dessert. Does that sound okay?"


"Yeah, sure. Whatever you want."


"All right. Well, ETFs, they're being put to the test right now, like almost every asset class. And we've had so many new products come into the markets in the past few years. What's the damage out there like to some of the more popular and hyped ETFs that really came onto the scene a couple of years ago?"


"Yeah, believe it or not, they're doing okay. And I will say, this year you've seen the launches of some of the more... I don't know, we'll call them flashy... and wacky ETFs have come down. I mean, I just saw filings for short-term debt ETFs, and that's how you know the market's not having a good year. Usually thematic and silly ones are correlated with the bull market."

"And so, some of them obviously flop. When you have these more thematic and experimental ETFs, maybe half of them are going to carve out a living. The other half are probably not going to make it, or they're going to just sort of hang around with like $10 million for many years. But there'll be some hits. And what's interesting to us, and something that I got to say we called, was that if you look at some of the thematic ETFs or something like ARK, these high-flying ETFs that have just really plummeted because they've gone down worse than the market, because there's generally high beta, they've held on to assets pretty well."

"And this actually ties into the book you just mentioned because I do think the more that people's core of their portfolio is low cost, cheap passive funds, the more tolerance they have for the volatility of their complimentary stuff. And this is different than the '90s when, if your main fund was Janus Twenty, which was like the ARK of its day, you're not going to tolerate a 70% drawdown. You are going to sell it because you've got your kid's college education riding on this. So, I think now that Vanguard and that low-cost ETFs have taken over the core, it's actually, ironically, created this whole viable lane for really wild stuff to be used as a compliment. And people have way more tolerance for that because they already own all the general fundamentally sound stocks in their low-cost index fund. So, we're very bullish on that lane regardless of the markets, at least for now, simply because that's how portfolios are being constructed now."


"Fascinating. We know money's been moving around sectors wildly over the past five or six months, a lot of it into energy, a lot of it into minerals and mining, some in the healthcare, some in the finance. But we've had some pretty radical sell-offs here. Where have you been watching the money flow product-wise into ETFs, especially during this massive sell-off over the past several weeks?"

For the week, the Dow Jones Industrials lost 2.9%. That's an eight week losing streak, the longest since 1923, while the S&P 500 lost 3%, and the Nasdaq was down 3.8%, both posting seven week losing streaks. The last time the S&P 500 fell for seven straight weeks was in the middle of the dotcom crash of 2001.


"For the past year, the money into value ETFs has been stunning. We're talking, I think last time I checked, $90 billion in a year. That's insane for value ETFs. Remember, value ETFs were basically a punchline. They were mocked. Value investors were mocked over Twitter because they just could never catch a break. They're kind of having their day."

"And so, it strikes me as there's a little bit of regime change going on with value and some of the things that were left behind. Oil stocks were supposed to be dead forever. It was supposed to be like a new normal, and that obviously didn't play out. And the rise in oil stocks has hurt ESG. It's reminding people that ESG is active, and it can underperform."

"So, we've been watching all that play out, and it sort of played out how we thought. I think one thing that we're seeing now that's not a good sign is that there's so many people rushing into Treasury ETFs, especially the short-term Treasury ETFs, which are like cash. They're almost like the ETF equivalent of a money market fund. And if inflation is... whatever, 8%, 9%, that means to go into a short-term Treasury ETF means you're accepting almost like a -8% return. That's how little upside you see elsewhere. That's not a good sign."

"So, there's been a rush of money into these cash-like ETFs that reminds me of 2018. That's the last time we saw a rush into that area of the market. And up until then, you could see investors trying to go over here, go here. It was like they were in a dark room, looking for a door that would work, and nothing's really working that well this year. And so, I think there's been a little bit of this... throwing up of the hands. 'Let me just go into cash, and I can see some door out of this.'"


"Absolutely. Now, explain to our listeners what goes on inside an ETF as it goes through these extreme bouts of volatility. What do we need to know about the mechanism of creation and redemptions, especially when you talk about those growth ETFs where the masses, the herds were running into. That's where a lot of money was made over the past several years. They've held up reasonably well. They held up reasonably well in 2020 in terms of liquidity. But now we're in this really intense spin cycle. Now, what happens inside of these? 


"Yeah. It's a good question. Luckily, investors don't really need to know because ETF pricing tracks the holdings very well. And that's why they've grown over 25 years. Remember, ETFs have seen a few rodeos. I mean, this is... people forget, I think, March 2020 was when even the most worrying naysayers just got silenced. They did well in March 2020."

"Since you want to educate your listeners, the first ETF, SPY, was designed by this guy Nate Most. He used to work in the Pacific Commodities Exchange, and the ETF design, the creation/redemption process you're speaking of, is simply modeled off of commodity warehouse receipts. So, say you have a warehouse of commodities, say soybean oil. Nate Most saw that what they would do is store soybean oil in a locker somewhere, and you get a receipt for that amount of soybean oil. And if you take more soybean oil and put it in a locker, you get more receipts. And vice versa, you can then trade those receipts so you don't have to move soybean oil around. But if you ever wanted to get your soybean oil, you just take your receipts, and they give you the soybean oil. All he did was take that paradigm and apply it to, instead of soybean oil, stocks in the S&P 500. That's why if you think about the name SPDR, it's S&P Depository Receipts."

"And I think that commodities warehouse design gives people a visual so they can kind of understand ETFs because I think sometimes there's this feeling they're actually like futures or derivatives where they're just backed by the institution, but they're not. They're stocks in a locker, which is called the custodian, and you have receipts to those stocks. It's physically that, and the receipts are just easier to trade and moving the stocks back and forth. So, that's the concept of ETFs."


"Let's go into some themes. You mentioned ESG, environmental, social, governance, big theme. We talk about it a lot of my other podcast, The Green Investor. That was hot, it's been kind of hot. Assets keep flowing into ESG and SRI, but the whole premise is kind of being challenged right now around ESG, around the reporting. The SEC is considering requirements for companies to report their climate risk. We know it's a big deal over in Europe, but it's kind of unclear here in the U.S. I know Bloomberg's done some pretty big takedown pieces of ESG and some of the firms that do the ratings. But what's the future look like for that investing theme through ETFs, Eric?"


"So, I think ESG ETFs will probably get into about a 5% market share of assets. That's a respectable niche, don't get me wrong. I mean, I think growth and value were maybe in that ballpark. I just don't think they're going to sweep the nation. So, I'm bearish versus the hype, but I'm bullish in a sense that they will have a niche."

"The problem with ESG, as you said, is it's getting more and more baggage. The backtest over the past ten years look really good because ESG, at least stuff that's supposed to go in your core, tends to be overweight tech and underweight energy. So, if you imagine the mouth of an alligator. Tech is up here, energy is down here. ESG grew in that mouth, but now the mouse is closing, and ESG is in the mouth of an alligator, and it's starting to underperform."

"And so, it's reminding people that if you're going to go ESG in the core, you're gonna have to live with underperformance. And I just believe there's only a small minority of people who really care that much. I think ultimately the tourists will be soured by the underperformance, and they'll sell out and they'll go back to cheap beta, or they'll just never get rid of their cheap beta. ESG has the unfortunate task of trying to dislodge a low-cost index fund for Vanguard or BlackRock."


"Let's talk about crypto. We know where there are some Bitcoin derivatives or Bitcoin futures ETFs that have been approved by the SEC. They're not approving a straight spot ETF for Bitcoin. Do you think that they will, or is there going to be a lot of other regulation that comes before they even come close to that?"


"Yeah, I think they will eventually. Our timetable is next summer. There's this one proposal we think is is important, which is... and we could be wrong, but we think we're on to something here, which is the SEC wants to expand the definition of what an exchange is. And if this proposal is implemented, it would mean that, essentially, Gensler and the SEC can put crypto exchanges under their regulatory framework and have basically control of them. And we know from Gensler's own words, the reason he approved Bitcoin futures is because they are regulated... the futures are, by the CFTC."

"So, you have to picture Gensler is like this overlord, and he just wants things under his oversight, and futures are. And so, that's why he was okay with that. And Bitcoin is outside of that oversight. So, if he can expand the oversight to include the exchanges, and ipso facto Bitcoin, I think we're on to something. And I also think Gensler is a DC political animal. He wants to show Biden that he's done regulation on crypto, which is a huge concern, and doing that would also check that box for him."


"Well, let's talk about your wonderful new book about Jack Bogle and Vanguard. We are mega-fans here of Jack Bogle at Investopedia. I've got to interview him several times in my career, just like you. We have a nice little video tour of his office that he gave us, about a year or two before he passed, on Investopedia. We'll link to it in the show notes, but what inspired you to write about Jack? Obviously you're a huge fan too, but what was it that said, 'I need a book.' And it's not a biography, folks. It's an excellent book about his process, his thinking, and how Vanguard changed the industry."


"Yeah. I mean, like you, I interviewed with him, and those interviews were just staring at me from my Dictaphone when the pandemic started. And, I don't know, I have a couple of kids, and I thought, 'I spent time with this guy, and I really shouldn't just let those interviews go to waste.' And in the interviews, it wasn't just me like, 'Oh, when the vanguard starts?' As soon as I got there, we started debating ETFs. This guy was like an analyst. His papers were flown all over his office. He liked argue, and our interviews became much more like me arguing with someone on Twitter or like someone from my own team or Morningstar. He was really living like a fun analyst, and I just thought there were so many interesting places to go. And Vanguard and Bogle allowed me a ticket to go into all different areas of the market with mutual funds, ETFs, the wealth management industry, trading platforms, behavior. And so, I could really cover a lot of ground through this vehicle."

"The other thing that I was motivated by was the sheer inflow power of Vanguard. His company has taken in a billion a day for a decade. We take this for granted, but that number is ridiculous. I mean, it's crazy. That's just like... and then the rest of the money, most of the rest, goes to stuff that's very much copied off of Vanguard. So, that's what I used to call it the Vanguard Effect, but I decided to call it the Bogle Effect because I really think Bogle's unique character and the Vanguard mutual ownership structure were really the two main things that created an explosion. And that has been rippling out and will ripple out all over the place for decades. The index fund, in my opinion, was merely a byproduct, and it's only popular because it's cheap, and it's only cheap because of that mutual ownership structure. So, I really wanted to bring it back to those two things."


"Well, let's talk a little bit about the Vanguard Effect, or the Bogle Effect. $8.3 trillion in assets under management, a billion a day, 32% of the fund industry because of the model he built. Vanguard is not built like a publicly traded wealth management firm. It's actually owned by its investors and its clients. It's become a colossal in the industry, but it's also been doing that because it's building wealth and giving money back or making things cheaper for its customers. Explain how the mutual ownership structure works at Vanguard, and then how that leads also to that low-cost index investing which has made it so popular."


"The mutual ownership concept is not unique. Insurance companies do this, the mutual... etcetera, etcetera, where the policy holders own the company. Here, the funds own the company, which means the investors ipso facto own the company. So, all this really does is, when there's more assets and let's say you have profit and there's extra money, instead of voting to make the owners richer, the investors are the owner. So, they're like, 'Well, let's just lower the fees because that's what we want to do.'"

"So, in other kinds of companies, usually the owner is different than the investor, and either it's shareholders because it's a public company or it's a privately held. And this is why Vanguard is very unique because as the company got more assets, it was able to lower fees, which attract more assets, which lowered fees. Rinse and repeat. It created like an... I guess we call it an upward spiral of lower and lower fees where it went from like 45 basis points in the '70s to now most of their funds are below five, their index funds. And that is why indexing is sweeping the country because it's cheap."


"You compare Bogle to a punk rocker, which I love. I'm thinking Sid Vicious and Henry Rollins and Jack Bogle in the mosh pit, knocking them around a little bit. But what are the parallels between Jack and punk rock?"


"Yeah. Look, the reason I did this... A) I love music, it's some reference point for me in a lot of ways. And I think everybody knows music. It's a good way to reference things to people. But over the years I would see Bogle on financial television with his sweater vest on, sitting there, and he looked like Henry Fonda from On Golden Pond, sort of like grandfatherly. But the words coming out of his mouth were so in polar opposition to the rest of the programing on TV that day. It was like, 'Trading's for fools. Active stock picking is an exercise in futility. It's just math.' And he would say it with this folksy nature, but his words were punk rock, in my opinion."

"I started to explore this metaphor more. I read a book on the history of punk rock, and I really felt that the Ramones were ground zero of punk rock. That album probably is the basis for where punk went from. And that album... Ramones' first show, by the way, was the month when Vanguard reformed. So, I think both were a reaction to the sort of over the top '60s that just completely collapsed. It was like a 'let's get real' reaction. And Johnny Ramone in an interview said, 'All we did was we removed all the stuff we didn't like about music. The blues influence, the long guitar solos, the indulgence, and we just... anything that would get in the way of a song, we kicked out. And that's really punk. That's why it's timeless. You listen to Ramones' album today, it sounds almost the same as it ever did."

"Bogle's life work, in my opinion, is similarly addition by subtraction. Getting rid of the management fees, getting rid of the turnover, getting rid of the brokers, getting rid of the human emotion and the bias. His whole life's work was in a similar vein, and that's why I think a cheap index fund is as timeless as a Ramones song. And those are some ways I sort of made that metaphor I think work. But I also think the fan-owned concept of Vanguard... a lot of punk fans, there's a whole thing about you felt like you own the music in the band. It wasn't like a corporation. And that also, I think, exists with Vanguard to a degree that they're very loyal, loyal fandom type vibe there."

"So, anyway, I thought this worked and obviously with the Ramones album you had grunge spun off of that, hardcore punk, and then you had a pop punk. So, just like Vanguard created this sort of cheap index fund foundation, it's definitely spawned different areas, but I think he created an entire genre of investing in a way that the Ramones did. And I know people are going to be like, 'That seems crazy,' but it's it's a fun metaphor to play with. And look, this is a book about the mutual fund industry, essentially, and it's pretty boring. So, I had to try to find a couple of tools to make it more interesting and fun for the reader. And that was one of my things that I tried to do, but that was my idea for doing it."


"Well, it absolutely works. And you've not only that, the book, you have quotes from some of our favorite people in Fin Twitter around the financial services industry as well, talking about the impact of Bogle and Vanguard on the profession. And it's profound. It's not just you who celebrates him. And the Bogleheads out there and us at Investopedia, he has had a profound impact. Back to you, Eric. We like to ask all of our guests for their favorite investing term and why? Why does it resonate with you? We're a site built on our terms. Which term out there just hits it home for you and why?"


"Well, you're catching me off the two and a half year deep dive or exploration on Planet Bogle. And I think I'm going to go with compounding. I think compounding is such a wonderful thing. And in Bogles' life, he had to sell an index fund, which was not easy. People want the best. And part of the way he did that was to explain compounding. You buy all the stocks, and you just hang in there. And it starts to add up. And the way that line moves, it starts to resemble a hockey stick because of compounding. But it takes a while, and I just think that's really the name of the game. That's why we're all here to get a focus on that word of compounding. And I think that... it just, probably, my opinion, sticks out as arguably the most powerful word. And it's a fun word because compounding is when you get a smile on your face because the money starts adding up and it's like, 'Oh, now I can I can do some more things with my life. I can maybe retire early, send some kids off to college.' Like, it's great. It's a beautiful thing. That's what it's all about."


"It's one of our favorite terms here at Investopedia. Our readers love it too, and it is that fairy dust sprinkled over the investing world that allows your returns to grow over time. And I can just hear Jack Bogle saying it, 'Stay the course.' He had that great, deep baritone voice, gnarly hands, always wearing a tie, looking sharp in his offices on the campus there. Eric Balchunas is the senior ETF analyst for Bloomberg Intelligence, the co-host of the Trillions podcast, and author of this terrific new book on Jack Bogle. If you love investing, follow Eric on Twitter, check out the podcast, and order this book. It is a terrific read. And Eric, thanks so much for joining The Express. Good to have you here."


"It was my pleasure. Thank you for having me."

Term of the Week: Normalized Earnings

It's terminology time. Time for us to get smart with the investing term we need to know this week. And this week's term comes from my sweet Aunt Jane from right up there in the lovely Hudson River Valley of New York. That's a majestic country. Jane's a small business owner, and she has about as good a read on the economy as anyone I know. We were riding together out to my niece's birthday this weekend, and she said to me that this big unwinding of assets kind of seemed like things were just getting back to normal before the pandemic and all this government spending and the lowering of interest rates. So, with a tip of our cap to and Jane, we're going to go with normalized earnings this week. And according to Investopedia, normalized earnings are adjusted to remove the effects of seasonality, revenue, and expenses that are unusual or one-time influences.

Normalized earnings help business owners, financial analysts, and other stakeholders understand the company's true earnings from its normal operations. Well, the last couple of years has been anything but normal. So, the other side of all that spending is what we're seeing now. Eventually, we're going to get a clearer picture of corporate earnings and economic growth and a more normalized one. Good suggestion, Jane. Yet another pair of Investopedia socks for your collection. And she has many.

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