The History of Index Funds
This week it’s Bradley, Marci’s older son, writing. I’m a PhD student in chemical engineering out in California, but I grew up with CNBC always in the background, so that’s sort of like a minor in finance.
On January 16th, Jack Bogle, the founder of the Vanguard Group passed away at the age of 89. Jack Bogle was one of the earliest proponents and founders of index funds, which significantly changed the way many individual investors (including clients of Linder Financial Services) invest. An index mutual fund is an investment in which many investors pool their money in order to buy all of the stocks in an index such as the S&P 500 or the Nasdaq. Because index funds are highly diversified (an S&P 500 index fund will own approximately 500 stocks), they are less sensitive to the outcomes of individual stocks, while still sharing in the overall growth of the stock market.
Index funds attempt to track the performance of an index (more on these later), in contrast to an actively managed fund in which the manager of the fund attempts to pick stocks to maximize returns. Jack Bogle’s investment thesis (inspired by Nobel Prize winner Paul Samuelson) was that the vast majority of fund managers are really no better at stock picking than they are at throwing a dart at a dart board, so better returns could be obtained by simply buying equal amounts of many stocks. By attempting to track indexes, index funds could have substantially lower fees than actively managed funds, due to not needing expensive fund managers, and decreased trading costs (as stock is only sold if the underlying index changes). For example, Vanguard’s S&P500 index fund (VFINX) has an expense ratio of only 0.14%, while actively managed funds may have expense ratios in excess of 1%. Note from my mom: index funds are not the answer for all situations – there is definitely a place for actively managed funds too.
Today, index funds make up most of the largest mutual funds. When Vanguard was launched, it had only 11.3 million dollars under management, while today it manages 5 trillion dollars. Vanguard’s focus on low expense ratios changed the financial industry, such that even many actively managed funds have been forced to lower their expenses to compete. The number of index funds has also greatly increased; today there are index funds that focus on various sectors of the US economy (for example, VITAX tracks technology stocks), investment strategies (VHDYX tracks high-dividend payers), or parts of the world (VPACX invests in the Asia-Pacific region). No matter your desired industry or strategy, there is likely an index fund that enables you to invest in an inexpensive and diversified manner. All of this was due to the vision and drive of Jack Bogle, truly one of the giants of the financial industry.