Hypothetical - Mutual Funds Don't Exist

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mbk734
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Hypothetical - Mutual Funds Don't Exist

Post by mbk734 »

If bond, REIT, and equity index/active funds didn't exist (gasp!), how would you invest your money and what rules would you follow?

I would probably hold around 25 large caps (including foreign stocks) in a wide variety of sectors and individual bonds.

How many stocks would you need/want to own to roughly replicate TSM and international TSM?

WWBD? What would Bogle do?
Last edited by mbk734 on Thu Dec 04, 2014 4:50 pm, edited 4 times in total.
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Re: Hypothetical - Index Funds Don't Exist

Post by sport »

I would invest in low cost Vanguard active mutual funds. Some of these have expense ratios not much more than index funds.
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Re: Hypothetical - Index Funds Don't Exist

Post by jebmke »

I would look for a very low cost, low turnover active fund that tracked the index I was interested in. Then pay attention to make sure there isn't a lot of style drift. I do this with bonds already.
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Re: Hypothetical - Index Funds Don't Exist

Post by nisiprius »

mbk734 wrote:WWBD? What would Bogle do?
That's pretty easy. He would invest in the Vanguard Wellington Fund. He was personally very closely associated with it, and indicated that he still owns a lot of it.

What would I do? That's not so easy. I definitely would not try to manage my own portfolio of individual stocks. If index funds didn't exist, I wouldn't have gotten focussed on Vanguard, it would just be one of many mutual fund companies, so who knows? Living in the Northeast I'm pretty aware of Fidelity, and Peter Lynch was super famous, it might be Magellan for stocks and Fidelity Investment Grade Bond Fund for bonds. Or it might be Fidelity Puritan for a balanced fund.
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Re: Hypothetical - Index Funds Don't Exist

Post by ogd »

I would invent them and get rich, of course. Particularly from the ETF structure, think patent licensing even if you're not inclined to start your own firm.

Actually thought of that answer even before reading your last paragraph, "WWBD?".

Absent that, I would get the lowest cost active fund I could. If several were close I'd hold a "most boring annual report" contest and choose the winner. The fewer sector / macro / duration calls, the better.
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Re: Hypothetical - Index Funds Don't Exist

Post by longinvest »

Before I learned about index funds, I invested in individual equities.

I knew that I knew nothing, so I had a high level of anxiety and traded way too often. It's not hypothetical for me. I don't want to go back.
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Re: Hypothetical - Index Funds Don't Exist

Post by richard »

What would Bogle do? Probably what he did, work to create and market index funds. Seems like a good business plan.
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Re: Hypothetical - Index Funds Don't Exist

Post by mbk734 »

What I meant was what if ALL index AND active funds didn't exist? How would you invest in a Boglehead way by selecting stocks? **edited the original post/title**
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Re: Hypothetical - Index Funds Don't Exist

Post by ogd »

mbk734 wrote:What I meant was what if ALL index AND active funds didn't exist? How would you invest in a Boglehead way by selecting stocks? **edited the original post/title**
Grrrr. If you look at all the replies you got, the question change (which invalidates them) would pretty much warrant a new thread. Although I'm starting to question the value of such a question, because I can only think of one answer.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by gkaplan »

They do exist, so what's the point of this exercise?
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Re: Hypothetical - Mutual Funds Don't Exist

Post by Wagnerjb »

Before mutual funds existed, intelligent investors purchased individual stocks and sought to achieve a decent level of diversification. My father probably owned 30-50 stocks and many dozens of different bonds as well. You can do this today if you want, but the vast majority of people prefer the simplicity and diversification offered by mutual funds.

Best wishes.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by investor »

up till sometime in the 1970's(?) there were few Mutual Funds and those that did exist were almost, if not, all Load Funds. One had to buy stocks and pay a large brokerage fee from EF Hutton, etc. I believe Wellington was a Load Fund at that time.

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Re: Hypothetical - Mutual Funds Don't Exist

Post by bpp »

mbk734 wrote:If bond, REIT, and equity index/active funds didn't exist (gasp!), how would you invest your money and what rules would you follow?
This is pretty much the situation I am in with respect to Japanese stocks. There are of course many funds here in Japan covering the local stock market, but they are not good choices for me for tax reasons (PFIC rules). So I use individual Japanese stocks for the domestic stock part of my portfolio.

My rules:
--New and reinvested money goes into new stocks rather than ones I already hold, to try to keep the number of holdings generally growing over time.
--Never sell a stock unless forced to (by bankruptcy or delisting, e.g.), except for tax-loss harvesting purposes.
--Tax-loss harvest just enough of the biggest losers each year to cause dividend taxes to be cancelled out. (Losses cannot be carried forward indefinitely in Japan, so it doesn't make sense to be much more aggressive than this.)

As for how to pick stocks, I started out using mild value screens (P/B, P/E) 10 years ago, but don't bother with that any more.
I do look at cap size, and try to keep equal yen amounts in the large cap bucket and the small cap bucket.
For small-cap stocks, I avoid the ones with the lowest liquidity.
I keep a lazy eye on the distribution of industry classifications, just to make sure there are no glaring holes there.
Other than that, it is pretty much random. I even use a random number generator sometimes; ticker codes in Japan consist of 4-digit numbers, so it is easy to just generate a number and look up to see if the corresponding company exists.
I would probably hold around 25 large caps (including foreign stocks) in a wide variety of sectors and individual bonds.

How many stocks would you need/want to own to roughly replicate TSM and international TSM?
I feel most comfortable holding at least 100.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by mbk734 »

Sorry to switch up the thread, but my point was to see how did people invest before mutual funds and how would a Boglehead invest without mutual funds. Also, are there any benefits of not investing in mutual funds besides the obvious 0% expense ratio of holding stocks.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by bpp »

mbk734 wrote:Also, are there any benefits of not investing in mutual funds besides the obvious 0% expense ratio of holding stocks.
Tax management is probably the big one.
Have you seen the wiki page on Passively managing individual stocks?
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Re: Hypothetical - Mutual Funds Don't Exist

Post by backpacker »

I would buy individual stocks at random (literally picked using a random number generator), investing about $1000 per security through interactive brokerage. I would expect to get close to market returns.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by Electron »

If no Mutual Funds or Index Funds existed, we wouldn't know that passively holding the broad stock market would outperform the average investor over time.

In that case, some investors might be value investors based on Graham and Dodd, while others would attempt to pick growth stocks that they think would do well. In most cases long term returns would be reduced by turnover, commissions, taxes, and lack of proper diversification.

If an investor somehow knew that indexing would be a better approach, it might be an effort to properly replicate an index fund. Many of the indexes in use today hold a large number of securities and are capitalization weighted. One could also create an equal weight index although periodic rebalancing would then be required. In both cases, the actual index might require incremental changes over time.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by zag00 »

Take a look around my city/home and find trends of big companies that pay a dividend, history of increasing that dividend, and have a 10yr chart of growth (disregarding '08 for the most part). Large Companies like Johnson n Johnson, McDonalds, Walmart, Procter and Gamble, Kinder Morgan, Apple, Nike, etc.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by bpp »

backpacker wrote:I would buy individual stocks at random (literally picked using a random number generator), investing about $1000 per security through interactive brokerage. I would expect to get close to market returns.
You'd end up with a pretty heavy small-cap tilt that way, so you'll get something approximating a small-cap index's returns.

If that is not what you want, a simple way to get something more like total cap-weighted market returns might be to use random selection for 1 out of 3 stocks, and for the other two just pick the largest stocks you don't yet own. Or use random selection all the time, and for 2 out of 3 stocks, keep rejecting any candidates that fall below a certain cap-size threshold.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by staythecourse »

WWBD... I like that.

The answer I think is easy just read "Common Sense". In it he mentions a completely reasonable and even maybe a BETTER choice to even his index (SP500) is to just buy 20-50 blue chip companies and hold them forever. This way one is not paying any ER to anyone which only slowly eats away from long term returns.

Good luck.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by Wagnerjb »

Electron wrote:If no Mutual Funds or Index Funds existed, we wouldn't know that passively holding the broad stock market would outperform the average investor over time.
Sure we would. The reason that passive investors achieve superior returns is due to cost....and we knew that many many decades ago. Before mutual funds, people knew how to manage costs. Reduce the number of trades. Manage your income taxes. Reduce commission cost (one popular way was to use DRIP plans to reinvest dividends at zero cost).

Best wishes.
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Chapter 13 Common Sense on Mutual Funds 2nd Ed

Post by anil686 »

This is where Bogle gives you the answer. He is lamenting the poor selection of mutual funds (outside of index funds) for taxable investors due to the tax implications of capital gains and dividends. In this chapter - he gives an example of investing in only the GoGo stocks of the 1960s (growth stocks large cap) right before their decline - if you held 30 of them - without rebalancing and without selling any of the securities and reinvesing the limited dividends of those growth stocks - they would have grown at 9% through the 1st edition (I believe 1999) of the book. His point was not your question, but showing that individual investors have options and if actively managed mutual funds could not offer tax efficient funds, then investors could create their own portfolio with less costs and have full control on capital gains/dividends.

I suspect Bogle would construct group of large cap growth stocks - I assume like he suggests in the book - and hold them in equal dollar weights in a portfolio forever. Just my opinion from his book...
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Re: Hypothetical - Mutual Funds Don't Exist

Post by sometimesinvestor »

I would invest in 20-26 or so large cap stocks ,.Basically at least two in each sector and after that was done perhaps overweight a sector (health care for the next 5 years than who knows. Can't consider investing in smallcaps or international because of lack of time. If it isn't covered by valueline too much work.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by Electron »

I'll add a few more comments that might be of interest.

1. As a result of the capitalization weighting, the top 10 stocks in the S&P 500 represent about 18% of the index. The top 50 stocks should be close to 40%. The S&P 100 represents 57% of the S&P 500 and 45% of the Total Stock Market.

2. The Vanguard Index 500 fund became available in 1976. I believe it was met with a lot of skepticism and assets grew slowly. Those were the days of the star fund managers such as Peter Lynch and many others. Investors were attracted to successful fund managers with a track record and seemed to prefer active management.

3. The Wilshire 5000 Total Market Index is now the Wilshire 3818. Including foreign securities traded on the NYSE, NASDAQ, and AMEX, there are 5168 publicly traded companies on the three major exchanges. In 1997 the number was 8823. The explanation is fewer IPOs in recent years along with mergers and acquisitions.

4. The commissions to trade stocks was quite high until the mid to late 1970s when discount brokers first became available. As I recall commissions charged by full service brokers were relatively high for 100 shares or less. I agree on the use of Dividend Reinvestment Plans at that time to reduce the cost of investing.
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Re: Hypothetical - Mutual Funds Don't Exist

Post by nisiprius »

Electron wrote:The commissions to trade stocks was quite high until the mid to late 1970s when discount brokers first became available. As I recall commissions charged by full service brokers were relatively high for 100 shares or less. I agree on the use of Dividend Reinvestment Plans at that time to reduce the cost of investing.
Yes. It was on the rough order of maybe $125 or so for a round lot of 100 shares, costing maybe $4,000... so we are talking about a 3% bite. It wasn't proportional to the number of shares, it was some arbitrary formula with substantial price breaks.

For "odd lots" of less than 100 shares, it was worse and weird. The broker still charged the same commission, but they routed them to specialized dealers in "odd lots." There were only two, and I can't quite remember their name, and if you bought a stock from them they quoted a price that was 1/8 of a dollar higher than the market price for a round lot; if you sold, they quoted a price that was 1/8 of a dollar lower. So, if the price was, say, $40 a share, that was another little bite, and what griped me was that it was a hidden fee--your confirmation simply showed that you'd bought 50 shares of, oh, let's say Litton Industries for 40-1/8 and nothing anywhere indicated that that 40-1/8 wasn't the true market price.

It was an incredibly big deal when they did away with fixed commissions in 1975. Discount brokerages started to offer trades for just $29.95 and it is hard to believe what a big deal that was. (And how scary it was--how could you trust someone who was offering something at a fifth the price of the comforting familiar names? Obviously too good to be true, what was the catch?)
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Re: Hypothetical - Mutual Funds Don't Exist

Post by Electron »

Here are some very interesting comments from Burton Malkiel about the first few years of the Vanguard Index Trust.

http://www.forbes.com/sites/quora/2014/ ... a-startup/
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Re: Hypothetical - Mutual Funds Don't Exist

Post by raven15 »

To start, I would save $150,000 in municipal bonds, because otherwise commissions and the like would eat me alive. I'd keep $50,000 of that permanently, and use $100,000 to buy stocks. First I'd weed out stocks that didn't pay dividends, because I would view them as speculative. Of the remaining, I'd weed out the top 20% and bottom 10% of stocks based on price/book ratio (unless they had both a very favorable price/earnings ratio and dividend yield).

Then I'd make a big list of the remaining stocks, post it on a wall I didn't like, get massively drunk :beer and throw darts at it, or possibly hire a monkey to do that for me. I would record the first 50 I hit and buy those in lots of 100 (assuming it's like olden times) until I ran out of cash. Then I'd repeat the process as funds became available until I owned 100 companies. After that I would simply continue to add money to each of the 100 stocks in turn whenever possible. I would sell to prevent any stock exceeding 10% of the total. After I reached $500,000ish I would divert any further contributions to a split between short and long term treasuries and gold, eventually ending up with something like a stock-heavy permanent portfolio (50/17/17/17).
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