Upon reading 'The Bogleheads' Guide to Investing'

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LTCM
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Upon reading 'The Bogleheads' Guide to Investing'

Post by LTCM »

Some things struck me...

The book highlights importance of avoiding the herd but also advises investing primarily in index funds. Is this not contradictory?

The book constantly highlights the danger of buying high and selling low but index funds running cap weight are compelled to do this?

With the increasing size of index whales pushing winning stocks higher and losing stocks lower surely that creates an automatic over-reaction/momentum that price discovery investors find harder and harder to stop? Having that much money under management must be like driving an oil tanker.

I plan to invest in index anyway for the set it and forget it/harder to self-sabotage nature of the beast but I feel like the book didn't really address these seemingly obvious issues. Can someone direct me to where they might be explained away?
000
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by 000 »

Your concerns have merit, but consider this: cap-weighted index funds only trade when stocks enter or exit the index, or when investors add or withdraw money from the fund. So they have a lot of assets but they don't do a lot of trading. Trading sets the prices of securities, not holding. So active investors are mostly responsible for the prices of securities.
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LTCM
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by LTCM »

000 wrote: Tue Sep 15, 2020 12:36 am cap-weighted index funds only trade when stocks enter or exit the index
Oh really? I assumed otherwise. I figured that if TSLA was 1% of the market cap in 2019 and was 2% in 2020 then the index fund had to double their holding? They don't do that? Surely after a while it stops being representative in that case?
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by 000 »

LTCM wrote: Tue Sep 15, 2020 12:46 am I figured that if TSLA was 1% of the market cap in 2019 and was 2% in 2020 then the index fund had to double their holding?
No. The index funds' existing holding of TSLA doubled in value without doing anything at all because the price went up. This is why most index funds use cap-weighting: it keeps turnover and trading costs low.
LTCM wrote: Tue Sep 15, 2020 12:46 am They don't do that? Surely after a while it stops being representative in that case?
It continues to reflect the market capitalizations of the stocks being tracked. This means it rides the stocks up and it rides them down unless you take action by rebalancing.
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LTCM
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by LTCM »

000 wrote: Tue Sep 15, 2020 12:53 am No. The index funds' existing holding of TSLA doubled in value without doing anything at all because the price went up.
Durrrr!

:oops:

Thank you
todaysBob
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by todaysBob »

000 wrote: Tue Sep 15, 2020 12:36 am cap-weighted index funds only trade when stocks enter or exit the index, or when investors add or withdraw money from the fund.
How about etfs? What happens when I sell or buy VTI? For argument's sake, if I am selling $1B of VTI, will that lead to price of VTI changing right away and trigger selling of its holdings? Or is it done at the end of day?

Sounds like a chicken egg problem.
1) Change in Price of each holding is causing etf price to move.
2) Also direct trading of etf is leading to sell/buy of holdings.

Pretty confused :D
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by 000 »

todaysBob wrote: Tue Sep 15, 2020 2:12 am How about etfs? What happens when I sell or buy VTI?
If you're trading it with someone else, the fund itself doesn't have to do anything. The transaction is between you and the current (or to-be) holder of VTI. In this case, VTI does not do any buying or selling. Substantial changes in demand or supply of VTI could affect the VTI price and possibly lead to the prices of the underlying securities being affected when authorized participants (APs) begin arbitrage.
todaysBob wrote: Tue Sep 15, 2020 2:12 am For argument's sake, if I am selling $1B of VTI, will that lead to price of VTI changing right away and trigger selling of its holdings? Or is it done at the end of day?
If you try to dump One Billion Dollars worth of VTI, APs are going to get involved and get the underlying stocks and sell them, which will likely depress the stock prices.

So trading of passive instruments can affect prices.
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by Stinky »

000 wrote: Tue Sep 15, 2020 12:36 am Your concerns have merit, but consider this: cap-weighted index funds only trade when stocks enter or exit the index, or when investors add or withdraw money from the fund. So they have a lot of assets but they don't do a lot of trading. Trading sets the prices of securities, not holding. So active investors are mostly responsible for the prices of securities.
Nicely stated!
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by Fallible »

LTCM wrote: Mon Sep 14, 2020 11:24 pm Some things struck me...

The book highlights importance of avoiding the herd but also advises investing primarily in index funds. Is this not contradictory? ...
I don't see a contradiction. In the section on "Following the Herd," the book states that herd investors have "certain traits. They don't have a sound investment plan, they listen to the noise, buy and sell at the wrong times, and have no idea how badly they underperform the market."

This describes investors who would clearly be better off indexing.
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by livesoft »

LTCM wrote: Mon Sep 14, 2020 11:24 pmCan someone direct me to where they might be explained away?
If you have not already listened to the Bogleheads' podcast hosted by Rick Ferri when he had Don Phillips of morningstar.com as his guest, then I think you should. Some of what you wrote about is explained away. viewtopic.php?p=5466296#p5466296
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rockstar
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by rockstar »

I have been here for only a short time, but I'm still trying to wrap my head around the difference between what Bogle wrote in his Little Book of Common Sense Investing and what's talked about here. There seems to be some differences.

My take away from Bogle and Buffet is to avoid giving up returns to finance managers and fund managers via fees. Of course, there are a lot of threads here about financial advisors. If the S&P 500 is going to provide me a 1.8% yield, why would I pay a financial advisor a 100-150bps to manage my money? I'm basically writing a check for my dividends over to the advisor.

I don't remember anything in Bogle's book about a two or three fund portfolio. He does talk about keeping ERs low though.

Here's Buffet's letter to shareholders where he talks about using an index fund and fees. My take away from Buffet and Bogle is that they both advocate for simple index investing with low fees for most investors.

https://berkshirehathaway.com/letters/2017ltr.pdf

Read pages 10-14.
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by Northern Flicker »

LTCM wrote: The book constantly highlights the danger of buying high and selling low but index funds running cap weight are compelled to do this?
This does not happen with a total market index. A stock may get booted out of a large-cap index if it falls greatly in value, triggering a sale. It is not a significant impact.
LTCM wrote: With the increasing size of index whales pushing winning stocks higher and losing stocks lower surely that creates an automatic over-reaction/momentum that price discovery investors find harder and harder to stop? Having that much money under management must be like driving an oil tanker.
If all index fund investors instead held actively managed funds/portfolios, their combined assets in aggregate would not differ much from the market in aggregate, ie from an index fund. (The combined portfolio of all investors is the total market). The use of index funds just makes the returns of investors who use them uniform across investors.
Last edited by Northern Flicker on Tue Sep 15, 2020 2:32 pm, edited 1 time in total.
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by whodidntante »

Due to the points mentioned by 000, ETFs are more efficient than a mutual fund.
- The costs to trade will be carried by those doing the trading, instead of every shareholder of the fund like in a mutual fund.
- ETFs have techniques available to shed appreciated shares and can typically avoid distributing capital gains even in times of market stress. In fact, most ETFs have never distributed a capital gain. That compares favorably to mutual funds, where most have distributed a capital gain, and it's worse during a fund selloff, so you can get the extra "gift" of a tax bill to go with your losses. ETFs allow greater tax deferral for the investor.
- An ETF can also operate with a razor-thin cash margin because the manager does not need to retain a cash cushion to meet redemptions. Mutual funds typically keep more cash on hand, which leads to cash drag. Some mutual funds keep quite a lot of cash. I'm not sure how well the hybrid mutual fund/ETF structure that is exclusive to Vanguard can capture this structural benefit of a pure ETF. I could find out, but I'm lazy. You find out. :happy
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Re: Upon reading 'The Bogleheads' Guide to Investing'

Post by arcticpineapplecorp. »

Fallible wrote: Tue Sep 15, 2020 11:12 am
LTCM wrote: Mon Sep 14, 2020 11:24 pm Some things struck me...

The book highlights importance of avoiding the herd but also advises investing primarily in index funds. Is this not contradictory? ...
I don't see a contradiction. In the section on "Following the Herd," the book states that herd investors have "certain traits. They don't have a sound investment plan, they listen to the noise, buy and sell at the wrong times, and have no idea how badly they underperform the market."

This describes investors who would clearly be better off indexing.
+1

that part of the book is from a section titled HOW SMART PEOPLE MAKE BAD INVESTMENT DECISIONS. I think you're (LTCM, not Fallible) misinterpreting the phrase Don't Follow the Herd not in the context in which it was meant (which was discussing the traits of people who make investment mistakes).

You could say that the majority of investors DO NOT INDEX. Indexing, despite it's popularity makes up 45% of overall investment.
source: https://www.cnbc.com/2019/03/19/passive ... arket.html

So by that math, if you index, you're NOT following the herd.

This may be of lessening comfort if passive investing increases beyond 50% at some point, but there's more to Following the Herd than just whether or not one indexes...

in addition, the book says:
Tune out the noise and do not get distracted by daily news events. Avoid hot investment fads and following the herd as it stampedes
towards the cliff ’s edge. Believing that “It’s different this time” can cause severe financial damage to your portfolio.

The Bogleheads Guide to Investing, page 267
So people can still index and do the wrong thing.

I often say this to others, that you can:
1. do the wrong things by owning individual stocks
2. do the wrong things even with the right investments (index funds)

So as an example of this from this year...

Following the herd would mean that you (along with others) sold earlier this year when the market fell 32%.

Not following the herd would mean having bought and held onto your shares. And they recovered since that decline.

will there be another fall at some point in the future?

I guarantee it.

I can't tell you when or for how long it will last.

Buy and Holding the market works. See my signature.

This is a good article that gives some additional reasons why investors don't get the returns they should:
https://www.etf.com/sections/index-inve ... nopaging=1

another thing to consider is if you don't think indexing is the way to go due to following the herd, what do you recommend you do instead?
It's "Stay" the course, not Stray the Course. Buy and Hold works. You should really try it sometime. get a plan: www.bogleheads.org/wiki/Investment_policy_statement
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