I thought I saw an article on the net earlier this year where Vanguard's John Bogle talks thoughtfully about how small cap indexing has not really proven itself, despite his belief for some time that it would. Has anyone the link to it?
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close where he says:"I just didn't know how fragile those indexes were. For people whowant small-cap exposure, it seems that a small-cap index fund wouldmake sense, but unfortunately I haven't seen any small-cap indexesthat I'm completely happy with. "
-- Ron
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Hi Ron, this captures the gist of the message I recall, but, if memory serves, Bogle elaborated quite a bit more on his sense of the small cap index fund disadvantage. For some reason now when I google I cannot find what I am remembering. Maybe the site was taken down, like it was a news or magazine site with only a limited time. Thank you for the basic Bogle message on this, though.
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Elle, more broadly -- Bogle in his books and discussions doesn't appear to be sold on the idea that there is a long-term premium for investments in small-company stocks, or value stocks. He repeatedly talks about using total-market funds, which include small-company stocks and value stocks, but without overweighting them. Or, an S&P 500 fund as a reasonable proxy for "the market" (because the total market is dominated by those 500 stocks anyway).
I think these are reasonable arguments...the small-cap premium isn't all that big based on the academic research, and it's come and gone multiple times over the years. And buying them piecemeal comes with investment costs not borne in the total-market approach. So that's one piece -- maybe there isn't much point to buying small-caps separately.
Regarding indexing/passive management with small-cap stocks - some claim that there are more inefficiencies in small-company stocks that can be exploited through research, so it's a better area for active management. You can do a simple reality check on this...pull up the performance for Vanguard's or DFA's passive small-cap funds. Even at 5 years, Vanguard's basic small-cap index fund looks to be ahead of 80% of the funds in the category, based on return figures reported by Yahoo. And that figure is actually low because of survivorship bias - the funds the disappeared after only 5 years. Roll that forward for 10 or 15 years and it's hard to make those arguments about active management in small-cap mutual funds. So I suspect if Bogle was making a point against small-cap indexing, it's about the "small-cap" part rather than the "indexing" part.
-Tad
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Tad, this is contradictory to both what Ron cited as well as other Bogle statements such as: "I'm a big fan of indexing overall, but I'm not in favor of the small-cap indexes we have," as quoted in
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. Both of these are consistent with the longer interview I thought I saw a few months ago but which now seems to be unavailable via search engines. On your use of five-year returns, a quick general comment: Would you (or anyone versed in allocation) use five year returns to decide on which category of funds to buy? Nor can one "roll forward" specific category returns based on five-year performances to mean anything. IIRC Bogle himself attacked certain studies that showed superior returns of actively managed small cap funds vs. indices, on grounds that the time period was too short. You should google for studies of small cap funds (active management vs. indexing). The jury clearly seems to be out on whether small cap indexing beats actively managed small cap funds.
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I've been doing small cap allocations for a really long time as well as calibrating against sp500 returns. The glitch in your analysis is assuming buy and hold, which normally would be reasonable but small cap have relatively easy cycles to identify where you want to bail out for certain periods. Not with the usual confusing sucker rallies, etc but a fairly slow evolution above or below the sp500 performance curve. You can afford to miss the inflection points by a mile, and can still outperform sp500 like crazy. I believe "darkness" related these periods of avoiding smallcap to a certain phase of business cycles, but you can also do just by watching performance.
I have less experience here, but for most of this new century had both an index and best of breed managed small cap value fund. It seemed easy to find a managed fund that consistantly beat the sc index by a lot year after year. I realize this is hard to quantify or project into the future, but my point is that from a practical standpoint smallcaps have been an easy way to outperform, diversify, and have given the most obvious signals for the rare periods you want to bail out of them.
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In "Common Sense on Mutual Funds" he writes, "the cycles of small-cap superiority have been relatively spasmodic...given the dominance of small-caps in a single decade, I'm not sure I'd rely on it...Without the relatively brief cycle of small-cap domination in 1973-83...large caps were actually superior..." He speaks of reversion to the mean and really, argues for a total market approach.
I'm sure you can find quotes from him that could be construed as contradictory, but my point stands - he has never seemed sold on "the size effect" as it's called in finance.
You really need to stop doing that straw-man thing, or read posts more carefully before replying, or both! I suggested "a simple reality check" not "a comprehensive method of deciding what funds to buy." I strongly suggest you dig further if you need a complete answer to this question, there are plenty of studies out there looking at active vs. passive management over multiple periods. If there's one showing active-management superiority in this asset class over 10 or 15 year kinds of periods I'm not aware of it.
-Tad
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The subject here (see top) is not Bogle's overall investing philosophy. It is what he has said specifically about indexing small caps. He has been somewhat interested in this. See for example his paper at
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and note this paper references an earlier paper of his also examining indexing by market cap. Some studies on the net argue that indexing is less advantageous (and sometimes it is arguably inferior) as the target cap of the index gets smaller. Some studies argue otherwise. Overall, I am seeing a strong leaning towards doubting the efficacy of using indexing for small caps, in contrast to indexing larger caps. Bogle's doubts are part of this.
This makes sense for a lot of reasons. To me, one of the bigger ones is that the definition of "index" when it comes to "small cap" is quite a bit more subjective and even capricious. Bogle's small cap value index VISVX changed in
2003 from using the Russell 2000 Index to the MSCI U.S. Small Cap 1750 Index. IMO, the reasons for this change are nuanced.
Tad, what I was saying is that five year mutual fund returns saying something about the long term is not a reality but an illusion.
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