Stock strategy: Keep it simple

The Dow may break its record soon, and then again, maybe not. No matter what it does, John Bogle has a strategy.

And if you know of Bogle, founder of the Vanguard Group, I'll bet you can guess what it is. His approach is the same as it was last year, and the same as it will be next year: Assemble a diversified portfolio of low-cost index mutual funds, don't worry about ups and downs in the market, and stick with it.

He rejects the increasingly complex trading strategies investors are using as exchange-traded funds slice and dice the stock market -- and even currencies and commodities -- into finely-focused betting
devices.

"What's going on is insanity,' he said this week in Chicago, as he prepared to deliver the same message to a Financial Advisor Symposium.

He told the advisers to think of their clients' interests and spare them the expense of speculative strategies. To investors, he said: "Stop looking around for the Holy Grail.'

People are wasting money trying to outsmart the market, he said. He has calculated that, in some cases, roughly 60 percent of potential earnings are going to the middlemen. "Beating the market after costs is a loser's game,' he said.

So at a conference in which advisers spent two days listening to everything from
hedging strategies to prognostications about "winning' sectors, Bogle closed the two-day event by delivering a math lesson.

First, he said, investors should expect average annual returns of only about 7 percent during the next decade -- the result of earnings growth of about 6 percent and dividend yields 3 percentage points below the long-term norm.

The numbers get more demoralizing from there. In actively managed stock mutual funds, Bogle said, investors pay about 1.5 percent for the management and operation of the funds, another 1 percent in trading costs related to buying and selling stocks, and then sometimes another 0.5 percent in sales charges.

In other words, investors may give up about 3 percent of their return. For a 25-year-old making a $1,000 investment, and averaging an 8 percent annual return, Bogle warns of the "tyranny of compounding costs.' With no fees, the 25-year-old would have about $140,000 after 65 years. With even 2.5 percent going to intermediaries, that's a 5.5 percent return and only about $30,000.

"Anyone who puts up with that is a fool,' he said.

So what does he do with his own money? I asked. At age 77, he has 40 percent in low-cost municipal bond funds. In the stock portion, he has
80 percent in the Vanguard Total Stock Market index fund.

But even he has his soft spot. He has not parted with "some of the legacy funds' that provide sweet memories and good returns: Vanguard Explorer, Vanguard Primecap, Vanguard Windsor and Vanguard Wellington -- not as cheap as the index fund at a 0.31 percent annual expense ratio, but not extravagant either. The most expensive is 0.51 percent.

Notice you won't find an international fund. Bogle isn't convinced they are necessary. He says the largest U.S. firms in the total stock market fund are doing business abroad, so that's his 25 percent exposure to global markets.