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Another Advocate for Indexing

Yesterday, I met with a Captain from Atlantic Southeast Airline (Delta Connection). As soon as he walked in the door, he handed me an article from USA Today about a new book by Justin Fox. Justin Fox was unknown to me but the title of his book, “The Myth of the Rational Market,” quickly caught my eye. After our meeting, I read the article in full. In the article, written by freelance writer Richard Eisenburg, we see that Mr. Fox has spent years tracing the evolution of the Efficient Market Hypothesis. This hypothesis says stock prices are random, can’t be predicted based on past movements or publicly available information, and are in some fundamental sense, right.  His conclusion is that hiring a mutual fund manager to beat the market is a loosing game. Evidence of this is in 2008 when active managers in theory should have beat the market but instead most lost more than the S&P 500’s decline of 38%.

This article coming to my attention this week plays perfectly with our quote of the quarter from an anonymous Fortune Magazine Writer. “By day we write about “Six Funds to Buy NOW!”… By night, we invest in sensible index funds. Unfortunately, pro-index fund stories don’t sell magazines.” It is great to know that more professionals are joining the indexing revolution.

Harvard Endowment Looks to Become More Liquid

The managers of the Harvard Endowment have long been hailed as innovators. Their alternative investments include commodities like timber (famously employing lumberjacks), private equity, and hedge funds. 

Recently, I’ve seen it reported that Harvard’s endowment portfolio performed well during 2008 because of alternative investments.  As it turns out, the reporter meant their fiscal year 2008, which ends in June. It was a perfect time to end the year, right before all asset classes lost significant value…great reporting.

So, as a follow-up to that original article, let’s look at fiscal year 2009. 

John Bogle Endorses Wiser Wealth, Well…Sort of

Our friends at indexuniverse recently interviewed John Bogle. Mr. Bogle is the mutual fund indexing pioneer that started Vanguard. We listen very intently to Mr. Bogle because here at Wiser Wealth we are index investors and agree with many of his sought after opinions. The Wiser Wealth investing philosophy is to maintain a diversified portfolio, keep cost low and invest for the long term. Following Mr. Bogle’s presentation there was a question and answer section. He highlighted our core investing philosophies. 

Index Universe asked the following questions to Mr. Bogle following his on-line presentation:

Georgia’s Failed Banks

Georgia’s banks made the front page of the Wall Street Journal yesterday (6/10/09). The article notes that Georgia is home to 4% of the banks in the United States, but is responsible for 20% of the US bank failures since August. This year alone, six banks in Georgia have been seized by the Feds. The article goes on to say that there are thirty more banks in Georgia that are at risk of failing.

After reading this article, I did a search for the FDIC’s failed bank list to see which GA banks were on the brink of failure. I quickly became aware that the FDIC does not publish its failure watch list. This makes some sense as this could cause a “run on the bank” that would cause the institution in question to surely collapse. They do publish the banks that have been taken over by the government.

Trading ETFs

 When investing in mutual funds, the investor is handing his money over to a mutual fund manager, giving him or her full discretion in trading the asset as he or she sees fit.   This is a simplified scenario, as behind the scenes there are usually a lot of internal and external controls put on the managers, but from the small investor’s standpoint, he has no say in how the fund is run.

 Exchange Traded Funds (ETFs) bring much more transparency to the table.  Instead of having no control and limited knowledge about what your investment assets are up to, ETFs allow you to know throughout the day what they hold and the value of those holdings.  ETFs are also rule based, meaning that you will know exactly how an ETF will function, as its only objective is to track an index.

Mutual Fund Lending of Your Money!

A Wall Street Journal article caught my eye today. Jason Zweig’s article “Is your Fund Pawning Shares at Your Expense?” covers a unknown regular occurrence that Mutual Fund Managers often loan out shares of the fund’s stocks to other institutions.  In the indexing world, this also occurs to help indexes cover expenses, and thus track the assigned index more efficiently. As I read the article, it seemed to me that the Mutual Fund managers are much more one sided in their tactics, and it is not on the side of the investor. 

Switching to ETFs

In an environment where the stock market recovers and the credit crisis is in the rearview mirror, will your investments recover with the stock market, lag behind or remain at today’s levels? The investment tool you are using will make the difference.

President Obama: An Index Investor

A blog posted on CNNMoney.com’s Money and Main Street, Click Here, discusses a vague disclosure report from the White House concerning President Obama’s household assets and investments. 

 Page two of the original report, which the blogger links to, lists the President’s assets, where and what they are held in, and an estimated value.

What is most interesting is that the President has somewhere between $1-5 million in US Treasury Bonds and the second largest holding of somewhere between $115-250 thousand in the Vanguard FTSE Social Index.

The Obama Portfolio 

When President Obama was first elected, there were many people who advertised “Obama Portfolios.”  As it turns out, the original Obama Portfolio favors US Treasury issued debt and socially responsible companies in a simple index fund package.

The interesting part is that the President of the United States, who would have the best investment advisors at his disposal, chose a low cost, diversified portfolio of US stocks.

PowerShares Set to Close 19 ETFs

PowerShares announced in a May 1, 2009 press release that it will be closing 19 of its ETFs, representing roughly 1% of Invesco PowerShares assets and will mainly include smaller funds representing slices of the market. 

In light of recent market turmoil, many ETF industry commentators are saying the ETF market place is too crowded and grew faster than it was able to attract assets.

Bruce Bond, president and CEO of Invesco PowerShares, said this about the closings in the press release, “After carefully evaluating numerous factors including shareholder considerations, length of time on the market, asset levels, and the potential for future growth, we proposed closing certain portfolios that have not gained sufficient acceptance with investors.”

PowerShares closes some of the category of funds it is best known for, the FTSE RAFI Index tracking ETFs and 4 ETFs tracking Dynamic Intellidex Indexes.

12 of the closing ETFs are ETFs following the RAFI Indexes created by Robert Arnott, RAFI standing for Research Affiliates Fundamental Index, which weight index components by five fundamental factors.  Fundamental indexing proponents propose that market capitalization weighted indexes tend to overload themselves with overvalued stocks, the opposite of what an investor would want to do. These weigh an index based on fundamental factors and not by market cap which is a function of price. The 12 ETFs are all sector funds and the PowerShares FTSE RAFI Asia Pacific ex-Japan Small-Mid Portfolio.

The other seven ETFs closing represent either small slices of the market or niche concepts like the PowerShares High Growth Rate Dividend Achievers Portfolio, PHJ, which seeks to track an index that includes 100 companies with the highest dividend growths rates who have increased their annual dividends for the last ten consecutive years.

The closing Process

ETFs have closed in the past and since ETF assets are held outside of the company’s balance sheet, in trust, ETF assets are returned to an ETF investor upon the issuing company closing for bankruptcy or the ETF closing. 

As PowerShares has announced, it will begin the process of closing the funds in the first part of May.  During this time, the funds will no longer be required to meet their investor objective of tracking the index but will be seeking to get best price and execution of the underlying securities.  This will cause tracking error to increase.

As of May 19, 2009, the 19 closing ETFs will no longer allow new investors in the funds.  Investors who hold the ETFs at the close of trading on May 18, 2009 will receive the NAV of the ETFs as of May 22, 2009 as a cash deposit in their brokerage accounts.

Up to the closing of the funds to new investors, on May 19, creation and redemption of the funds can still take place to ensure that the ETFs represent the basket of underlying securities, which will keep this period of ETF closing orderly.  Investors will be able to trade the ETFs up to the closing of new investments and should seek receive prices close to NAV, which may include the using limit orders.