Bogle Says ETFs aren't as Investor Friendly as People Think

Jack Bogle, known as the father of the index fund and founder of the Vanguard Group, cautions investors not to get too complacent when they think of mutual funds. While they’re more investor friendly than actively managed mutual funds, there should be just as many warning labels on ETFs as any other investment product.

ETFs are the biggest thing since the mutual fund. With more than 1,400 products available to investors and traders, It’s now a $1.4 trillion industry.

On an interview with Yahoo Finance’s Breakout, Bogle offered some sage advice for those who invest in ETFs.

Index Funds are Fine

Whether it’s in the form of a mutual fund or exchanged traded funded, a passively managed index fund is still the best way to invest. Bogle has made a career of advising investors to not try and beat the market. He considers it a loser’s game for the beginning investor all the way to professional fund manager.

He points to the disappointing returns that most funds achieve. The Wall Street Journal pointed out that in 2012, 65 percent of large cap stock funds failed to outperform the S&P after fees and expenses. Further, only 10 percent of 1,991 stock funds tracked by Morningstar beat their benchmark in both 2011 and 2012.

Sector and Country ETFs are too Narrow

Broad market index ETFs like the SPDR S&P 500 SPY might be “just fine” according to Bogle but ETFs that focus in on specific sectors or countries are more like stock picking and less like index investing. Stock and bond based ETFs track an index but if that index is specific to one economic sector, the investor loses overall diversification.

"Fruitcakes, nut cases and lunatic fringe"

This is what Bogle thinks of you if you’re one of the many that put money to work in leveraged ETFs—products that move at 2 to 4 times the rate of the index they track. These are designed to be short term trading vehicles that magnify the moves of their underlying index but consistent with his views of short term trading, Bogle says, "There's just no possibility or any realistic way that you're going to win that bet."

The Whipsaw Effect

Finally, he cautions investors to be skeptical of all ETFs. About 75 percent of ETF inflows come from institutional investors with the ability to influence the funds’ price movements.