Are ETFs too easy to sell?

June 16, 2009

Jim Wiandt reports on internecine warfare among index investors:

Mr. Bogle has done some intensive research that shows that ETF investors have an even stronger tendency to trade their way into losing to the market, and to an even greater degree than active mutual fund investors.

Mr. Bogle is in effect saying that guns do kill people and that ETFs should perhaps be locked away safely in a cabinet and not employed in retail investor portfolios.

This is a fascinating concept — and, as Wiandt emphasizes, an entirely separate discussion from the question of whether investors are being ripped off when they trade in and out of structured ETFs like the USO oil fund or vehicles which give leveraged exposure to the stock market.

The question is this: assume, for the sake of argument, that you’re a buy-and-hold investor in broad stock market indices: you’ve decided, not unreasonably, that’s the best way to go. The problem is that you’re human, and humans (Neal Templin being one example) have a tendency to do exactly the wrong thing and sell when stocks go down, even when they have no immediate need for the money and indeed are just moving money around within their 401(k).

Now, are you more likely to panic and sell your index funds if they’re ETFs than you are if they’re mutual funds like the ones peddled by Mr Bogle? If so, then maybe it’s better to stick to mutual funds in general — and possibly even switch to a company like Dimensional in particular, not because it has higher returns (it’s selling index funds, after all) but because it has salesmen who can talk you gently back from the precipice and thereby prevent you from doing exactly the wrong thing at exactly the wrong time.

On the other hand, I’d want to take a very close look at Bogle’s “intensive research” before accepting its conclusions — precisely because it’s not easy to separate the buy-and-hold crowd from the day-trading crowd. Both of them invest in ETFs, but for very different purposes. How could Bogle have separated out only those ETF buyers who would otherwise have invested in mutual funds? I’ll be very interested to find out.


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