Bogle: Investing Wins, Speculation Loses

Christine Benz: Jack, I want segue and talk a little bit about your most recent book, The Clash of the Cultures, and the clash is between a long-term investment culture and one that is based on short-term speculation. Let's talk about how that culture clash unfolded. What has driven the increasing focus on more speculative styles of investing?

Jack Bogle: Well, first of all, it comes around I think by and large, the kind of thing we had in the late 1990s--the information age and all that kind of thing--where the price of the stock became more important than the intrinsic value of a company. And when you focus on prices and pretty much disregard intrinsic values, you are just gambling.

Will people take your stock from you at a higher price than you paid for it, or you are buying and hoping to sell at a higher price. That's kind of the spirit of the thing; that's where the turnover comes from. And it's very, very dangerous. Add to that, stock prices became especially important during the '80s when we had executive-compensation options and corporations were judging themselves on the price of the stock. And the security analysts were judging the price of the stock. They wanted a short-term earnings guidance, short-term quarterly guidance, or something. And it just gradually turned bigger and bigger, inflamed--if that's the right word and I think is--by the huge boom we had in the '80s and '90s. Stocks looked like easy street. There is no easy street. And so it all kind of accumulated to the point where speculation has crowded out a lot of investment.

One example I used in the book is, how do you measure this? Well, if you call investment fulfilling the basic function of the financial system, and that is directing capital to its highest and best uses, you're talking about money gets directed in new ventures, existing companies, innovative companies, whatever it might be. And that has been running about $250 billion a year. How do you measure speculation? [You do so] by the amount of trading that goes on in the market, and that's around $33 trillion a year. So, if you want to look at it hard-nosed, 99.2% of what goes on in the market is speculation and 0.8% is an investment in the stock market.

Benz: What in your view would reverse that trend toward speculation? What are some steps that could be taken?

Bogle: Well, first of all, there's a natural tendency for it to blow itself out. If we had good market decline, for example.

Benz: And we did.

Bogle: And we see some of it now. High-frequency trading is distinctly less now and then we'd have to have a big market blowout, of course. There are a number of other factors. [One is] waking up investors--speculators lose, investors win, by definition. I mean think of this example. There are 500 stocks in the S&P 500, and let’s assume that half of the number of shares outstanding of each are owned by long-term investors who never trade. The other half is owned by speculators who trade with a frenzy. The investors by definition will capture the market return, investors as a group, and the speculators by definition will capture the market return, too, but only before deducting the cost of all that speculation.

So, it's a mathematical tautology that investing wins and speculating loses. And if we could ever get investors to focus on that simple fact, as Ben Graham said--he has got more good quotes, but I think this maybe his very best--in the short run the stock market is a voting machine, but in the long run the stock market is a weighing machine. We have to get back to that. And he was taking this on by the way because it was starting to happen when he was still alive. He died I think in 1949. And it was starting to happen even then, and he was criticizing all the institutional trading. He was talking about these institutions are great big laundries that take in each other's laundry every day and clean it up and send it out to somebody else. He was a wise man.