by Cullen Roche, Pragmatic Capitalism
I really liked this interview with Joel Dickson of Vanguard. In the interview he cuts to the chase on the active vs passive debate:
“The active/passive distinction is really more about costs than it is about the intelligence or the randomness of active management. It is about costs”
I keep harping on this point because I think it’s very important to understand the asset allocation process. The idea of “passive indexing” serves no purpose other than to create a distinction where there really is none. That is, a buy and hold asset allocator who picks 500 large cap stocks to own is not doing anything all that different from the buy and hold asset allocator who buys the SPY S&P 500 ETF, IF HIS/HER COSTS ARE THE SAME. But “passive indexers” would like you to believe that the stock picker is doing something distinctly different as if they are necessarily “active” just because they picked stocks. This distinction is totally meaningless. These two asset allocators are doing the exact same thing if they can construct their holdings in the same cost efficient manner (which, by the way, is precisely what firms like WealthFront are starting to do by owning the S&P 500 in its entirety).
So, this debate really comes down to costs. John Bogle’s “Cost Matters Hypothesis” is the key lesson here. But I think the “passive indexing” community got a bit overzealous in their demonization of “active” managers over the last few decades and didn’t fully realize that they were also picking assets inside the global aggregate. Indeed, ALL INDEXERS ARE ASSET PICKERS who are just slicing up the global aggregate index in varying ways. The difference between smart asset allocators and stupid ones is that the smart ones are fully aware of how much fees and other frictions hurt their long-term returns. Still, none of this should trump the “Allocation Matters Most Hypothesis”. That is, your active decision on how you allocate your portfolio over the course of your life will, by a wide margin, trump the “Cost Matters Hypothesis”. So yes, we should be worried about costs, but not at the detriment of understanding the asset allocation process.
Copyright © Cullen Roche, Pragmatic Capitalism
