Source: Vanguard Group.
If you don't know who John Bogle is, you should. He's rightfully known as the father of the index fund, an investment vehicle Warren Buffett recommends as a way for ordinary investors to outperform the pros. Bogle has also been referred to as "the conscience" of the mutual fund industry, calling out troubling practices and trends, and his words of wisdom can make us all better investors. A single insight on compounding, for example, may help you save many thousands of dollars.
Compounding: the good and badBogle once said, "The miracle of compounding returns is overwhelmed by the tyranny of compounding costs." That's a critical point for investors to remember, because we usually only hear abouthow wealth compounds, rather than how fees also exhibit a compounding effect, eating away at our returns and robbing us of potential wealth.
Imagine, for example, that you invest $10,000 and it grows at the stock market's long-term annual average growth rate of about 10%. The table below shows how much money you might accumulate from that single investment:
The eye-popping numbers above reflect the miracle of compound growth. They don't, however, include fees, which can vary widely. The cheapest index funds charge less than 0.20% per year, while many exchange-traded funds charge about 0.50%, and a typical stock mutual fund charges roughly 1%, with some actively managed funds charging significantly more. The table below shows what happens to the totals above when you account for fees:
Those little fees add up, and the losses you sustain compound. One argument in favor of index funds is that many have low fees. Higher fees are a big reason that managed funds have trouble topping index funds.
The big fund pictureThrough Bogle's speeches, articles, interviews, and many books, you can learn much more about our financial system and what he finds problematic about it, such as conflicts of interests among those charged with managing our money. He focuses particularly on the mutual fund industry, pointing out that many funds go out of business, and the managers of those that surviveoften don't stick around for more than a few years. And then, of course, there are fees.
If you haven't already, give index funds strong consideration for your portfolio.
The article John Bogle: A Critical Lesson From an Investing Pioneer originally appeared on Fool.com.
Longtime Fool specialist Selena Maranjian, whom you can follow on Twitter,has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
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