The Former CEO of Vanguard Has Some Surprising Views on Alternatives
Decades after his first book on investing, Jack Brennan has a new update where he discusses everything from endowments to the value of active management.
Jack Brennan wasn’t surprised by the meteoric rise and fall of GameStop stock earlier this year, which sent ripples through the market and ensnared hedge funds and other institutions. As the former chairman and CEO of Vanguard got closer to publishing a new version of his famous treatise on investing, including how to avoid the worst mistakes, individual investors were piling into the stock, in part to drive up the price and inflict damage on hedge funds that were betting on the game retailer’s fall.
“History repeats itself,” Brennan told Institutional Investor. “One of the most important things as investors is you can’t get swept up in today’s noise.”
He noted that his wife recently unearthed a paper copy of an II article from the 1990s technology bubble. It questioned whether Vanguard, whose actively managed and index funds have always focused on keeping costs low, could keep growing amid the euphoria over tech stocks. (At more than $7 trillion, Vanguard did continue to grow.) “That’s the analog to gamified investing now,” he said.
In his new book, Brennan has advice for the armies of individual investors on posting on Reddit and trading on Robinhood. “While investing in stocks is not a fad, approaching it as a game to be played is dangerous. It is akin to gambling, and, as we know, the house usually wins,” he wrote in the book, “More Straight Talk on Investing.”
Speaking to II, Brennan added that under a “sensible” plan, “‘Do nothing’ is generally the best answer at any point in time.”
Brennan didn’t “do nothing” between the first and second versions of the book, first published in 2004. Rather than just updating his “Straight Talk” for the 2020s, the former CEO of a company that democratized investing added a chapter on alternatives, including undemocratic hedge funds.
The Best Institutions “Invest in a Disciplined Way”
In another new chapter called, “Is the ‘Smart Money’ Smart? Yes, But…”, Brennan calls the term Smart Money “dumb,” but he makes an exception for endowments. “If you look at the best endowment managers, they make mistakes,” he wrote. “But they invest in a disciplined way.”
Even though the performance of endowments and the amount of risk they’ve taken to achieve those returns has been a source of debate, Brennan’s book includes statistics that show the largest endowments have beaten common benchmarks, with a lot less risk. Large endowments outperformed both a U.S. benchmark with 60 percent in stocks and 40 percent in bonds as well as a global equity index over 20 and 30 years, according to “More Straight Talk.”
Brennan also admires endowments’ willingness to change their behavior after the 2008 financial crisis when they were hurt by their inability to sell private investments. “There is an illiquidity premium, but they got stuck when they ran out of cash,” he said in the interview.
The “Good News/Bad News” For Retail Investors
But endowments, unlike individuals, have access to hedge funds and private equity. “That’s a good news/bad news story,” Brennan wrote in the book. He’s afraid that as more alternatives come to market, individuals won’t get access to the “best and the brightest.”
He’s likely right. In fact, smaller endowments and other institutional investors have invested big portions of their portfolios in alternatives, but they’re not outperforming because they get access only to second-rate managers.
In his book, Brennan runs through all the negatives, such as costs, the wide gap between the best and the worst managers, high risk, and complexity. He also lays out the basics of incentive fees and calls for full and clear disclosure from managers. “I want the reader to be a smart buyer,” he explained to II. “I spend a lot of time around those alternatives. They can be valuable to them.”
A 401(k) plan, for instance, is “permanent capital,” Brennan said. “Why wouldn’t you want to have 10 percent of those assets exposed to the private market? It’s coming.”
Brennan also thinks active management is evolving and will play a big role in investors’ portfolios. “It’s a great time to complement core portfolios with really smart niche firms that do concentrated, really deep researched active management,” he said. “The business side of the old model has been challenged by the BlackRocks and Vanguards, but highly talented people committed to research, they can complement core index funds.”
Why Investors Shouldn’t Go It Alone
When asked about what gave him the most pause when writing the book or what changed over the years that he may have missed, Brennan said simple concepts like dollar cost averaging and the need for advice were two areas he thought a lot about.
Dollar cost averaging, or automatically investing new cash every month or week, for example, is an automatic way for even institutions to get reallocated. But Brennan said that in a rising market, lump sum investments will do better, even if they give investors more angst in the short term. “The tactic works, but I wanted to present a balanced view,” he said.
But the biggest issue for Brennan is the value of advice.
While the premise of the book is to teach people to invest on their own — mostly by keeping it simple — Brennan has come around to the idea that advice can be essential in some cases, particularly during retirement. Although he won’t comment on Vanguard, the asset manager initially aimed its funds directly at individuals. It later expanded to selling to institutions and offering different levels of advice.
Brennan wrote in the book that individuals shouldn’t go it alone when trying to determine how long their money will last, how to deal with a bear market during retirement, and taxes.
Brennan tells a story about his own father. When he retired, the senior Brennan sent the former CEO a check for his retirement savings and told him “to do something with it.” He wouldn’t elaborate, so Brennan invested the lump sum in a diversified portfolio.
“He lived another 20 years, incredibly comfortably,” Brennan said. “He opened his statement from Vanguard three times. He trusted me.”
“He might have been concerned, if he knew I never looked at it either,” he laughed. “But that’s a metaphor for the way most of us should be thinking about the non-work phase of our lives.”