Index funds eliminate the risks of
individual stocks

I’m speaking here about the classic index fund, one
that is broadly diversified, holding all (or almost all) of its
share of the $15 trillion capitalization of the U.S. stock
market, operating with minimal expenses and without advisory fees, with tiny portfolio turnover, and with high tax
efficiency. The index fund simply owns corporate America, buying an interest in each stock in the stock market
in proportion to its market capitalization and then holding
it forever.
Please don’t underestimate the power of compounding
the generous returns earned by our businesses. Over the
past century, our corporations have earned a return on their
capital of 9.5 percent per year. Compounded at that rate
over a decade, each $1 initially invested grows to $2.48;
over two decades, $6.14; over three decades, $15.22; over
four decades, $37.72, and over five decades, $93.48.* The
magic of compounding is little short of a miracle. Simply
put, thanks to the growth, productivity, resourcefulness,
and innovation of our corporations, capitalism creates
*These accumulations are measured in nominal dollars, with no adjustment
for the long-term decline in their buying power, averaging about 3 percent
a year since the twentieth century began. If we use real (inflation-adjusted)
dollars, the return drops from 9.5 percent to 6.5 percent. As a result, the
accumulations of an initial investment of $1 would be $1.88, $3.52, $6.61,
$12.42, and $23.31 for the respective periods.
bogl_a03flast.qxd 1/26/07 10:32 AM Page xiii
[XIV] INTRODUCTION
wealth, a positive-sum game for its owners. Investing in equities is a winner’s game.
The returns earned by business are ultimately translated into the returns earned by the stock market. I have
no way of knowing what share of these returns you have
earned in the past. But academic studies suggest that if
you are a typical investor in individual stocks, your returns have probably lagged the market by about 2.5 percentage points per year. Applying that figure to the
annual return of 12 percent earned over the past 25
years by the Standard & Poor’s 500 Stock Index, your
annual return has been less than 10 percent. Result:
your slice of the market pie, as it were, has been less
than 80 percent. In addition, as explained in Chapter 5,
if you are a typical investor in mutual funds, you’ve
done even worse.
If you don’t believe that is what most investors experience, please think for a moment, about the relentless
rules of humble arithmetic. These iron rules define the
game. As investors, all of us as a group earn the stock
market’s return. As a group—I hope you’re sitting down
for this astonishing revelation—we are average. Each
extra return that one of us earns means that another of
our fellow investors suffers a return shortfall of precisely
the same dimension. Before the deduction of the costs of
investing, beating the stock market is a zero-sum game.
bogl_a03flast.qxd 1/26/07 10:32 AM Page xiv
INTRODUCTION [XV]
But the costs of playing the investment game both
reduce the gains of the winners and increases the
losses of the losers. So who wins? You know who wins.
The man in the middle (actually, the men and women
in the middle, the brokers, the investment bankers, the
money managers, the marketers, the lawyers, the accountants, the operations departments of our financial
system) is the only sure winner in the game of investing. Our financial croupiers always win. In the casino,
the house always wins. In horse racing, the track always wins. In the powerball lottery, the state always
wins. Investing is no different. After the deduction of
the costs of investing, beating the stock market is a
loser’s game.
Yes, after the costs of financial intermediation—all
those brokerage commissions, portfolio transaction
costs, and fund operating expenses; all those investment
management fees; all those advertising dollars and all
those marketing schemes; and all those legal costs and
custodial fees that we pay, day after day and year after
year—beating the market is inevitably a game for losers.
No matter how many books are published and promoted
purporting to show how easy it is to win, investors fall
short. Indeed, when we add the costs of these self-help
investment books into the equation, it becomes even
more of a loser’s game