Doesn't deep S&D accomplish almost he same thing...

Hi Petro,

It seems to me it is not the method that is being criticized, but the marketing. The article didn't get into the weightings of the fundamental indexes, and whether the return was increased due to higher weightings of small and value stocks.

Why would anyone want a fundamental index over a value index? The value index uses different metrics than simple P/E, but actually goes a step further and buys lower cost stocks.

You are right, it is funny, but it is funny because it is irrelevant. The active -vs.- passive is also irrelevant. What is important is whether or not the index would offer anything over tilting a portfolio in the direction you wanted to tilt it. The fundamental index -vs.- the S&P 500 is like comparing small caps to large caps or value to growth.

You could probably accomplish the same results by simply investing in the mid cap index fund, an avenue that is already available, and most likely at a lower price.

It is also not a cure-all for market bubbles, as when the bubbles burst, and large cap businesses suffer, the whole market suffers, as the large cap businesses support the market, both US and international.

Smaller caps and value businesses just do not suffer as much after a pure pricing bubble such as 2000 - 2002, but more so in other bear markets. I agree with Phil DeMuth (and Ben Stein); we will probably not see another bubble like that one in our lifetime.

Chasing after a cure for the pricing bubbles may be a day late and a dollar short.

What we need to concentrate on now is what the next bear market might look like.

Chin

chinwhisker:

Why would anyone want a fundamental index over a value index? The value index uses different metrics than simple P/E, but actually goes a step further and buys lower cost stocks.

Hmmm.  I wonder why the Vanguard Value Index fund has performed so poorly.  Look HERE.  It has scarcely outperformed the S&P 500 fund.

Maybe it would be worthwhile to look at the idea of a fundamental index more carefully? 

Plus, I'm not convinced that the current bear market is over. 

chinwhisker:

Why would anyone want a fundamental index over a value index? The value index uses different metrics than simple P/E, but actually goes a step further and buys lower cost stocks.

You are right, it is funny, but it is funny because it is irrelevant. The active -vs.- passive is also irrelevant. What is important is whether or not the index would offer anything over tilting a portfolio in the direction you wanted to tilt it. The fundamental index -vs.- the S&P 500 is like comparing small caps to large caps or value to growth.

You could probably accomplish the same results by simply investing in the mid cap index fund, an avenue that is already available, and most likely at a lower price.

Chin

Hi Chin...I'll give you one reason you did not cite; perhaps you are unaware of this key point.  When it comes to investing in international stocks, a key concern is the lack of visibility, openness, opaqueness, and good accounting that can be relied upon.  A lot of smoke and mirrors exists with foreign equities.  By insisting on a dividend being paid, one is better assured the company is for real, and has real earnings.  So a dividend tilt, to me, makes a lot of sense in international investing.  Will this play out, we'll see.  But it is one reason I own some Wisdom Tree ETF's.  So far, so good.  And if it doesn't play out, then I don't see too much variation from a straight market cap value international index anyway.  It's not a huge risk versus traditional indexing.

BTW Petro, thanks for article.

retired at 48

norbertc:

chinwhisker:

Why would anyone want a fundamental index over a value index? The value index uses different metrics than simple P/E, but actually goes a step further and buys lower cost stocks.

Hmmm.  I wonder why the Vanguard Value Index fund has performed so poorly.  Look HERE.  It has scarcely outperformed the S&P 500 fund.

Maybe it would be worthwhile to look at the idea of a fundamental index more carefully? 

Plus, I'm not convinced that the current bear market is over. 

Hi Norbert,

The reason Vanguard's value fund follows the S&P 500 closer is it only uses the lower half of the S&P 500. DFA or Rydex would have worked better in the 2000 - 2002 bear market, but maybe not so in other bear markets. The same would hold true for fundamental indexing as it also adds size risks to the equation.

Whether the bear market is over or not, we are not facing another pure value bubble bursting. The P/E of the S&P 500 is half of what it was before it burst, and around the average of the post war period.

Chin

retired at 48:

Hi Chin...I'll give you one reason you did not cite; perhaps you are unaware of this key point.  When it comes to investing in international stocks, a key concern is the lack of visibility, openness, opaqueness, and good accounting that can be relied upon.  A lot of smoke and mirrors exists with foreign equities.  By insisting on a dividend being paid, one is better assured the company is for real, and has real earnings.  So a dividend tilt, to me, makes a lot of sense in international investing.  Will this play out, we'll see.  But it is one reason I own some Wisdom Tree ETF's.  So far, so good.  And if it doesn't play out, then I don't see too much variation from a straight market cap value international index anyway.  It's not a huge risk versus traditional indexing.

Hi Ret48,

The fundamental index is not focused on dividends. By the time you account for the other factors involved, the dividends would be lower than a value index. Using the US Value as a comparison tool, the value index has around the same dividend as the dividend yield index -- which is a more pure dividend play.

The fundamental index is not going to offer any tremendous diversification over the S&P 500 or total market.

As you and Norbert should know, I suggest the mid-cap value fund used in my Know-nothing portfolio, as it offers more diversification than Vanguard's large cap value, but if you are looking for dividends, the large cap value fund offers higher dividends. The smaller you go, the lower the dividends. The fundamental index is most likely going to offer lower dividends for this reason. In fact, I think DFA's large value index offers lower dividends than the Vanguard large value index, as does Vanguard's mid-cap value index.

Dividend focusing is an entirely different animal than fundamental focusing.

Chin

The argument is not about the advantages or disadvantages of value, small, dividends, etc. The argument is simply about the use of the term index. Fundamental index funds, high dividend yield index funds and so on are not index funds.

“It is not indexing,” insists Mr. Bogle. “It is a form of asset allocation, or active management strategy. It is being oversold as something it is not.” The case Mr. Bogle and his allies make is that, as he puts it, “the market return is the market return.” In other words, only cap-weighted indexes can mirror the market because market capitalization is what defines the market.

But fundamentally weighted indexes? They may well turn out to be a good idea, and become part of your portfolio. They may make you money in the long run. But they ain’t index funds, and they shouldn’t be viewed as a replacement for index funds.

Who is promoting the idea that these new funds are index funds? Only those who developed the idea. Why do they do it. Frankly, because it is a brilliant marketing idea. Hats off to Rob Arnott, the smart guy behind fundamental index funds. Also the smart guy who uses true index funds for his family's invsetments. 

Paul 

norbertc:

wonder why the Vanguard Value Index fund has performed so poorly.  Look HERE.  It has scarcely outperformed the S&P 500 fund.

Maybe it would be worthwhile to look at the idea of a fundamental index more carefully? 

Plus, I'm not convinced that the current bear market is over. 

So Growth had a better 2007 than Value.  SP500 is more growth leaning than a true blend.  Spread your chart from 200 days to 1100 days (3 yrs) and you'll see what VIVAX did to the S & P 500.

Fundamental index isn't an index--that is Bogle/Malkiel's argument.  It's active management using a strict formula for valuation.  It might be a great formula--we'll all know in 15 years.  

But it's not an index. 

To Chin...I was talking about INTERNATIONAL MARKETS,  not USA.  I cited an EXTRA reason for dividend tilt, as you had asked.

R48