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Paul Samuelson and the Birth of the Index Fund

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Originally posted on September 3, 2011.

 

John Bogle has a nice piece in the WSJ on Paul Samuelson and the history of the index fund, an great example of how theory has contributed to practice.

[Samuelson's] article “Challenge to Judgment” caught me at the perfect moment. Published in the inaugural edition of the Journal of Portfolio Management in the autumn of 1974, it pleaded “that some large foundation set up an in-house portfolio that tracks the S&P 500 Index—if only for the purpose of setting up a naïve model against which their in-house gunslingers can measure their prowess.”

Presented with that challenge, I couldn’t resist….

 

Bogle launched the First Index Investment Trust but the project was almost stillborn because the initial underwriting was a huge failure. Only $11.3 million was raised, a 93% shortfall from the goal, and not enough to buy [100 shares of ?] all 500 stocks in the S&P 500. The underwriters urged Bogle to cancel but Bogle persevered despite catcalls from Wall Street about “Bogle’s Folly.”

The most enthusiastic media comments about the coming underwriting of the index fund came from Samuelson himself. Writing in his Newsweek column in August 1976, he expressed delight that there had finally been a response to his earlier challenge: “Sooner than I dared expect,” he wrote, “my explicit prayer has been answered. There is coming to market, I see from a crisp new prospectus, something called the First Index Investment Trust,” an index fund available for investors of modest means, “that apes the whole market (S&P 500 Index), requires no load, and keeps commissions, turnover and management fees to the feasible minimum, and . . . best of all, gives the broadest diversification needed to maximize mean return with minimum portfolio variance and volatility.”

…Today, the assets of the Vanguard funds modeled on the S&P 500 Index total $200 billion, together constituting the largest equity fund in the world. (The second largest, at $180 billion, are the Vanguard Total Stock Market Index funds.) Investors have voted for index funds with their wallets, and they continue to do so.

About the Author
Alex Tabarrok is Bartley J. Madden Chair in Economics at the Mercatus Center at George Mason University and director of research for The Independent Institute. Tabarrok is co-author with Tyler Cowen of the popular economics blog, Marginal Revolution. His recent research looks at bounty hunters, judicial incentives and elections, crime control, patent reform, methods to increase the supply of human organs for transplant, and the regulation of pharmaceuticals. He is the editor of the books, Entrepreneurial Economics: Bright Ideas from the Dismal Science; The Voluntary City: Choice, Community, and Civil Society; and Changing the Guard: Private Prisons and The Control of Crime. His papers have appeared in the Journal of Law and Economics, Public Choice, Economic Inquiry, Journal of Health Economics, Journal of Theoretical Politics, The American Law and Economics Review, Kyklos and many other journals. His popular articles have appeared in The New York Times, The Wall Street Journal, and many other magazines and newspapers.