Masters in Business: Rethinking Investing with Greenwich Associates' Charles Ellis

Episode Overview

In the February 21, 2025 episode of Masters in Business hosted by Bloomberg's Barry Ritholtz, listeners are treated to an insightful conversation with the esteemed investor and author, Charles Ellis. The discussion delves into Ellis's extensive experience in the investment world, his new book Rethinking Investing, and his perspectives on modern investment strategies, particularly the efficacy of passive indexing versus active management.

Introduction to Charles Ellis

Barry Ritholtz begins by introducing Charles Ellis, highlighting his illustrious career trajectory—from his early days at the Rockefeller family office to founding Greenwich Associates. Ellis has authored 21 books and has held significant positions, including serving on Vanguard's Board of Directors and chairing Yale's Endowment Investment Committee. Ritholtz remarks:

“He's published 21 books... his new book Rethinking Investing is just a delightful snack. It's only 100 pages and it distills 60 years of investing wisdom into a very, very short read.”
[02:51]

Evolution of Investing: From Rockefeller to Greenwich Associates

Ellis recounts his early career experiences, emphasizing the transformation of the investment landscape from the 1960s to the present day. He reflects on his time at the Rockefeller family office, noting:

“Trading volume was 3 million shares on the New York Stock Exchange... Now it's 6, 7, 8 billion.”
[06:05]

This exponential growth in trading volume underscores the shift towards institutional investing and the advent of modern portfolio theories that were once considered mere academic curiosities.

The Paradox of Skill and Active Investing Challenges

A significant portion of the discussion centers on the diminishing returns of active investing amidst heightened competition and information accessibility. Ellis introduces the concept of the "paradox of skill," where increased skill among investors leads outcomes to be more influenced by luck. He cites:

“When everybody knows exactly what you know, then they've got computing power so they can do all kinds of analytics. It's really hard to see how you're going to be able to beat them by much, if anything.”
[11:16]

Ellis further explains how active managers often underperform due to high fees and the inability to consistently outperform well-informed, technologically equipped competitors.

Embracing Passive Indexing: A Superior Strategy

Ellis advocates for passive indexing as a means to mitigate the inherent risks and costs associated with active management. He references studies by Morningstar and Dalbar, which illustrate that actively managed funds frequently underperform their benchmarks. Highlighting the efficiency of index funds, he states:

“Over the 20 years ending in mid-2023, investing in a broad-based US total market equity fund produced net returns better than more than 90% of professionally managed stock funds that promised to beat the market.”
[37:14]

Ellis emphasizes that passive indexing not only reduces costs but also leverages the power of compounding over long-term investment horizons.

Behavioral Economics and Investor Behavior

A pivotal theme in Ellis's discussion is the role of behavioral economics in investment decisions. He points out that human biases often lead investors to make suboptimal choices, resulting in underperformance relative to market indices. Ellis remarks:

“The average investor in an average year loses 2 full percent by making mistakes with the best of intentions.”
[30:57]

He underscores the importance of recognizing and curbing these behavioral biases by adopting disciplined investment strategies like indexing.

The Power of Time and Compounding

Ellis and Ritholtz explore the profound impact of time and compounding on investment growth. Ellis illustrates this with the example of missing the top-performing days in the market:

“If you miss only the 10 best days out of 10,000 trading days, the return drops from 11.2% to 9.2% annually.”
[43:26]

This demonstrates how consistent, long-term investment strategies can harness the exponential growth potential of compounding, far outweighing the tactics of short-term active management.

Total Financial Portfolio Perspective

Introducing the concept of a "total financial portfolio," Ellis advises investors to consider not just their investment holdings but also the present value of future Social Security benefits and the equity value of their homes. This holistic view can lead to a more balanced and equity-leaning securities portfolio. He explains:

“Include the present value of your future Social Security payments and the equity value of your home as sort of bond-like. And that should help you shift your allocation a little away from bonds, a little more into equities.”
[50:12]

Advice for Aspiring Investors

Towards the end of the episode, Ellis offers guidance for recent graduates aspiring to enter the investment field. He stresses the importance of intrinsic motivation over financial incentives:

“If it's your desire to lead your life making money or doing something that you would say was at the end of your life, I'm so proud to have what I did...”
[53:25]

Ellis encourages budding investors to focus on helping others achieve their financial goals, suggesting that genuine passion leads to greater professional fulfillment and success.

Key Takeaways from Rethinking Investing

1. Shift to Passive Indexing: Active management is increasingly untenable in a world of information abundance and high competition. Passive indexing offers a cost-effective, reliable alternative for long-term growth.

2. Mitigate Behavioral Biases: Recognizing and addressing inherent human biases can prevent costly investment mistakes.

3. Leverage Compounding: Time is a critical ally in investment growth. Early and sustained investment harnesses the full power of compounding.

4. Adopt a Holistic Portfolio View: Incorporating non-traditional assets like future Social Security benefits and home equity can optimize investment allocations.

5. Passion Over Profit: A career in investing should be driven by the desire to assist others rather than merely financial gains.

Conclusion

The episode concludes with a reaffirmation of the merits of passive investing and a nod to Ellis's impactful contributions to the field. Ritholtz encourages listeners to explore Ellis's Rethinking Investing for a concise yet profound exploration of sustainable investment strategies in the modern era.

“If you invest for 20 plus years, passive indexing... ends up in the top decile.”
[37:56]

Ellis’s insights serve as a compelling argument for re-evaluating traditional investment approaches and embracing strategies that align with the evolving financial landscape.

Notable Quotes

• Charles Ellis:
  “Active investing is an exciting idea... but the circumstances now are so different that it doesn't work beautifully. It works negatively.”
  [49:44]

• Charles Ellis:
  “If you have the time, the impact of compounding really is terrific.”
  [47:34]

• Charles Ellis:
  “Don't do it [applying outdated investment lessons].”
  [55:59]

Final Thoughts

This episode of Masters in Business offers a wealth of knowledge for both seasoned investors and newcomers. Charles Ellis's perspectives challenge conventional wisdom and advocate for evidence-based, disciplined investment practices that stand the test of time.