London, England

Each year at this time I visit with an old friend and former client based in London. Mr. Index pioneered the Canadian mutual fund industry more than 40 years ago and today lives mostly in the United States, England and the south of France, depending on the time of year. He remains one of the wealthiest individuals in Canada.

Mr. Index embraced indexing back in the mid-1990s believing that active managers constantly failed to beat the market while charging high fees in the process. When I last met him March indexing was going down the drain amid the worst financial crisis in 75 years; despite the loss of capital devoted to this strategy, Mr. Index remained bullish on stocks and corporate bonds. He also purchased convertible bonds in March.

Nine months ago the total amount invested in money-market funds in the United States was greater than the sum invested in stock funds – an aberration unseen since the 1970s. In hindsight, Mr. Index was right about the market as stocks have rallied more than 65% since hitting a 12-year low in March.

I’ve long challenged him about the virtues of certain alternative investments, like managed futures, which have shown a strong negative correlation to stocks during bear markets, crashes, crises. Despite these attributes, Mr. Index refuses to buy alternative investments – a point of contention between us over the years.

ENR: Back in March you remained bullish on stocks even as the financial system was coming undone. I argued against net long investing or buying stocks without a hedge to protect your downside. Though I lost money too in 2008, my losses were in the single digits and not a crippling 40% draw-down like the averages. Do you still invest on a long basis?

Mr. Index: Yes, I do. Hedge funds and other alternative investments are too expensive. I don’t like them. So I don’t use these products to mitigate risk. I like stocks for the long-term. I’m a traditional investor. I think indexing is the way to go for most investors because money-managers – more than 85% of them – have consistently failed to beat the market over the last 15 and 20 years. I’m a “buy and hold” type of an investor and I stick to this discipline because market-timing is almost impossible.

ENR: But even with this big rally since March the MSCI World Index and the S&P 500 Index have gone nowhere since 1999. Commodities, gold, foreign currencies and emerging markets have worked much better posting double-digit gains in the 2000s. Buy-and-hold doesn’t work. And when you pulled the plug on me in 1996 I was trailing the S&P 500 Index, which was on fire. But now, 15 years later, I’ve outpaced the market with far less risk while embracing some alternative investments; stocks have been a disappointment.

Mr. Index: Look, indexing isn’t perfect but it’s the easiest most cost-effective method of investing. Active money-managers just can’t beat the market over time. These guys have big hurdles, including trading fees, emotions and market-timing issues. With indexing I can invest anywhere today on a liquid basis and at low cost. Sure, I get index-based returns in bad times but over longer periods at least you’re in the driver seat as it relates to fees, and ultimately, performance. But I agree with you, the last decade has been bad for common stocks.

ENR: What do you think of gold? I know you’ve always liked gold.

Mr. Index: An investor buys gold because he’s worried about inflation. There are other reasons to hold gold but that’s primarily why an investor owns it. I still like stocks longer term compared to most assets, even gold. But I am concerned about the spending binge occurring in the United States and elsewhere. I think as a dollar-based investor you must have gold today because three or four years from now, or whatever, the dollar will be worth less. Nobody wants a strong currency, including the United States.

ENR: Where are you investing now?

Mr. Index: I’m still buying global indexes. I still like Japan – despite going nowhere for the last 20 years. I think the yen has to fall and if it declines, then Japanese exporters will get a huge boost. Japan is cheap. It’s been cheap for years. But at some point I think Japan, which comprised almost 50% of total world stock market capitalization in 1989 is only 8% of the total now. Many Japanese stocks pay dividends and they trade at or below book-value.

ENR: What do you think of the American market?

Mr. Index: The market will have a correction, maybe 10% or 15% off these levels. Stocks have come a long way and a correction can be expected. But I’m still in the market and I won’t be changing my allocation any time soon. I think we should remember that in the early 1990s the dollar declined sharply (1990-1994) providing fodder for a big bull market in the S&P 500 Index. These companies derive a big share of their earnings from overseas and a cheap dollar should boost results going forward.

Thanks. See you next year!