WEBVTT - Dimensional Fund CEO David Booth: Masters in Business (Audio) 0:00:03.240 --> 0:00:07.560 This is Masters in Business with Barry Ridholts on Bloomberg Radio. 0:00:08.640 --> 0:00:11.920 Welcome to the podcast. This is Barry Ridholts. And again 0:00:12.119 --> 0:00:14.960 I know I say this every week. We have a 0:00:15.040 --> 0:00:18.160 very special guest this week, but this week we really 0:00:18.760 --> 0:00:21.560 have a very special guest. His name is David Booth. 0:00:22.239 --> 0:00:27.160 He is the founder and chairman of Dimensional Funds. They 0:00:27.280 --> 0:00:30.280 run a couple of shekels over four hundred billion dollars. 0:00:30.760 --> 0:00:35.360 You may recognize the name Booth courtesy of the Chicago 0:00:35.479 --> 0:00:38.479 Graduate School of Business also known as the David S. 0:00:38.520 --> 0:00:43.120 Booth School of Business, David Booth the Booth School at Chicago. UH. 0:00:43.240 --> 0:00:47.600 David made a fairly tremendous gift to the Booth School 0:00:48.240 --> 0:00:51.760 of At the time, it was valued at three hundred 0:00:51.800 --> 0:00:54.680 million dollars, but considering it was a mix of cash 0:00:54.720 --> 0:00:57.360 and stock spread out over a number of years, it 0:00:57.440 --> 0:01:00.160 might even be worth closer to half a billion, is 0:01:00.200 --> 0:01:04.400 my back of the envelope guess, based on the assets 0:01:04.440 --> 0:01:08.520 under management in Chicago. I mean at Dimensional what that 0:01:08.560 --> 0:01:12.960 means to the Chicago school and um, it's it's really 0:01:13.120 --> 0:01:18.880 worked out tremendously well. David really credits Chicago for all 0:01:18.920 --> 0:01:22.480 of the success he's had in his career. Dimensional is 0:01:22.560 --> 0:01:27.320 just a monster uh fund. They've done really well, starting 0:01:27.319 --> 0:01:33.720 out with literally zero dollars in there, now coming up 0:01:33.760 --> 0:01:37.040 on half a trillion dollars. They don't sell directly to 0:01:37.080 --> 0:01:39.720 the public. About a little less than half of what 0:01:39.760 --> 0:01:43.800 they do is institutional. The other half is sold through 0:01:43.840 --> 0:01:48.040 financial advisors. In full disclosure, my office is the Dimensional shop. 0:01:48.160 --> 0:01:51.160 We've we've been using them as part of our core 0:01:51.240 --> 0:01:54.560 portfolios and and we've been really happy with them both 0:01:54.680 --> 0:01:59.560 as a service provider and the performance of the funds. 0:02:00.080 --> 0:02:02.760 I think you'll find David is really a fascinating guy. 0:02:02.800 --> 0:02:05.440 He doesn't usually do these sorts of interviews. He's more 0:02:05.440 --> 0:02:08.360 of a print guy. So it was really interesting to 0:02:08.480 --> 0:02:13.959 hear him unedited, unvarnished in his own words, very very 0:02:14.040 --> 0:02:18.120 savvy and individual and when you look at at the success, 0:02:18.160 --> 0:02:20.680 when you look at what he's built over the years, 0:02:20.720 --> 0:02:24.440 it's really quite amazing. So rather than have me babbyl 0:02:24.520 --> 0:02:27.080 on and on with no further ado, here is my 0:02:27.200 --> 0:02:34.680 conversation with David Booth. This is Masters in Business with 0:02:34.760 --> 0:02:39.760 Barry Ridholds on Bloomberg Radio Today. My special guest is 0:02:39.919 --> 0:02:45.280 David Booth. David is the founder, chairman and co CEO 0:02:45.960 --> 0:02:50.040 of Dimensional Funds and asset management firm running over four 0:02:50.120 --> 0:02:53.760 hundred billion dollars. Little background about David. He got his 0:02:54.400 --> 0:02:58.800 degree in economics in n at Kansas, where he also 0:02:59.360 --> 0:03:02.280 got a master was in business the following year, and 0:03:02.320 --> 0:03:05.320 then ended up going to the University of Chicago for 0:03:05.400 --> 0:03:09.280 his m b a. In nineteen seventy one. As of now, 0:03:09.320 --> 0:03:12.359 the University of Chicago is known as the David Booth 0:03:12.360 --> 0:03:16.919 Graduate School of Business, following a major endowment made. Um, 0:03:17.120 --> 0:03:18.880 I should really call you doctor Booth, but I know 0:03:18.919 --> 0:03:24.760 that I don't have the the official Well, David, welcome 0:03:24.760 --> 0:03:26.359 to the show. Well, thank you very much, glad to 0:03:26.400 --> 0:03:28.800 be here. Um, so let's talk a little bit about 0:03:28.840 --> 0:03:33.720 your your background. In your your from Kansas, did you 0:03:33.760 --> 0:03:36.400 have and you and you obviously focused on business and 0:03:36.400 --> 0:03:38.960 got your masters in business. Did you ever have any 0:03:39.000 --> 0:03:41.800 plans on going into the world of investment before your 0:03:41.920 --> 0:03:44.360 m b A. Uh No, Actually I went to I 0:03:44.360 --> 0:03:47.880 went to Chicago, I went into the PhD program. Uh. 0:03:48.280 --> 0:03:50.480 I went there with the idea of becoming a professor 0:03:50.680 --> 0:03:53.560 eventually going back to Kansas, went back to Kansas and teaching. 0:03:54.240 --> 0:03:57.760 So how on Earth. Did you make that pivot from 0:03:57.800 --> 0:04:02.040 being a professor to running a very large and successful 0:04:02.120 --> 0:04:06.400 investment firm. Well, my um, Um, how it came about 0:04:06.480 --> 0:04:09.040 was in my second year in the program, I was 0:04:09.080 --> 0:04:13.560 working for Jane Fama, the Nobel laureate famous for developing 0:04:13.560 --> 0:04:18.600 the efficient market hypothesis, and it was a phenomenally great experience. 0:04:18.600 --> 0:04:23.760 But I I realized I didn't, Um, yeah, I no 0:04:23.800 --> 0:04:26.640 longer want to be a professor. And as he tells 0:04:26.680 --> 0:04:29.880 the story, UM, I walked into his office one day 0:04:29.920 --> 0:04:32.479 and said, I know what you do, and I don't 0:04:32.520 --> 0:04:35.200 want to do it. Now. Why is that? I've read 0:04:35.240 --> 0:04:40.200 you said that he's the smartest, most intuitive, most competitive 0:04:40.279 --> 0:04:42.840 person you met at the time, Right, and you didn't 0:04:42.839 --> 0:04:45.240 want to enter field where you're up against the hundreds 0:04:45.240 --> 0:04:47.520 of guys like that. Well, I think it's not more 0:04:47.600 --> 0:04:50.479 than that. It's Um, I love the competition because you know, 0:04:50.560 --> 0:04:53.279 we chose to go into money meagument business, which is 0:04:53.360 --> 0:04:56.760 highly competitive. So it's not so much about the competition 0:04:56.920 --> 0:04:59.920 is as it is that, Uh, I'm not very good 0:05:00.080 --> 0:05:05.040 at studying something for years in order to really come 0:05:05.080 --> 0:05:11.240 out with these great research um projects. Uh, you know 0:05:11.400 --> 0:05:14.680 that it requires and an ability to sit there and 0:05:14.680 --> 0:05:19.520 study for years on end the same subject. And I 0:05:19.560 --> 0:05:22.200 realized I didn't have that, So you didn't want to 0:05:22.240 --> 0:05:24.880 just focus on that one niche and and do that 0:05:24.920 --> 0:05:28.200 deep dive. Let's talk a little bit about UM. You 0:05:28.240 --> 0:05:31.719 mentioned the course you took with Fama was life changing. 0:05:32.880 --> 0:05:35.040 Is that that's not an exaggeration, is it? No, it's 0:05:35.040 --> 0:05:38.560 not an exaggeration at all. I mean, I'm was twenty 0:05:38.560 --> 0:05:42.200 two year old, never grew up in a very modest 0:05:42.240 --> 0:05:46.839 household like most people of the time, and um, the 0:05:47.200 --> 0:05:51.040 my first course in investing was was taught by Jeane Fama, 0:05:51.360 --> 0:05:55.120 and it all made sense to me. It Uh, it 0:05:55.160 --> 0:05:58.680 wasn't until later I found out almost nobody else believed that, uh, 0:05:58.760 --> 0:06:01.000 you know what he was teaching. But so I really was. 0:06:01.880 --> 0:06:04.200 It was transformative to me, and it was a period 0:06:04.240 --> 0:06:08.120 of time that was really transformative for the field of finance. 0:06:08.760 --> 0:06:13.080 The field of finance really I went through with their 0:06:13.360 --> 0:06:15.800 score of years from the mid fifties of the mid 0:06:15.839 --> 0:06:20.400 seventies were it kind of really went from a nothing 0:06:20.720 --> 0:06:24.840 field to a true academic discipline with models and theories 0:06:24.839 --> 0:06:28.920 and good research. So let's talk about UM. Some time 0:06:29.000 --> 0:06:31.720 after you left, uh, I was gonna call it booth, 0:06:31.760 --> 0:06:36.599 but I guess I really can't. Um mc McCowen hired 0:06:36.640 --> 0:06:42.599 you at Will's Fargo, where pretty much he created what 0:06:42.680 --> 0:06:46.080 was the first practical index fund. Tell us about your 0:06:46.080 --> 0:06:49.240 experience working with McAllen. Okay, Well, I'll start with a 0:06:49.240 --> 0:06:52.159 connection first. So when I talked to FOM and said 0:06:52.160 --> 0:06:54.159 I wanted to leave the program, he called up Mac 0:06:54.320 --> 0:06:58.680 and UH said, because Mac could, I always wanted to 0:06:58.720 --> 0:07:01.839 hire one of his students, and so uh Uh and 0:07:01.920 --> 0:07:05.159 Mac wanted to come out with a what was seemingly 0:07:05.160 --> 0:07:09.280 crazy idea at the time, of an index fund, and 0:07:08.360 --> 0:07:10.520 UH and he and I hit it off, and we 0:07:10.560 --> 0:07:15.200 went out and UH and UH started the first index 0:07:15.240 --> 0:07:19.120 funded in nine mostly for institutions that it was only 0:07:19.160 --> 0:07:23.360 institutional in And we really didn't funny enough. We weren't 0:07:24.160 --> 0:07:28.800 successful enough or quickly enough. So eventually the Wells Fargo 0:07:28.840 --> 0:07:31.680 shut down our group and UH not a great decision. 0:07:31.680 --> 0:07:34.840 They're not a great decision. Well, it continued on. It 0:07:34.840 --> 0:07:36.440 turned out to be good for them because the Trust 0:07:36.440 --> 0:07:38.920 Department then picked it up then to try. After a 0:07:39.000 --> 0:07:43.080 number of years, Wells Fargo UH sold half the business 0:07:43.080 --> 0:07:45.520 to Nico and then the whole business to Nico, and 0:07:45.520 --> 0:07:52.440 then Nico sold it to Barclays and then Solid Black Rocks. Yeah. Yeah, 0:07:52.480 --> 0:07:55.680 So what was the I recall reading Samsonite Luggage was 0:07:55.840 --> 0:07:59.280 somehow involved in the original index fund. What what was 0:07:59.320 --> 0:08:04.920 their relationship there? Well, they called the University of Chicago 0:08:04.960 --> 0:08:07.400 and a professor there, Jim Laurian, said, who's it trying 0:08:07.400 --> 0:08:10.480 to apply these ideas? And Laurie said, well, well, as 0:08:10.480 --> 0:08:13.200 Fargo this group out there. So so Samson I called 0:08:13.240 --> 0:08:16.560 us up and said if this makes a lot of sense, uh, 0:08:16.560 --> 0:08:18.720 why don't we go with it? So that was for 0:08:18.760 --> 0:08:24.360 their pension pension. Really the first a practical index one 0:08:24.440 --> 0:08:27.120 was it just the SMB or what was the index 0:08:27.160 --> 0:08:31.080 based on? It was an equally equally waited index Fonte, Yeah, 0:08:31.120 --> 0:08:33.599 it was kind of That's interesting. Well, you have to 0:08:33.880 --> 0:08:37.479 it's a product of the times, you know, and the 0:08:37.559 --> 0:08:41.880 early seventies. Uh, the people promised all kinds of wild 0:08:42.720 --> 0:08:48.120 performance objectives and and so you're always trying to figure 0:08:48.160 --> 0:08:50.920 out how can you we're using come from the passive 0:08:50.960 --> 0:08:54.480 side of things, how can you create something that has 0:08:54.559 --> 0:08:59.560 a chance of beating the market and by holding equally 0:08:59.600 --> 0:09:03.240 weighted securities instead of the SMP five hundred, which is 0:09:04.160 --> 0:09:11.280 market that that got more the smaller companies and greater 0:09:11.280 --> 0:09:14.440 emphasis to hire beta stock. So and the old joke 0:09:14.640 --> 0:09:18.320 is that the mad desk for alpha often leaves not 0:09:18.400 --> 0:09:20.839 only no alpha, but no beta. Yeah, there you go. 0:09:22.040 --> 0:09:24.439 I'm Barry rid Hult. You're listening to Masters in Business 0:09:24.480 --> 0:09:27.520 on Bloomberg Radio. My special guest today is David Booth. 0:09:28.000 --> 0:09:32.160 He is the co CEO and chairman of Dimensional Fund Advisors, 0:09:32.240 --> 0:09:36.160 a four hundred billion asset management business. And and before 0:09:36.160 --> 0:09:39.800 the break we were talking about, UM, how you founded 0:09:39.840 --> 0:09:44.559 the company, and the company legend is this was begun 0:09:44.679 --> 0:09:47.760 in a brown stone in Brooklyn. Well, that's right, it was. 0:09:48.720 --> 0:09:52.720 I wouldn't say that the idea was destined for success, 0:09:52.720 --> 0:09:55.920 and necessarily it wasn't pretty determined that it will be successful. 0:09:56.000 --> 0:10:00.960 The act the idea we started with was a small company. UH, 0:10:01.040 --> 0:10:06.200 index linked type portfolio. UM. I say index linked type 0:10:06.480 --> 0:10:10.240 because there were no small cap indices, so it's hard 0:10:10.320 --> 0:10:12.200 to was index fund if there's no indices. This was 0:10:12.240 --> 0:10:19.079 pre Russell two thousands around all right, And what's the 0:10:19.160 --> 0:10:21.320 story with the phone company not giving you phone lines? 0:10:21.360 --> 0:10:24.760 They thought you were running a bookie joiners. Well, the 0:10:24.800 --> 0:10:27.720 world wasn't quite ready for a money management firm in 0:10:27.720 --> 0:10:32.160 Brooklyn at the time, back before it became fashionable. Um. 0:10:33.120 --> 0:10:37.760 And so we started with the idea that, uh, there's 0:10:37.760 --> 0:10:40.080 a simple proposition that we went in and talked to 0:10:40.120 --> 0:10:44.440 big institutions about. It was that informing an equity portfolio, 0:10:45.080 --> 0:10:47.600 you ought to have stocks of large companies and small companies. 0:10:48.200 --> 0:10:50.680 He should invest all your money just in large I 0:10:50.720 --> 0:10:54.400 mean makes sense, and it makes sense. Uh. So that 0:10:54.480 --> 0:10:58.360 was the proposition. I'll observe. We didn't have a track record. 0:10:58.480 --> 0:11:02.160 Actually nobody did, because institutions weren't holding the stocks of 0:11:02.200 --> 0:11:06.480 smaller companies in any great proportion. About the only small 0:11:06.679 --> 0:11:10.240 companies stocks they were holding, or stocks of companies that 0:11:10.280 --> 0:11:13.840 once have been big companies. Uh and so so they 0:11:13.840 --> 0:11:16.520 had the odds and the small company exposure. But this 0:11:16.559 --> 0:11:20.920 was the first systematic way of accessing a small cap universe. 0:11:21.400 --> 0:11:24.360 And these were really relative to what the typical pension 0:11:24.400 --> 0:11:27.480 funds or mutual fund was holding. These were really microcaps. 0:11:27.760 --> 0:11:32.400 These were my Yeah, these were um, very small companies. 0:11:32.559 --> 0:11:36.679 But it would you know, it's roughly about uh six 0:11:37.200 --> 0:11:40.280 of the total stocks and that are publicly traded but 0:11:40.480 --> 0:11:44.200 inaggregate they only represent about, you know, five percent of 0:11:44.240 --> 0:11:47.840 the market. Did you run into any special challenges trying 0:11:47.880 --> 0:11:52.160 to either trade these things, find coverage on these companies, 0:11:52.400 --> 0:11:55.800 or the whole idea of microcaps the big pension funds. 0:11:55.840 --> 0:11:59.280 How was it received well? It was received well, but 0:11:59.320 --> 0:12:02.680 there was a lot of opticism. Uh, first off, we 0:12:02.720 --> 0:12:05.880 didn't have a track record, even though nobody did. Ours 0:12:05.920 --> 0:12:09.560 our first portfolio manager and actually I've never managed money before, 0:12:09.920 --> 0:12:12.960 and uh so there were uh the reason but the 0:12:12.960 --> 0:12:16.920 big skepticism was about the trading, the execution that you're 0:12:16.960 --> 0:12:21.400 talking about big wide spreads, big spreads, and we are 0:12:21.400 --> 0:12:23.680 going to the marketplace because we come from the efficient 0:12:23.720 --> 0:12:26.800 market side of things, we come to the marketplace knowing 0:12:26.880 --> 0:12:30.680 we don't have any special information about the company who 0:12:30.679 --> 0:12:35.360 were trading with, largely with institutional investors that think they 0:12:35.360 --> 0:12:39.760 do have special information. So the question and leading academics, 0:12:39.960 --> 0:12:42.600 uh were you know, brought this up. You know, why 0:12:42.640 --> 0:12:45.240 won't you just get skinned going in and trading with 0:12:45.280 --> 0:12:49.520 people that are much more knowledgeable about the companies that 0:12:49.559 --> 0:12:52.520 you're investing in. So so what's the answer to that question? Well, 0:12:52.559 --> 0:12:55.960 we turned what was the problem into kind of an advantage. Uh, 0:12:56.160 --> 0:12:59.440 people that think they have the discounted information realized that 0:12:59.520 --> 0:13:03.360 whatever chill insights they have will not be lasting for long, 0:13:03.880 --> 0:13:07.280 and so there's an anxiety to trade, and that's what 0:13:07.400 --> 0:13:12.000 we worked on. We approached the marketplace basically waiting for 0:13:12.480 --> 0:13:16.880 sellers wanting to come to us. So so you're saying 0:13:16.920 --> 0:13:21.600 patients is actually a virtue for investors. Absolutely, patients and flexibility, 0:13:22.320 --> 0:13:25.800 so uh, and coming to the marketplace, if you can 0:13:25.920 --> 0:13:28.960 get the other person to move first, then uh you 0:13:28.960 --> 0:13:32.079 can Uh you win that particular trade and win that trade. 0:13:32.160 --> 0:13:35.600 We're speaking with David Booth, Coco and chairman of Dimensional Funds. 0:13:35.920 --> 0:13:39.560 Let's talk a little bit about your explosive growth since 0:13:40.880 --> 0:13:44.240 I know in hindsight it looks like a long, gradual process, 0:13:44.280 --> 0:13:46.360 but when you look at some of these numbers. So 0:13:46.360 --> 0:13:50.040 so when you launched the firm in one you essentially 0:13:50.120 --> 0:13:53.240 launched with zero assets, zero assets, right, I began with nothing. 0:13:53.520 --> 0:13:55.640 How long did it take before you were at a 0:13:55.720 --> 0:13:59.760 hundred million dollars? Oh, it was about Well, it took 0:13:59.840 --> 0:14:02.320 us about nine months to get registered with all the 0:14:03.080 --> 0:14:05.800 and come out with it. And the first year I 0:14:05.840 --> 0:14:09.880 think we had something like eighty millions. So it was 0:14:10.200 --> 0:14:11.880 it was about a year and a half, right, I 0:14:11.920 --> 0:14:14.240 go to get und millions. So so here's the numbers 0:14:14.280 --> 0:14:16.720 I came up with, and I tried to look at 0:14:16.760 --> 0:14:19.400 it by decade. So by the time you finished your 0:14:19.400 --> 0:14:24.160 first decade, were up to four billion. By right in 0:14:24.200 --> 0:14:27.960 the peak of the boom, you're thirty billion. Two thousand 0:14:27.960 --> 0:14:30.320 and nine, you're at a hundred and twenty four billion, 0:14:30.880 --> 0:14:34.880 and then around was a little over two hundred billion 0:14:35.240 --> 0:14:38.320 and four hundred billion. Today when you look back at 0:14:38.360 --> 0:14:41.640 the past, you know, forty years, that's the thirty years. 0:14:42.000 --> 0:14:46.680 That's an amazing run of of acid accumulation. Well, it's 0:14:47.440 --> 0:14:51.880 obviously been very fortunate. I think, um, a lot of 0:14:51.880 --> 0:14:54.760 the reason for it is this notion of indexing, and 0:14:54.760 --> 0:14:57.040 and I'm a fan of index and we don't exactly 0:14:57.280 --> 0:15:01.480 do indexing, but indexing is worked very well, and the 0:15:01.520 --> 0:15:06.200 principles of indexing are such that people can stay with it. 0:15:06.720 --> 0:15:10.240 Uh So the idea is that we attract new clients 0:15:10.280 --> 0:15:14.720 coming in, and um, a few clients leave. So let's 0:15:14.760 --> 0:15:17.320 let's describe what you mean by indexing. So there's not 0:15:17.880 --> 0:15:21.240 individual stock picking. I like this management. I like that product. 0:15:21.560 --> 0:15:25.000 It's We're gonna buy a group of stocks with these characteristics, 0:15:25.600 --> 0:15:28.440 and there's no market timing. You're long and fully invested. 0:15:28.480 --> 0:15:31.440 There's no I feel that a ten percent correction is coming, 0:15:31.440 --> 0:15:33.480 so I'm gonna move to the side and pay some 0:15:33.480 --> 0:15:36.640 big taxes. Is none of that. So so you're you're 0:15:36.760 --> 0:15:42.280 essentially about long term broad ownership of equities. Right. The 0:15:42.400 --> 0:15:45.640 key to investing, uh, Well, the first key to investing 0:15:45.760 --> 0:15:48.680 is find a philosophy that you can stick with through 0:15:48.720 --> 0:15:52.360 thick and thin. The reason are const One of the 0:15:52.360 --> 0:15:55.680 reasons they've been so successful, in addition to the we've 0:15:55.680 --> 0:15:58.440 been able to have a performance advantage over index funds. 0:15:58.440 --> 0:16:00.480 But the other main reason they've been they've had a 0:16:00.520 --> 0:16:04.880 good experiences. They were able to stick with the UH 0:16:05.000 --> 0:16:09.400 investment philosophy through that very difficult two thousand seven two 0:16:09.400 --> 0:16:14.640 thousand nine period. We we notice just watching the world 0:16:14.640 --> 0:16:19.040 of investing that the retail investor has a tendency too. 0:16:19.200 --> 0:16:21.560 We call it the flavor of the month. Oh this 0:16:21.600 --> 0:16:23.600 fund manager is doing well this month. Oh look at 0:16:23.600 --> 0:16:26.960 this sector. You clearly you have no interest in that, 0:16:27.000 --> 0:16:28.640 So no innest and that sort of thing. You know. 0:16:28.720 --> 0:16:31.600 There there's been something like seven or billion dollars of 0:16:31.640 --> 0:16:36.200 outflows from US equity mutual funds over the last uh 0:16:36.240 --> 0:16:38.000 since the peak of the market in two thousand and seven. 0:16:38.440 --> 0:16:42.040 That's that's a huge outflow. Yeah, we're every year we've 0:16:42.080 --> 0:16:47.520 had positive flows because people can understand the process. They 0:16:47.560 --> 0:16:51.000 realize basically we're we go up and down with the markets, 0:16:51.360 --> 0:16:53.160 and it shouldn't come as a surprise at every now 0:16:53.160 --> 0:16:55.920 and then there's a down market in the last thirty 0:16:55.960 --> 0:17:00.400 seconds we have. How is the firm managing this phenomenal growth? 0:17:00.440 --> 0:17:04.320 What's your secret to staying true to your your principles 0:17:04.640 --> 0:17:07.120 when money is just flowing in the doors like that, Well, 0:17:07.200 --> 0:17:12.000 it's it's operating extremely efficiently efficiently. I'm Barry Ritult. You're 0:17:12.040 --> 0:17:15.040 listening to Masters in Business on Bloomberg Radio. My special 0:17:15.080 --> 0:17:18.840 guest today is David Booth. He is the chairman and 0:17:19.000 --> 0:17:23.359 co CEO of Dimensional Funds Advisors. And let's talk a 0:17:23.400 --> 0:17:26.560 little bit about this quote from mc McGowan, who you 0:17:26.600 --> 0:17:29.480 worked with earlier in your career. We were talking about 0:17:29.520 --> 0:17:33.639 that before at Wells Fargo. McGowan said, it's all thanks 0:17:33.680 --> 0:17:37.800 to Jim Laurie, Gene Farma and Martin Miller. What does 0:17:37.840 --> 0:17:42.560 that mean, well, these are the key people and and 0:17:42.560 --> 0:17:45.640 and developing the finance department of the University of Chicago. 0:17:46.160 --> 0:17:50.479 Going back to the mid fifties, Jim Laurie was an 0:17:50.520 --> 0:17:53.720 associate dean or assistant team of the Business School, and 0:17:53.760 --> 0:17:58.000 he realized that the field of finance was changing rapidly 0:17:58.400 --> 0:18:00.680 and they needed to bring in some of these new 0:18:00.760 --> 0:18:06.879 young hot turks two h power up the school and 0:18:07.040 --> 0:18:12.280 the first personally brought in was Merton Miller. UM. Merton 0:18:12.359 --> 0:18:15.679 Miller eventually got his Nobel Prize for his work on 0:18:15.760 --> 0:18:21.119 capital structure cost capital H and one of Merton Miller's 0:18:21.080 --> 0:18:25.600 students was Gene Fama. And Gene's he mentioned they got 0:18:25.640 --> 0:18:30.359 his Nobel Prize for his work and market efficiency. Ah. 0:18:30.480 --> 0:18:35.640 So they were the uh. They really not only helped 0:18:35.680 --> 0:18:41.280 determine the um the path that Chicago took, but they 0:18:41.320 --> 0:18:46.199 also Miller and Fama really set the established the culture 0:18:46.200 --> 0:18:51.320 of the place, UH, which is been an amazing, amazingly 0:18:51.400 --> 0:18:56.639 productive school for economics and finance over the last you know, 0:18:56.720 --> 0:19:01.800 forty years. Who else were your early mentors, Well, I 0:19:01.840 --> 0:19:06.000 mean the UH may you have to go back to 0:19:06.080 --> 0:19:09.040 before business school, I guess for mentors, big mentors are 0:19:09.160 --> 0:19:16.320 are Fama and McQuown. You know they Fama, um, you know, 0:19:16.600 --> 0:19:19.639 taught me all the basics of investing, and they and 0:19:19.760 --> 0:19:24.320 gave me the capability of reading, you know, uh, academic 0:19:24.560 --> 0:19:27.600 research even today. And do you still read a lot 0:19:27.600 --> 0:19:30.359 of academic research today? I wouldn't say a lot. I 0:19:30.600 --> 0:19:34.000 kind of cheat a bit. I wait for Fama or 0:19:34.160 --> 0:19:37.840 Ken French or Bob Marton to pass along what they 0:19:37.840 --> 0:19:41.159 think is good research, and then I cherry pick. You 0:19:41.200 --> 0:19:45.160 could do worse with those three as curators. Yeah. So, 0:19:45.160 --> 0:19:50.600 so you were also Eugene Farmer's assistant research assistant. What 0:19:51.000 --> 0:19:53.120 was it like working with him? Well, it was amazing. 0:19:53.359 --> 0:19:58.120 First off, he's uh uh still you know, just works 0:19:58.160 --> 0:20:02.040 incredibly hard seven days really. Yeah. In fact, there's a 0:20:02.440 --> 0:20:06.359 one of my favorite stories is uh uh about Fama 0:20:06.400 --> 0:20:10.440 and his colleague Ken French. Over the last thirty years 0:20:10.480 --> 0:20:15.160 or so, uh, Fama and French have collaborated on numerous 0:20:15.240 --> 0:20:18.480 landmark papers, and they're worked together all the time. Ken's 0:20:18.520 --> 0:20:23.200 and at Dartmouth Tough School Business and and uh Jeans 0:20:23.200 --> 0:20:27.359 at Chicago. So one day they're they're they're having a 0:20:27.440 --> 0:20:31.760 conversation and Jean notices that Ken is not being too responsive. 0:20:32.280 --> 0:20:35.800 So he says, well, Ken, what's going on today? And 0:20:35.880 --> 0:20:40.840 Ken says, Jean, it's Christmas. I mean he's Uh, it's 0:20:40.920 --> 0:20:43.760 a work like that that, uh, you know as as 0:20:44.000 --> 0:20:47.359 enabled those guys to succeed. So so as long as 0:20:47.400 --> 0:20:50.040 you bring up Ken French, let's talk about the French 0:20:50.119 --> 0:20:54.479 FAMA or the Fama French three factor model. Why was 0:20:54.520 --> 0:20:57.440 that such a breakthrough? And and for listeners who may 0:20:57.480 --> 0:21:00.320 not be familiar with it, it's essentially the kind sept 0:21:00.359 --> 0:21:04.560 of looking at market beta plus the small cap premium 0:21:04.880 --> 0:21:09.440 plus the advantage one gets by valuing value stocks over other, 0:21:09.800 --> 0:21:13.400 let's say, more expensive stocks. Um, why was that such 0:21:13.440 --> 0:21:19.000 a huge breakthrough? Well, um, you know investing inequities. Um, 0:21:19.040 --> 0:21:22.080 you know, there involves many different types of risks that 0:21:22.520 --> 0:21:24.840 most of which will ever be able to identify exactly. 0:21:24.880 --> 0:21:28.760 But uh, a lot of many different kinds of risk. Well. Uh, 0:21:28.800 --> 0:21:31.600 the model until Farmer French came along, the model that 0:21:31.880 --> 0:21:35.320 all eating academics used to do research was just a 0:21:35.359 --> 0:21:41.160 single factor model beta. And it was a great model, 0:21:41.240 --> 0:21:44.480 elegant theory. It had one drawback and that it never 0:21:44.520 --> 0:21:49.160 described reality. So they could and we have a saying 0:21:49.200 --> 0:21:51.520 that you know, if you torture the data enough, you 0:21:51.520 --> 0:21:54.560 can get it confess to anything. But as much as 0:21:54.760 --> 0:21:59.040 uh they tortured the data they could could they could 0:21:59.040 --> 0:22:02.879 never get I beta stocks that have systematically have higher 0:22:03.280 --> 0:22:07.320 average returns than low beta stocks. So this what Foman 0:22:07.359 --> 0:22:09.919 French did was actually pull together a lot of research 0:22:09.960 --> 0:22:12.480 have been going on over about a twenty year period, 0:22:12.640 --> 0:22:16.479 and UM concluded that they have a simple three factor 0:22:16.520 --> 0:22:19.000 model instead of one that seemed and that did a 0:22:19.080 --> 0:22:23.920 much better job of of describing, you know, why one 0:22:23.960 --> 0:22:26.879 portfolio as a higher average returned than another. So in 0:22:26.920 --> 0:22:30.680 the last thirty seconds we have in this segment, everybody 0:22:30.720 --> 0:22:33.960 now understands the small capt premium, the value premium. Why 0:22:34.080 --> 0:22:38.000 haven't these been arbitraged away? Why do they still persist? Well, 0:22:37.840 --> 0:22:40.120 we think of these as being risk premium, and we've 0:22:40.160 --> 0:22:42.399 known for years that stocks have higher average returns than 0:22:42.800 --> 0:22:45.879 the money market funds on average, but that and that 0:22:45.960 --> 0:22:49.680 hasn't caused the premium to disappear. I'm Barry, which helps 0:22:49.720 --> 0:22:52.359 you listening to Masters in Business on Bloomberg Radio. My 0:22:52.440 --> 0:22:54.760 special guest today and I know I say that every week, 0:22:54.760 --> 0:22:57.520 but I really mean it. My special guest this week 0:22:57.640 --> 0:23:00.639 is David Booth. He is the founder, chair in and 0:23:00.840 --> 0:23:05.680 co CEO of Dimensional Fund Advisors with about four billion 0:23:05.720 --> 0:23:09.080 in asset under management. Let's talk a little bit about 0:23:09.119 --> 0:23:11.960 the rise of indexing. You you hinted at that in 0:23:12.000 --> 0:23:17.080 the last segment, but this is really very very significant. UM, 0:23:17.160 --> 0:23:19.080 let's begin with what you guys do it. I know 0:23:19.119 --> 0:23:20.840 you don't love d f A, but I always hear 0:23:20.960 --> 0:23:24.159 d f A as opposed to dimensional people. That's the 0:23:24.440 --> 0:23:29.960 shorthand people use. What does dimensional funds do with their 0:23:30.000 --> 0:23:35.320 indexing that's so significantly different from the typical plane vanilla 0:23:35.400 --> 0:23:38.879 market cap weighted index. Well, the underlying premise of of 0:23:38.960 --> 0:23:43.359 the firm around around which we started is that indexing 0:23:43.520 --> 0:23:46.720 is UH is terrific and I think people benefit a 0:23:46.760 --> 0:23:52.760 lot buy it. It's also a relatively mechanical strategy. If 0:23:53.200 --> 0:23:54.840 if a stock goes out of an index, you have 0:23:54.880 --> 0:23:58.399 to sell it. If if a stock comes into an index, 0:23:58.480 --> 0:24:00.400 you have to buy it, and you have to buy 0:24:00.440 --> 0:24:04.119 it on the days it comes and goes. So that's UH. 0:24:04.840 --> 0:24:07.800 That never appealed to us because we thought that mechanical 0:24:07.840 --> 0:24:13.080 approaches UH in terms of generating trading costs, it makes 0:24:13.080 --> 0:24:15.919 them very expensive to trade. You know when you have 0:24:15.960 --> 0:24:20.120 to trade relatively mechanically. And so what about the dimensions 0:24:20.119 --> 0:24:22.800 When we talk about demend dimensional, we're really talking about 0:24:22.800 --> 0:24:28.399 dimensions which began with small small cap then added value. 0:24:28.520 --> 0:24:30.919 What does the dimensions due to the return of of 0:24:30.960 --> 0:24:34.119 the index? Well there there. The notion of dimensionality is 0:24:34.160 --> 0:24:39.400 that there are some factors that can uh uh lead 0:24:39.440 --> 0:24:41.920 to higher average returns in the market than just buying 0:24:41.920 --> 0:24:45.879 the overall market. If you start with an index fund 0:24:46.680 --> 0:24:49.800 and you decide, well, why don't I give a little 0:24:49.840 --> 0:24:53.080 great greater weight to the smaller companies, and why don't 0:24:53.119 --> 0:24:56.040 I give a little bit of greater weight to the 0:24:56.080 --> 0:25:01.119 lower price stocks, uh with correspondingly, us wait to higher 0:25:01.160 --> 0:25:04.320 price stocks and bigger companies. That's a really that's the 0:25:04.359 --> 0:25:08.200 notion of dimensionality. It's just it's not if you think 0:25:08.200 --> 0:25:11.600