Index Funds May Work a Little Too Well
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I know that companies don't necessarily benefit directly from an increasing stock price, but in reality it allows them to raise capital by issuing new shares with less dilution. Also it makes it costlier for smaller competitors to raise capital, crowding out competition. At the end of the day, the "antitrust" question is not about Apple v. Microsoft... it is moving more in the direction of "Apple & Microsoft" vs. anyone trying to claw and scrape their way into the game.
That's really the point: An unsophisticated investor should go with index funds over the alternatives. To beat the market regularly, you need non-public information or insight, and the market is large enough that having said insight consistently is something limited to the highly connected.
Your argument against index funds, from a market perspective, is really more about putting all that money in large cap indices. Taking index funds to their conclusion, the ideal situation would be to use broader indices. Startups will still have to deal with venture capitalists, but that's for good reason: High risk, high reward investments aren't exactly what your typical index fund investor is interested in.
I'm not really against index funds per se, I actually think they are a great way to invest if you identify a trend in a particular sector. And truthfully, I'm far from a trained financial expert, I'm just some dumb hacker that is rubbed the wrong way by the type of advice I outlined in my above comment.
Most retirement accounts also don't allow individual stock purchases (at least mine doesn't), so the options are fairly limited for most people.
Imagine I start a company and I get my friends to buy up the shares of it on the stock market. Now imagine the market cap is $10m the day before it joins the Russell 5000. The next day a seperate company goes bankrupt and my company is now 1/100000 of the Russell 5000, which means that ETFs that track that index are now buying roughly 20% of my stock, which raises the price to $15m. Next my friends can slowly sell out for the amount that they pumped, but they will never trigger a mass sell off, because I always had a controlling stake from the beginning.
Your big swings in share price are still going to be driven by HFT algo traders, activist investors, hedge funds, etc.
I do agree that companies in the S&P 500 have an oversized advantage in raising capital, but if you remove index funds from the picture, I think the mere existence of the index would have a similar effect (this could be researched historically, but I don't have the time/interest to do so). On the flip side, any stock in the S&P is going to have limited arbitrage opportunity due to the level of liquidity they get from index fund rebalancing, etc.; so algo traders looking at specific plays may want to find an asset with lower liquidity and fewer eyes watching it. As with anything in finance, there is a play available on both sides of the field and they tend to balance each other out.
HFT affect and take advantage of minor price swings[2], and their arbitrage is based on this. Long-term investments are the primary driver of (hence) long-term price movements. After all, HFT, by definition, have no long term interests in issues, so they are (usually) equally weighted in either (long or short) direction, thus cancelling their long-term effects out, even in a situation where there are no long-term investors.
1. This pertains your comment regarding HFT. Activist investors, which you also mentioned, are just long-term investors with a marketing strategy (put your money into something and then go tell everyone), and in some cases a lobbying strategy (e.g., Bill Ackman's notable short of HLF), and they have no place being compared with HFT.
2. It is true that, sometimes, minor price swings can cause a crossing of a tipping point (e.g., below a prior price support level, etc.), but even in these cases the long-term price will adjust for these swings based on intrinsic value.
http://www.bloombergview.com/articles/2015-07-07/can-you-rea...
Essentially, if the "front-runners" (not really a correct term, since nothing illegal is going on) weren't doing this, then the index funds would have to pay a huge premium to buy large amounts of stock on extremely short notice. The "front-runners" are actually reducing the index fund's overhead costs (and, yes, being compensated by the market for doing it). They certainly aren't cheating the index fund investors out of anything, because their investments will track the market, regardless.
I know for sure though that there are fast-money guys who obsess daily about weighting momentum and turning points and they do well quite consistently.
These are exactly the things that you generally minimize by buying an ETF (although obviously everything is in the same asset class by definition).
Mutual funds have their place (large, pooled plans like 401ks where there's enough money involved that fees can be negotiated come to mind); but they're probably not the best option for an individual investor. I always recommend newbie investors put most of their equity holdings in an S&P ETF for this reason; the returns on a mutual fund may be slightly higher in good years, but they'll almost always be worse in bad years.
My money (as a student that's not much) is invested in a fund that tracks the MSCI All Country World Index, which was the most diversified Index fund I could find.
I wouldn't call it a free lunch though. Very much the opposite. You're investing in the global market portfolio in order to avoid a potentially costly lunch (i.e. fees, trading costs, not keeping up with the market return, etc... I've stretched this analogy too far, I know)
With respect to US equities, the S&P 500 and the Russell 4000 have performed fairly similarly over the past 5 years; which has performed better depends on the time period you look at. The NASDAQ has been a little bit higher overall but, of course, it also had a bigger drop if you look at a longer horizon.
The upside of diversification is that your return simply get closer to the mean as opposed to varying wildly as it would if invested in a single company's stock. You basically get increased predictability at no cost.
Also, by all accounts the US (and specifically New York) is the financial center of the world. This is why the IRS has such immense power -- they can come after anyone, anywhere because a global bank simply cannot operate without a good relationship with US regulators.
More seriously, London may well be the banking center of the world, but NYC is most definitely the financial center.
No, it's definitely not. OP thinks that the argument for index funds "ignores transaction costs" when that's pretty much the entire crux of the argument: if a mutual fund won't do much better than an index fund, you should go with an index fund as it has substantially less costs.
That's exactly why mutual funds underperform. Given the EMH, it makes more sense not to spend so much time on 'asset management' like that.
If you believe the S&P is overvalued because too many people index to it, you can invest in broader index funds and, if you're correct, yield a higher return.
The question is: how much are you willing to bet on it?
P.S. In case you are wondering, I have bet a significant amount of money on the EMH being correct.
Also I'm not saying that the phenomenon in my above comment is something would be an efficient use of money to trade. Personally I'd much rather look at out-of-favor sectors like commodities than try to pick up pennies in front of a steamroller by attempting to arbitrage the S&P 500 and S&P 501+ (as you put it)
In any case, thanks for your comment it does give some important food for thought
Read what he wrote: he stated that if you believe what you wrote, you can collect the spread by shorting side you claim underperforms, and going long on the side you claim outperforms.
If what you said is true, it's extraordinarily low-risk arbitrage.
If what you said is false, you're best served to say a bunch of bullshit that 's unrelated and then not make the trade.
Oh... I see... so you know you're full of shit.
But if it makes you feel good to swear at strangers on the internet, you can sign up for anonymous accounts and say I'm full of shit, and I'll be glad that I could help boost your self esteem.
You can buy far out of the money options to limit those.
A better strategy would be to underweight S&P500, and overweight the companies that are the closest to being included.
My first response was intended more as a rhetorical question asking whether the poster is actually willing to bet money on their idea. I never really meant to enter into a discussion on the pros and cons of various trading strategies.
My point is just that seeing if someone is putting money behind their opinions about the long term isn't really telling, because "markets can remain irrational longer than you can remain solvent" and you may not know just how long term it'll be.
I'll assume that you meant the opposite of this quote (, that the stocks being short-sold beat expectations, and their fair value went up,) as what you said would benefit the short seller.
You are right that the stock could take longer than expected to reach its eventual (lower) value, but this is why you would bet on a large number of stocks (i.e. S&P500), to reduce the risk of a single or few adverse events cancelling out the strategy. In addition, by purchasing the S&P501-750, with the money from short-selling, you would be fairly well protected against market upside risk (as it is unlikely that the S&P500 will be the only stocks to do well in a bull market). You could also purchase options to reduce the risk of the short, but a (simpler) alternative would be to take out a put option on the S&P500, which the better believes will go down; this is obviously somewhere between the portfolio bias approach, and the short approach in terms of risk (and reward if you believe in EMH).
I have bet a significant amount
of money on the EMH being correct.
Or, rely on EMH and just buy the index.
How is your bet structured and can you explain your opinion?
In light of that, I find it very hard to believe that a huge valuation discontinuity right between company # 500 and company # 501 is likely to stand for long.
Which isn't to say that I necessarily think the EMH is correct, but I do think even if EMH is incorrect there's still plenty of reason to believe that any major market distortion created by something as obvious as the popularity of index funds is unlikely to stand for long.
The Quantum Fund (started by Jim Rogers and George Soros) had a 3365% return in the 70's, while the S&P 500 returned 47% (http://www.streetstories.com/James_Rogers.htm). Rogers also bet against Black Monday in 1987, wrote about the housing bubble and 2008 financial crisis as early as 2004 in his book "Hot Commodities", and called the collapse of the gold price in 2012 as well as the recent epic dollar rally.
"Why do you think the same five guys make it to the final table of the World Series of Poker EVERY YEAR? What, are they the luckiest guys in Las Vegas?" (http://www.imdb.com/title/tt0128442/quotes?item=qt0379517)
You could be right and my understanding of EMH might be off base... but if all information was "priced in" I can't understand how such individuals could consistently be "right" when the broader market is "wrong".
Go is a popular strategy game. Strategies that work should be encoded into computer algorithms and "priced out". Yet computers can't beat the best human Go players. Are the best human Go players simply lucky: they have no true strategy, and it's chance when they win?
(Hint: not every strategy is easily encoded into a deterministic algorithm. Expert human insight and judgment, that finicky beast, is not yet replicable by machines.)
He takes a large enough position to have considerable influence over how his companies are run. That kind of clout isn't available to most of us.
Berkshire Hathaway has not beaten the market since before 2008[1], marking 8 solid years of alpha=0.
2) Nobody -ever- has said that an 'unregulated free market produces a level playing field and a meritocracy'
The facts are that a regulated and controlled market with freedom of economic action produces the best outcomes for a population as a whole, when measured in life expectancy, social mobility and and even environmental cleanliness. Every other system that has been tried produces far worse outcomes across all these measures.
There's a persistent adolescent thought pattern running these days which says something like 'free market? Huh? Where's my lamborghini? I got nuthin' but student debt and no job'
This kind of thinking should be avoided in order to make progress on the topic.
It seems like with a few, inexpensive tweaks, it wouldn't be too difficult to beat the index.
The numbers are even worse if it's in a taxable account. That means you need to beat both the management fee and the taxes because you'll end up paying taxes for all the turnover too.
The main differences between an index fund and active management is indexers reveal their portfolios and don't trade as much.
There's also the idea that index investing "should" be considered illegal because of the possible antitrust issues.
Also, the rise of index investing puts more favor to stock buybacks/dividends as opposed to reinvestment. The idea being (as an example) that the index would rather take Coke's profits and redirect to a smaller higher-growth-potential company (or even spread it out more evenly among all holdings). However, if no index investing, perhaps investors would be more willing to "ride it out" with Coke reinvesting a lot more profits back into the business (maybe the don't own Pepsi, or other soft-drink companies and want to see them all get demolished).
Which is arguably a good thing. Let's say that Coke has 60% of the market and Pepsi has 40% of the market. If Coke's investors are separate from Pepsi's investors, then it would be in their interests to take a tactic that kills Pepsi and allocates half of its market share to Coke and the other half goes up in smoke to a smaller overall market -- now Coke is half again as big as it was! But the industry is smaller.
That said, I'm not sure that realistically, market-decreasing tactics really exist in most cases -- I can't think of a real world example.
The collusion argument is certainly interesting.
Yes, I know some of these have probably bought others of these, I'm not up on food industry M&A
In other words, it is far too complex. In Brazil, for example, a major competitor of Pepsi and Coke on the at-home segment if fruit sellers on traffic lights. People can buy a bag of oranges for a buck or so, and make a lot of healthy juice out of it, instead of spending 5X for a sugary drink.
And if there's opportunity to invest in companies which are undervalued due to being out of indexes, believe me, there will be plenty of people doing it.
(Or, in other words, hypothetically as a high-level investors, you'd want indices that track needs, not particular fulfillment thereof.)
That's the beauty of ETFs, there is a massive number to pick and choose from, representing so many different sectors of the economy.
Generally, executives get compensated in stock in some way in their company. So the Coke C-Suite is motivated to compete with the Pepsi C-Suite even if the board members are the same for both companies.
Not only this, but if you attend the earnings calls for corporations in the same sector (or even better, if you're lucky enough to attend one of their investor & analyst days), you'll see firsthand how the analysts are wined & dined, and how closely everyone knows everybody else. It's a big game that creates a ton of wealth at the top -- as long as the status quo is roughly maintained and change is incremental.
Regulatory capture should have a management capture analog. ;)
What do you mean? Of the Coke/Pepsi type market? Giants whacking away at each other?
If you are looking more broadly - the 'market decreasing tactics' is one aspect of what the innovator's dilemma is about. One of my favorite VC types, likes to invest in companies that fill the following thesis: "AcmeCo is a new entrant, with some cool tools, into an aging $50B (or whatever) / year industry. When AcmeCo is done lighting a neutron bomb in the industry and the dust settles, it is now a $5B industry, and AcmeCo is the last man standing with 60%+ market share."
> The collusion argument is certainly interesting.
That it is. I had not come across some of the structure of the argumentation in this article before.
The appeal of an index fund is that it mechanically tracks an index so costs are very very low and investors can track the market as closely as possible.
When a company enters/leaves the index the fund is tracking, the fund has to buy/sell their shares.
The 'wonder' of compounding interest?
It's merely the monetary representation of the return on investment in productive activities and assets. The reason money has a cost is because it can be converted into useful, productive activities, so the holder needs to be compensated for that.
The 'wonder' is how animal herds and horticulural products increase enough in quantity to feed us all.
Building a shelter over your head is compounding interest at work. You sleep better, stay healthier and have more time to do other things. Same goes for a knife or a spear, or a factory or a computer.
I find it incredibly odd that we have people running around saying 'we have to stop growth' 'growth is bad'. Yet, on all measurable criteria - every single one of them - things keep getting better. This is because of the compouding effect of investment in knowledge and productive capacity.
I'm not sure where the growth-hate comes from, if it is ignorance or just some sort of strange moral fashion to hate on the modern world. Either way, a class of people have convinced themselves that - of the entire trajectory of growth from nomadic paleoithic peoples to now - it's right at this point the wheels are about to fall off. Strikes me as a little narcissistic, really.
I'm a programmer who sometimes reads about economics and economics history. I've also worked in some finance-related industry for a couple of years early in my career (in the IT department).
> This is because of the compouding effect of investment in knowledge and productive capacity.
Yes, I know how compound interest presently works, I was just questioning its long-term (think 50-to-100 years, if not more) viability. To give an example which I stole from people smarter than me, just think that if you had invested your pension money on the Russian stock market in the 1910s or on the Chinese stock market in the 1930s you would most probably be bust (to say nothing of nationalizations and confiscations of private real estate). And these are two pretty big examples which happened in the last 100 years.
The idea that the return on the rate on investment on the long term can only go down I've stolen from Jean-Baptiste Say, who wrote it down in the ~1820s. Now, he just happened to write this before the Industrial Revolution started doing its thing and, just as important, before economic colonialism started to positively influence the Western economies of that time (think the Opium Wars). Now, you're saying that we'll be able to somehow reproduce that Industrial Revolution a second time, I question that optimism.
> I'm not sure where the growth-hate comes from
I'm not at all "hating growth" (even though I believe that we should be well aware of its downsides). I'm just saying that it's no good making only positive economic projections about the future, we're not magicians and crystal balls are just that, pieces of glass.
It's easy to look at a particular assets class - say railways- and show zero return over a long period. But looking at all improvements across all industries shows growth is always coming from breakthroughs somewhere. Healthcare, rocket science, these are two major fields wher rapid change is evident, even if it is of the incremental kind.
I think you've mixed up the concept of compounding interest and specific assets classes ability to return positive and withstand time. They are really two separate topics.
But we are soon to hit a point where capital will be used to buy power directly thanks to advances in AI and robotics. We may never again have another cycle like you describe.
If you want to know the probable outcome of an Intelligent Capital vs. The People fight, just look how a big company defends its computer network against targeted hackers today.
The last part of my comment is related to the fact that "index tracking" and all the related "investment strategies" rely on the assumption that, over all, things will only go up, i.e. ROI will always be positive. I questioned that assumption. We cannot guarantee that in 30 years' time (let's say) we will still be able to return 3-5% on our huge piles of pension funds' money, no matter the strategy. What I'm saying is that we should be prepared for a stagnating or even deflationary world, financially and economically speaking
EDIT: But yes, we don't know whether one can assume "The S&P500 will average 10% per year for EVARRRRR!!!1".
I'm serious. If the overall economy is "stagnating or even deflationary" for any significant period of time, all of the wheels are going to come off.
(Really want a dark thought? You realize that we've dug up and used all of the easily-available oil, right? When Some Later Generation Gets Its Act Together, they aren't going to have a convenient, cheap source of energy.)
What an index fund does guarantee is that holders of the fund will do better than the average of the "active" investors, who try to pick and choose the best stocks in the index (which for a broad index is basically "the market"). This is because the active investors, as a whole, receive the "market return", but they do so only after investing resources in researching the companies (which index funds don't do) and because the active investors trade a lot, relative to the index fund, so the active investors incur much greater transaction costs. An index gets the market return, but without incurring the costs active investors do, so the index is certain to have a better net return than the average of all active investors. This doesn't mean that index funds are "a wonderful thing that can never go wrong". It's certainly possible for the market to tank, in which case it's little solace for index fund holders that they beat the performance of the average active investor.
Plenty of nuclear fuel still around, on earth (uranium, thorium, hydrogen) and in the sun (solar power, wind, etc).
And as for cheap energy - there are plenty more, better sources than oil.
How would you read a DVD without a player? Can you rebuild the player, without specs? Can you rebuild the filesystem, or the decoding?
There is plenty of cheap energy that isn't oil--unfortunately, the exploitation of it without oil reserves to bootstrap with may prove impossible. That's the point being made here.
But yes that's not a disaster-friendly method.
Well, also, the printing press was invented a long time ago, so we actually have loads and loads of dead-tree copies of the really important stuff.
Scenario: you're living in a medieval village. Project: build a thorium reactor. Step one: ???
The only properly cited textual evidence offered is a series of denials by Elhauge that he ever said index funds are illegal.
Levine has been writing about this for months in articles with linkbait titles like: "Should Mutual Funds Be Illegal?" (http://www.bloombergview.com/articles/2015-04-16/should-mutu...) and "Labor Department Wants to Tweak Your Retirement Plan" (http://www.bloombergview.com/articles/2015-04-15/labor-depar...)
It seems like Levine has an axe to grind with regulators, and doesn't want anyone to talk about research that might suggest regulation. He might be right, but he is making a crappy argument.
EDIT: Ok, I stand corrected. Elhauge totally said that. It's in the abstract. I had trouble finding it because Levine cited himself instead of the paper at the end of that that paragraph. Sorry.
No. Modern mixed economies, which have replaced capitalism as the dominant system of the developed world since capitalism was described in the 19th Century, are based on incorporating the features of capitalism that tend toward monopoly, but incorporating other features to impair the development of some monopolies and restrict the adverse impacts of other monopolies.
Capitalism itself does nothing to control monopolies.
As much influence as Google has on internet searches, they could relatively easily be displaced by something better and worth moving to, for example. I've tried DDG, Bing and others, and their products aren't really better, so Google it is. When there are actual consumer costs involved, this becomes a bit more flexible...
As an example, unlike "Demolition Man" I can't really conceive of any chain/restaurant actually controlling all of them, so long as allowing for competition is ensured... However, given ever increasing interpretations of IP protection, I could see the likes of ConAgra actually becoming a controlling factor in all restaurants, more than it already is. This is a case where protectionism is counter to a free market though. IP protections are supposed to be "limited" but are increasingly less so, which makes things worse for society.
Nobody really wants true anarchy, but we've been headed towards so many constraints, that I wouldn't call what we have in corporatism anything resembling free market capitalism, even with natural monopolies.
For example, if a monopoly in airlines leads to prohibitively expensive plane tickets, then competition from bus lines will serve as a control, and the monopoly for "all transportation types" will be reduced. Unless of course you have the airlines buying out the bus lines. But even in that case, there is a limit to how much they can charge because a new firm can enter and make a new capital investment in that industry. So at most, the monopolist can charge whatever rate would make it prohibitively expensive to enter that industry.
Or you could just hire a hitman. There's no concept of "fair play" in the "physical order of nature".
That's great. So your are writing free puts to my startups' equity?
Ie after you buy me out, I can go and start a new company, threatening to compete again.
Article thesis is that funds go around that limit. Not even on purpose, just by their definition. No single company has monopoly but index funds collectively own all of them.
For all the pearl-clutching that goes on about monopolies, you'd think people would twig onto the risks in letting the size of the government grow to such a point where granting favoured friends monopolies is not only possible, but simple to do.
Actual monopolies in real fields are very rare and very fleeting due to competition in the same product lines or substitutes. A monopoly is very difficult to hold without the use of force, and governments are the only legalised users of force.
It is usually a waste of resources to try and break up what are seen as 'monopolies'.
Incentives drive swings between consolidation and fragmentation, because individuals believe they can profit from being different from the status quo.
[1] http://pricetheory.uchicago.edu/levitt/Papers/LevittUsingRep...
It's a 1994 article and the research didn't stop in 1994. There are quite a few after-1994 articles supporting either view.
"if you have evidence that elections can be bought"
Influenced. Here's an example one from 2004:
http://karlan.yale.edu/fieldexperiments/papers/00246.pdf
TLDR: authors designed and performed some actual experiments whose outcomes support the thesis that campaign spending works - better for a challenger than for an incumbent.
I claim this is the right result. We should discourage competition where everyone ends off worse, and encourage competition otherwise. Individuals competing do things like dump goods below cost to bankrupt smaller competitors; an index would perhaps not do that.
Although Pepsi and Coke may be indexed, they aren't the same entity allowing investors to just own one. If there's some action that Pepsi could take that would massively reallocate the pie in it's favor (by winning over consumer for instance), then investors ought to start massing to it and becoming more activist. This would come at the expense of the index of course.
So really as long as there's easy 'severability' of the companies in the index, they shouldn't be overtly monopolistic.
But I agree in industries with high capital requirements (energy, biotech, etc.) it may be impossible to separate out the companies and then they would be de facto merged.
This really is an interesting idea because a solution seems hard to find. Outright banning indexing would be nearly impossible to enforce (large pension funds could reproduce the index at a slighter higher cost).
Only if the industry has a low barrier to entry.
"[Elhauge:] 'Fourth, if index funds alone would create a problem of anticompetitive horizontal shareholding in a concentrated market, and those index funds feel the benefits of diversification across all firms in that market exceed the benefits of influencing corporate governance, they could commit not to communicate with management or vote their shares.'"
I believe that is the case now: index funds don't vote or attempt to influence management (at least I've never heard of it). Also, each individual fund is limited in the proportion of an individual company it can own, but that limit does not apply to the total sum of index funds.
"If you think that institutional investors are causing managers to stop competing, there are more plausible mechanisms for that than voting. Just leaving managers alone, for instance, probably itself tends toward anti-competitiveness: If shareholders don't pester management, they will probably compete less hard, just because that is easier. 'Voting with their feet' is another: If shareholders invest indifferently in both the best and the fourth-best firm in an industry, that will keep up the fourth-best firm's stock price and lower the best's, reducing incentives to be the best. Or there is just fiduciary duty: Managers may want to do what's in their shareholders' best interests because that is what they are supposed to be doing. Even if the shareholders don't actively force them to."
In fact, as I understand it, index investing is just an end-spectrum case of institutional investing in general, and "Posner and Weyl blame institutional investors for income inequality. Elhauge blames them for runaway executive pay, and for the rise in corporate profits unaccompanied by economic growth and investment."
Runaway executive pay, for example, seems to be a consequence of interlocking executive roles: the manager of this company is a director of that, and vice-versa, resulting in a positive feedback loop.
I am, and have been for a long time, a major index investor; a big chunk of my portfolio is in various indexes. But it's already the case that a good way to get an extra boost is to buy the shares of a company just before it enters the S&P500. If the indices are having effects in the other direction, there may be problems in store.
How about this for a universal law?
Nothing in economics is an unbalanced positive.
If we model the market as a prisoner's dilemma where a lawyer is deciding whether their client should defect or not, mutual defection is the normal Nash equilibrium. But if both lawyers are representing the same client then cooperation becomes the dominant strategy: regardless of what the other lawyer does (cooperate-defect and cooperate-cooperate both have higher total payoffs than defect-defect).
Notably, this mechanism is entirely passive: it requires no communication between managers or even managers and their investors. Merely knowing that my investors are also investors in my biggest competitor would make "cooperation" the dominant strategy without requiring any conscious collusion.
Taken to the extreme, this actually undermines the entire free market: every manager in a 2+ place firm would have a fiduciary responsibility to drive their company out of business so that the first place firm could enjoy monopolist profits (and thus maximize their shared investor's total return).
Show me the institutional investor that owns 30% of American, 30% of Delta, 30% of Southwest, and 30% of United. [1] If this is the case, then yes we have a problem. The manager of this fund has a major incentive to have these 4 major firms collude and price gouge its customers, as competition among the firms would minimize profit for the index fund. It would major shares of the companies that own the entire market. I think it's safe to say that this institutional investor doesn't exist.
Which concentrated group of 3-4 (oligarchy) institutional investors own a combined 50% of American, 50% of Delta, 50% of Southwest, and 50% of United?
If this is the case, then yes, we have a problem. Collusion will occur between these funds, who will agree to use their voting/management rights to collude at the airline level, as they own the companies that own the market.
We're usually used to seeing collusion between the CEO's and boards of major companies in concentrated markets because we tend to think of these people as the people who profit the most from price gouging. Antitrust lawsuits against AT&T, Kodak, Standard Oil - these are all pretty concrete examples of collusion from brands that we (used to) interface with. [2]
Now we could be seeing collusion abstracted one layer - the owners/shareholders are institutional investors who don't have a well-known brand. Which institutional investors specifically should we be worried about? Unlike AT&T + Verizon, I don't interface directly with any of them, so I'm not sure which firms I should be concerned about.
Where's the data?
[1] 30% is an arbitrarily large number.
Wikipedia def: "An index fund (also index tracker) is an investment fund ... that aims to replicate the movements of an index of a specific financial market, or a set of rules of ownership that are held constant, regardless of market conditions."
The OP only discusses the former, not the later. I see the point that an indexed fund tied to a specific market, the narrower the better, may bring antitrust rules into play. But the later concept, that a indexed fund is simply a fund with fixed buy rules, need not get anywhere close to antitrust. They need not have a presence across any "market" as conceived by antitrust.
How about an indexed fund with the rule: Own equal numbers of share from all publicly-traded social media firms, except facebook. Such an indexed fund might find lots of investors without getting anywhere close to antitrust.
As other commenters have mentioned, "index investing" is better referred to as "passive investing".
"Antitrust" is a similar linguistic artifact as you can violate antitrust rules without any mention of trusts,
Don't get me started on the price-weighted Dow...
Are you referring to something other than quantitative funds?
Whether or not a quant fund is passive investment is semantics imho. I wouldn't call spending hours/days/weeks examining a quant funds system a passive activity. And investors can move in and out of funds quickly these days. On the other hand many see passivity wherever investors or fund managers put buy/sell decisions in the hands of non-humans.
You are talking about the meanings of words. That is semantics.
This is signaling that monopolies have massive power in their industry horizontals. 'To compete', they must take over another industry horizontal.
I'm embarrassed to admit I actually don't know the voting policies of the major index funds I'm invested in (VTI, AGG mostly).
Index funds effectively buy and sell at prices set by non-index fund investors. They are reacting to market price, not trying to predict where the stocks will go in the future.
All other investors are betting on the future price moving one way or the other.
I'd argue that index funds are an amplifier for demand, but that the actual demand is still generated based on 'analysis' by investors seeing the the current price as an opportunity.
The other concern seems more well-placed. An efficient market requires that shareholders buy and sell companies in response to performance. Index funds buy and sell companies in response to the performance of the fund, or the market as a whole, or some other arbitrary factor. If 50% or 80% or 90% of a company is owned by 'dumb' funds, what does that do to their market value? And how could that affect the choices of the CEO?
However, the returns are also limited to the sector as well.
I admit picking undervalued companies AND being solvent enough before the market reacts rationally is a huge undertaking and why there's so little of successful value investors.
It always happens...
It happens every time, if there a way to make money speculators will come into the market, take advantage of it. Or in the case of index funds, it will become overcrowded and inefficient and the market will move on to the next big thing. Just ask LTCM. It's the invisible hand of the market...
Honestly, anybody that down voted me is probably invested heavily in index funds because they heard something on a blog and listened to Warren Buffet once.
80% and shrinking of the fund market is closed and proprietary software. Its very expensive and relies on single points of failure, often one person per fund. There's a lot of propagandizing that they're the only way to invest or best or whatever.
20% and growing of the fund market is free open source allocation, here is TODAYs definition of an index now buy stock to reflect it. Needless to say its incredibly cheap compared to the closed source funds and arguably gives an overall higher rate of return.
Some of the lower rate of return of closed source funds is because of their massive advertising and propaganda budget spent to convince investors that they're a better deal. Sometimes, by obscure enough definitions of better deal, they are. Usually not. Needless to say someone who's paycheck depends on FUDing the free competition isn't going to have anything nice to say about FOSS or index funds.
The idea that FOSS or an index fund is a conspiracy is kind of weird. If index funds are made illegal on that ground, I suppose Emacs will be made illegal soon because its unfair to make individual proprietary editor writers compete with the entire world teamed up against them. "The right of the rich to privatize gains and socialize losses shall not be infringed" and possibly other constitutional amendments will be marched out in the corporate press, etc.
Don't tell people you're trying to grind an axe, just say I'm merely providing free advice from my grindstone financed workplace.