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Comment by tma-1 | Hacker News Reader

I am not very cheerful about the markets being "-largely driven by passive investors. Traditional investors play a pivotal role in corporate governance and strategy, and reward management with a track record. Unfortunately the flows are becoming more and more driven by passive strategies, and this can potentially lead to negative externalities in the economy [1].

[1] http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2663398

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I don't think that you have any reason to worry. Once everybody is using index funds, there will be plenty of opportunities for actively managed profits, and people will begin to take advantage of it again.

I think you're right, if a large portion of a company's stock is owned by passive funds, there should be some arbitrage opportunities since the funds won't buy or sell based on the company's fundamentals.

Honestly, I'm with you on this. Still stacking up on index but everyone will have to switch at some point.

I think another side effect of this is increasing the long bias markets already have. I could definitely see being short the market becoming a very dangerous proposition. Price discovery is a lot more difficult when it becomes costly to short things and I can only see this leading to greater volatility and heightened market crashes. Related to corporate governance, Chanos [1] shows the importance of short selling through Enron.

[1] https://en.wikipedia.org/wiki/James_Chanos

Article you linked to is about passive investing in commodities pushing commodities prices up. I agree this is a negative externality. But we're discussing passive investing in equities pushing equities prices up, which have positive externalities in the economy. This is good.

I too am worried, but if this crisis comes to pass I will do my duty and start working for a hedge fund.

Plus it creates a correlation of 1 in the market for completely unrelated businesses.

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