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Good point. Actually there is a thriving segment of the broker and hedge fund market whose entire game is figuring out which stocks will have their weights chan

Good point. Actually there is a thriving segment of the broker and hedge fund market whose entire game is figuring out which stocks will have their weights changed at each new index rebalancing, and "front-running" the index funds who can't do anything until it becomes official. Thus they profit off what is a market inefficiency, scraping value from the passive guys, which in the long run could I suppose limit the index fund phenomenon (though not the indices themselves).

sparky_z 11y ago
I agreed with this argument until very recently when another article by Matt Levine changed my mind on the subject. http://www.bloombergview.com/articles/2015-07-07/can-you-really-game-index-funds- 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.
- patrickk 11y ago
  Further reading on this topic: https://www.quantopian.com/posts/front-running-s-and-p-500-index-funds https://www.quantopian.com/posts/front-running-s-and-p-500-i...
exelius 11y ago
The "front-running" we're talking about isn't really a huge problem. It's a relatively limited arbitrage opportunity, and the ETF fund runners can just start performing this sort of arbitrage themselves if it becomes too big of a problem. I'm guessing insurance against this kind of activity is already priced into the fees of most ETFs (so yeah, they're scraping value, but not a lot and there's not a lot of opportunity for expanding it).
- vegabook 11y ago
  They absolutely should be doing that, but this market inefficiency is strangely persistent. In the bond world at least, I have watched hundreds of billions under management by sleepy fund managers in Europe who operate like bureaucrats for years: all they want is to be fed the index rebalancing weights each month and they don't take much notice of the value being left on the table by not anticipating changes efficiently. Perhaps its because the industry is biased towards fees rather than performance that this persists, but I don't have a great explanation for it. 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.

sparky_z 11y ago

I agreed with this argument until very recently when another article by Matt Levine changed my mind on the subject. http://www.bloombergview.com/articles/2015-07-07/can-you-really-game-index-funds- 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.

patrickk 11y ago
Further reading on this topic: https://www.quantopian.com/posts/front-running-s-and-p-500-index-funds https://www.quantopian.com/posts/front-running-s-and-p-500-i...

exelius 11y ago

The "front-running" we're talking about isn't really a huge problem. It's a relatively limited arbitrage opportunity, and the ETF fund runners can just start performing this sort of arbitrage themselves if it becomes too big of a problem. I'm guessing insurance against this kind of activity is already priced into the fees of most ETFs (so yeah, they're scraping value, but not a lot and there's not a lot of opportunity for expanding it).

vegabook 11y ago
They absolutely should be doing that, but this market inefficiency is strangely persistent. In the bond world at least, I have watched hundreds of billions under management by sleepy fund managers in Europe who operate like bureaucrats for years: all they want is to be fed the index rebalancing weights each month and they don't take much notice of the value being left on the table by not anticipating changes efficiently. Perhaps its because the industry is biased towards fees rather than performance that this persists, but I don't have a great explanation for it. 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.