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> Index fund investors are simply buying what the active investors have laid out for them. That works until it doesn't. If passive becomes big enough, the ind

> Index fund investors are simply buying what the active investors have laid out for them. That works until it doesn't. If passive becomes big enough, the indices themselves will be the ones steering the ship. The active managers won't be significant enough to sway the indices. I heard this analogy on a podcast (I think it was Invest Like the Best): Indices are like a drunk person, and active managers are like the sober friend guiding the drunk home. But if the drunk becomes 10x the size of the sober friend, the friend is no longer strong enough to be a guide. If passive funds get big enough to dwarf active management, they eventually will be the ones steering the market, and active investors will be noise at that point. In that scenario, I'm not sure what happens, but it seems that indexing would become more like a Ponsi scheme.

dkarl 7y ago
As I understand it, the index funds aren't drunk and aimless, forced in a certain direction as a side effect of the trades of active investors. They are intentionally and methodically following the active investors.
- yborg 7y ago
  Or the underlying companies that are traded. This "evil zombie index fund" trope seems to imply that index managers just continue to blindly buy the stocks in the index regardless of events, falsely inflating the value of companies. If a company is unable to generate cashflow from its underlying business, this will quickly become evident because it will be unable to pay its creditors and employees. It could take advantage of its "inflated value" by issuing shares to generate cash, but this would then obviously begin diluting the stock and cause the price to fall, the "zombie indexes" wouldn't simply continue to price it at a constant value. I.e. price discovery will happen, just perhaps not as quickly as an active analyst monitoring the stock would do it.

dkarl 7y ago

As I understand it, the index funds aren't drunk and aimless, forced in a certain direction as a side effect of the trades of active investors. They are intentionally and methodically following the active investors.

yborg 7y ago
Or the underlying companies that are traded. This "evil zombie index fund" trope seems to imply that index managers just continue to blindly buy the stocks in the index regardless of events, falsely inflating the value of companies. If a company is unable to generate cashflow from its underlying business, this will quickly become evident because it will be unable to pay its creditors and employees. It could take advantage of its "inflated value" by issuing shares to generate cash, but this would then obviously begin diluting the stock and cause the price to fall, the "zombie indexes" wouldn't simply continue to price it at a constant value. I.e. price discovery will happen, just perhaps not as quickly as an active analyst monitoring the stock would do it.