That will never happen, there are lots of people out there who think they can outperform the market, I was one of them once upon a time, I realised the error of my ways.
There are lots of index fund holders that are selling, ones who are rebalancing, ones that de-risking because of retirement, ones that want to diversify, and those that just want to sell to live on the proceeds ... So lots of sellers and buyers. I don't think there is going to be any issues with just sticking to index funds. Just my opinion...
Agreed, it is quite likely the one who has the S&P 500 also has euro and asia etc indexes. A rebalance between these funds will cause a buys/sells to happen. Agreed, retirees are selling, they cant be holding on to the funds forever, they have to spend the money to live. Agreed, I'm not worried in the least, well may be I will diversify a bit more 👍👍
Yep .. I was a net buyer of index funds until 2019 when I stopped work at age 51. Now I'm a net seller and will be unwinding my position slowly over the next 45 years or so (if I live that long. If I don't, someone else will be selling them all the day after I can't)
When a retiree sells shares in an index fund, individual stocks are not necessarily sold. That only happens if more money flows out of the index fund than into the fund. So as long as more money is moving into index funds and away from active funds, retirees invested in index funds will not be a source of sellers in the market.
There was that saying: There are 3 ways to beat everyone else in the stock market: Be smarter, be faster or cheat. I am definitely not faster than a high frequency trading algo, certainly not smarter than everyone else, and I won't cheat, so indexes it is.
@@livingart2576 all depends on portfolio size I guess. If your total assets are £10k then it doesn't really matter if 20% are in one stock. You can rebalance with new contributions going forward. If you have a portfolio of 250k, it starts to become material. You'd then have to be clear that the Tesla stock is going to perform at least at as well as the index over the next couple of decades.
At the extreme, if the majority of people will be buying funds without evaluating them. That would open up huge valuation mistakes, which would make it possible for active managers to make a decent living again.
No, thats huge mistake. If something is overvalued, you can't profit off it. Only if something is undervalued - you can buy it. Market definitely can exist in a state of overvaluation when everyone see it. Because markets can be irrational longer than most bears can stay solvent.
In a state when index funds get more inflows than outflows, it can exists as self-fulfilling ponzi, and sure beat others because others don't get free dumb money as exit liquidity. But imagine if some day for some external reason funds will have only negative net inflows. Then suddenly even your grandma will beat index funds, because they'll start to have negative edge to the market: they'd have to sell more and more stocks, and because of that, it'll be ultimate losing stocks by the time.
Really? What indicator can experts use to buy stocks that are undervalued in their opinion on that scenario? Think about it, a stock only rises if people buy it, and if the experts buy "undervalued" champions that nobody realises to buy then they're just buying dead stocks. Dumb money, i.e. blindly buying the index, inevitably leads to stock concentration. Only an event opening the eyes to these blind buyers can make them change their option, and that event is called a crash. However undervalued stocks dump even in a crash. Hence these expert purchases are meaningless.
We also forget the one of the major buyers/sellers are the companies themselves with buybacks, stock comp, and dilution that can actively keep companies fairly valued.
Companies want to increase their stock price at the end of the day. They contribute to the stock overvaluation problem and don’t do anything to help solve it. Buybacks increase stock prices
Paid off my mortgage with index funds. Worth remembering in the UK that you can get these as tax-free ISAs up to a certain level. After a current account, then rainy day fund in a quick access deposit account, investing in index funds up to the ISA limit is a decent third account. But as they say, time in the market beats timing the market: stocks are long term things.
Love this. I primarily invest in index funds but do dabble in individual stocks when I spot a very good risk. This has served me quite well. I get the sustainability of the indexes, coupled with the occasional, high probability winner that pushes me forward
Institutional investors have the most influence over price movements, and they will never be buying index funds. Plus was you say in the video, everyone else will always dabble in picking stocks, so I agree there will always be active investors out there.
Nice video. I would just complement it: my understanding is that as index funds grow comparatively to individual stock buyers, the market becomes more predictable because there are fewer one-to-one transactions. That means that the reward for the successful individual stock buyers will increase while the index fund return will decrease comparatively to one another. So, there is a sweet spot where both methods operate in some sort of equilibrium. For this reason, there will be always an incentive for active funds to exist.
I really appreciated this video. I don't watch all your videos, just cause time. But out off all the finance channels I follow, I really appreciate when I watch yours. You have such an honest humility that isn't common in this space. I hope the world doesn't take that from you someday when you have millions of subscribers. I think your book review videos were some of my favorite. I've bought and read at least 5 that you suggested, and as you stated, were worth far more value than the tiny price tag to purchase them. I'd love to see more book reviews and recommendations in the future. Keep being you. Sincerely, A fan
100% vanguard sp500 here buddy. Too smart to know i cant and dont want to pick out stocks and that even the best of fund managers cant do it and i know i aint peter lynch
@@justthebrttrk sure i know that. And other time like last 15yrs usa wins. Overal its about the same so i never quarrel with people about all world vs sp500. We are in index which is a win already
@@DarkoFitCoachOk yeah but it isn't a good message to spread. World economy is not all about America and no one can really predict how the situation will be 10, 20, 30 years from now. Also, to live in US and to be 100% invested in US is a double risk, cause if your economy go down (think about 2008) you not only are impacted as a citizen (taxes, inflation, job...) but also as an investor. It is a choice, but I prefer be a lot more diversified with an all country world ETF and lose a tiny bit of profits (historically, but as someone else said sp500 doesn't always outperform ACWI or even VWCE, and who knows the future) than be 100% in the hands of America for the rest of my life.
I have been trading ETF's as well as shares. Buy different funds within the same sector off different providers, each provider will have different XD days so you can chase the divs, you will always be invested in more or less the same comps all of the time ....
Thank you for vid, was better than I thought judging from the thumbnail. Actively managed funds, the pricing has to be changed completely. 1. Only a performance fee capped at max. 20% of the outperformance compared to the index. 2. If the manager underperforms, the manager has to pay out of his pocket the same percentage (up to 20%) as in the case of outperformance. 3. This payout should be quaterly. 4. All other expenses should be capped at 0.2% in total for all expenses, no matter the kind of fund nor the kind of expense. 5. Bid/Ask spreads must be kept at max. 0.2% at all times. Anyway, modern technology will enable small small investors to buy or sell all 500 companies with a single order, at very low prices, or even for free, just bid/ask spread.
I've done both. For me, researching data on companies is fun. Investing small amounts over the short term has worked for me. Making a few hundred dollars here and there on your picks is exciting. Contributing a lot of money to a few companies I'm not comfortable long term with. You really need to have a thorough understanding of the company and not just quantitative analysis. I think having a good understanding of business in general helps a lot. Having management explain how they do business is a huge help to understand how they make money. I prefer broad market index funds for the majority of my portfolio. But I do dabble a few thousand dollars here and there into individual stocks when I see opportunities.
7:30 this is incorrect. Large swings in stock price can be a function of increased volume, but what Toby fails to mention is that the available float is a factor as well. With index funds gobbling up shares and basically taking liquidity out of the market, even small selling or buying pressure can result in large swings. This is happening, right now - and is entirely consistent with the theory that index funds are breaking market function.
Excellent presentation. Very insightful. I believe there will always be active investors as you said. This is because there are some people out there who believe the can beat the market.
Great video. Love the slide at 10:34. It really drives the point home. Still think there’s a case to be made for active management when it comes to fixed income but not so much equities…
I have over $200k ready to be invested, however I am having trouble trying to find out what investments would be best during this present economy. Heard index funds and ETFs provide diversified stock market exposure while spreading risk. How true?
Very true, there are strategies that could be put in place for solid gains regardless of economy situation, but such execution is usually carried out by an investment specialist
The issue is most people have the “I will do it myself mentality” but not skilled enough. Ideally, advisors are perfect reps for investing jobs and at first-hand experience, my portfolio has yielded over 330% since covid-outbreak to date, summing up nearly $1m.
I started investing in indexes when I first got into investing two years ago after trying some stock and realising I didn’t know anything more than everyone else. Since then my total growth is around 30%! 18% each year thereabouts. I am hoping they’ll be a dip so I can get some discounts 😉
Good question. Before watching the video, I would say it creates a lot of short opportunities against companies that are struggling and getting overvalued from a P/E standpoint just by being in the index.
If passive funds were the only things in the market, there would still be buying and selling, just not individual stocks for people. That's really what etfs are. They are just a group of stocks. A group can be literally any combination of the overall market using any metric imaginable. For example, there can be a Letter A index that just has all the companies starting with the letter A that are all equally weighted. Because of that, though, passive funds effectively have to trade stocks themselves. So even if people aren't directly trading stocks, they actually are doing so. It would not matter if there were only passive funds even if people only ever bought and never sold, because in order to keep their weights and stay diversified, the funds would have to trade between themselves and it can be automated. Additionally, funds are bought and sold like any stock and there will always be people selling even when it's not market related reasons. In this way, passive funds act like a grouping but also a regular stock of any company. That's why funds in general don't matter. All they do is add an additional layer of ambiguity to how much is being invested in a company because all of it can be done behind the scenes.
In the case that everyone's passive, then wouldn't it be impossible to outplay as an active manager since there would be no one left to cause the swings in valuation? Companies could be mispriced based on the fundamentals, but if everyone's passive then it'll just keep tracking the index.
I’m a 41 year old single self made multimillionaire. Just retired. No kids. No worries. I am an early and long time buy and hold of a large concentrated position into NVDA. I am a professional and also personally have always considered the stock market my personal favorite hobby. I am very good at it. I was 100% convinced back in 2018 that nvda’s moat and market share for AI and machine learning would eventually payoff it was certain just a matter of time. I was right. I still am concentrated because it’s simply the best company with the best situation short and long term still. When that changes I will change my investment thesis.
Very nice and informative clip. But I was wondering about a few things. The first thing is that when we are talking about "index funds" it seems like they are all based on the same index, and that is not the case. There are several indexes that have an index fund following it, so there is already a chance that some people will look at the different indexes and select an index fund that they think is best for them or will outperform the other indexes. A second thing are people working for a company and buying stocks of their company or people who get stocks as a form of payment. This will always provide a (small) number of buyers and sellers.
Another funny thing to think about: you have all these working people paying automatically into index funds. Then on the other end you have retirees withdrawing funds by selling...to who? To the working people who are investing. So what's really happening is simply working people paying money to retired people. Sound familiar? It is pretty much identical to social security, and especially when it's all automated by indexing and automatic contributions. Food for thought. Also notice that there's no law saying that the quantity of sound investment opportunities has to exactly match the amount of money people need to invest for retirement...but the system of automatic investment into index funds proceeds as if this is the case.
Interesting comment - however if just young working people are buying and retirees were selling on an equal level you would have no price change at all.....The prices have risen as more buying pressure has entered the market. On your second point I'm not sure what you are trying to make here. An index fund promises nothing, only the returns of the market which can be positive or negative. The market will always have risks...but the alternative is far far riskier both in doing nothing or picking individual securities. If yu go down the latter route you have significant;y more risk and are likely to underperform :)
@@TobyNewbattthere is no "however". The price change does not mean anything. It is only an artifact of the distribution scheme. You do have the same with social security: the old get as much out as the young do put in. You do buy "shares" too, which is how the system counts your individual inputs when you were young. When you are old, the sum of all counts of all the old relative to your individual sum decides, how much you will get from the entire money the young give into the system. So it varies how much 1 in the calculation is worth in eg. Euros. The interesting part: it completely works without shares, since it is only bookkeeping. And it only redistributes income of the young to the old. The usage of stocks does only introduce mythical thinking. There are shares in circulation, which are about 100 years old. The investment, which was funded by selling those shares, is probably deconstructed since many decades. What is left from it is only a piece of paper.
But if 50% of the funds are index funds. Say i share loses 10% couldn't that the mean that 10% if all shares owned by index funds then have to sell. Then value goes down etc causes a big slide. Same for increases.
I don't think it works like that. Just because a share price drops 10% doesn't mean that it instantly gets sold off by all the index investors. If anything, the index investor mindset of buy and hold long term reduces the impact of sell off's and market manipulation. My understanding (I may be wrong) is that if a single stock drops by 10%, and that stock happens to be e.g. Apple, 5.9% of the index is Apple, so the index drop is the allocation in the index of Apple stock, which is currently 5.9%, of the 10% drop, which would be a 0.59% drop in the index.
It's the owners of index fund units who sell, not the fund themselves. Similarly, index funds only buy if new units are bought by investors (or dividends are received in the case of acc funds)
Ah, the curse of being a dividend investor. How long would your dividend portfolio have to underperform the index for before you throw in the towel and just buy the index?
Yeah, I totally agree and also work same way. I mostly invest passively and have 2 actions of AMD - just because... It kind of fits to football team comparation, as it's totally subjective, but if they bounce back and grow again - I will be happy for them... I bought them only recently after big drop and they keep falling, but I like their products and believe in them...
I left SJP after 12 years of investing with them. I put all my money into a Vanguard portfolio which somewhat mirrored the SJP investments and my profits soared. I have no doubt that it was the right decision.
Yep they take 2.2% of your portfolio to manage it. Doesn’t sound much but you compound that over a long period and it’s very significant indeed. The products that the SJP adviser will ‘sell’ are on a whole pretty poor performance wise. I woke up to this after 4yrs being them.
Also worth mentioning, market makers (citadel securities and others) are constantly buying and selling these index funds to make sure their market price approximates that of its net asset value (i.e. the market price of the underlying stocks). So while index funds will probably never be exactly 1:1 the value of its NAV, it will be very close to it
You need to clarify: index funds are funds tracked to an index. You can buy crap index funds, but they are likely to do what they promise. The fidelity Bitcoin ETF tracks Bitcoin very well - does that mean it's a good fund? An international index fund over the past couple years is likely to be garbage. What you're saying isn't index funds, but total market. What happens if everyone buys total market? That's a very good question - doesn't the growth of a total market index fund slow to the rate of GNP?
There’s a bit of a misconception here because the ones that didn’t beat the market might’ve still done just fine. Maybe they were just short a half a percent. It doesn’t mean they were destitute.
If more stocks move into buy and hold index funds, there are less stocks available to move the market short term, which means the market becomes less liquid, which again means that price volatility must increase in between index buying periods.
Excellent assessment at the end on how the individual active market will continue to thrive - the incentive of being the best money managers, or striking it rich, or get-rich quick (Trading, etc) schemes, and basically anything that tugs on the heartstrings of human greed or ego, will continue to fuel the active frenzy....
Exactly. I would love for 99% of the market to be index funds, would make it easier and easier to pick out individual stocks that are clearly wildly misvalued.
I can definite challenge you. Depend on what people invest for. In CA index fund can’t beat the house appreciation value. Fund manager will diversify. If you take the aggressive part of portfolio and compare to the index.
Thank you for this video, I agree with your analysis. The market will correct since active managers will find opportunities if it becomes too hot from a passive perspective.
How does an index fund get rebalanced? Is it automatic based on the market cap of each company? e.g. consider the S&P 500. Or is there human adjustment of the percentages of each company in the index. (but that suggests a fund manager!) Contrast with XDWE an equal weight S&P 500 index
It doesn't get rebalanced. It's just a mechanical process. Equal weight indexes are similar. They have mechanical rules defining the composition. An example of an "index" which is not really an index is the dow Jones. That's not an index because there's a bunch of bros who get to pick what's in it.
It doesn't need rebalancing if it's market cap weighted. Imagine there are 2 companird: A with market cap $100 and B with market cap $50. Now, let's say there is ETF created there 1 unit of ETF costs $3 and consists of $2 of stock A and $1 of stock B. If stock B goes +100%, your ETF is now worth $4, and has 50/50 split between companies A and B. Similarly, now the market cap for A and B are same at $100 - so you're still holding them in correct ratios, even though the ratios have changed.
@juleskayak Yes, if you check your fund's prospectus they may include comments about their rebalancing methodology. You can also ask your brokerage (or look up online) the "tracking error" of a fund, which shows how accurately the fund's performance _actually_ matched the underlying index.
5 місяців тому
Also companies that go to market are new sellers as well. They also create new stock.
What index funds do is take shares out of circulation so what shares are left have huge impact on average price. It's basically the same as buybacks but for free
Well, the answer I was hoping when watching this video, if everyone bought "and held" onto the index stocks, could there be not enough for everyone? Or would they create more shares at the cost of reduction of share price?
An ETF is set on the price set by buyers and sellers. If nobody sells then the price will go up…but there are always sellers and buyers 😎. At some point the price tempts someone to sell…and someone to buy
@@TobyNewbatt Yeah, I remember that point in the video, people are drawn to risk like the lotto ;) And I do play the lotto, but the stakes are low, and goes to a good cause :)
I do agree with what you say. However, I do do a few shares as I like the dividend income. From a UK perspective could you suggest some index funds that pay a good dividend, like a stock. I don't want to sell my holdings and do the 4% rubbish. Just buy and own and if I retire then just have another income source. I hope this makes sense. Great videos and happy for you to post, discuss etc. Regards Bret
Thanks Bret, I to also enjoy some stocks on the side for fun :) As a thought rememeber that even a boring old global index fund will pay you a quarterly dividend if you want it - the yield might be around 2% though nothing special. If you want more...just remember that it has to come from somewhere and will hurt your long term total returns. I think a good example is having a rental property. Your rental income is like your dividend and your price appreciation is your house hopefully going up in value. However - you can't have a yield of 10% and a price appreciation of 10% as well (aside from some weird anamoly!) The total stock market returns on average per year have been around 10% for a century or more - 6-8% has been from price appreciation and around 2-4% has been dividends (but in recent times dividends have been shelved for stock buy backs). For retirement my plans so far would be to hold 2-3 years of cash for living expenses and have everything else invested in global index funds - super simple. I'll then sell what I need to top things up and adjust as needed :)
But lately there is a rise in active management etfs For example active value is beating the index value,recently avantis and dimensional are growing aum fast and their cost is close to the passive ones
Excellent video Toby, liked and subscribed, will watch your other videos. I was thinking about this passive investing proliferation recently, but I do not have enough knowledge to predict consequences, so I liked your explanations. I know about investing habits of some people around me and almost all of them just buy low ER S&P or total US market ETFs or index funds these days because those are so promoted online. I know only one person who buys individual stocks. People buy much less international stock ETFs and bond funds as well today compared with 10-15 years ago. It does feel that it may create some bubble if people from around the globe just buy S&P 500 via ETFs and funds. And people are worried it will burst. But maybe it will not burst. There is some economy growth and high inflation, so the stock prices will continue to grow. I myself continue to buy US market ETFs as it worked in the past, but I did start to buy some treasuries as guaranteed 4+% for 10-20-30 years is pretty good. At least 10-15 years ago bond/treasury yields were terrible. Overall, people got much smarter with investing due to youtube, podcasts and other means of free education
There are many different index funds. Investing in a clean energy index or a chips index will give you different companies than a world index. There will be indexes that beat the world index and this will diversify capital.
Very interesting stats on managed portfolio vs index. What’s not mentioned there are the staggering compounding fees. I was victim of this where I invested in my retirement with Raymon & James and the money grew 4 % between 2019 and 2023. And most of it was sitting in cash with 0,1 % interest. Its shocking how many crooks there are in this world and that statistic shows it. Learn how money works, because at some point you will realise (like me) that no one cares about your money as much as you do!
There are these things called hedge funds. Many of them deeply analyse stocks and determine if they are underpriced, in which case they buy. If the market ever became hugely inefficient, people would pile in to close the inefficiency and make a fortune doing so. That’s why there will never be an index fund bubble
In the REAL world a LOT of hedge funds BLOW UP and have to be shut down after losing a HUGE proportion of their capital. Acting like these are reliably super efficient and accurate traders is INSANITY. Buffett won a bet awhile back, betting a hedge fund couldn't outperform SPY over a decade. And that's just the broad market index of large stocks. Nothing special or pushing high growth like tech.
@@rogergeyer9851 OP has a point, if there’s inefficiencies in pricing between asset classes the market will fill the gap. It’s essentially a risk free bet called arbitrage. It’s quite common in forex markets between multiple currency pairs or during merger/buyouts.
My wife worked for a Manhattan hedge fund for a while. She got out of there as soon as she was working for a literal scam and didn't want to get caught up in it when it imploded
If everyone buys index funds, it would be ridiculously profitable to pick stocks. If I was the only guy on the planet picking stocks while everyone else indexed, I'd be insanely wealthy and hailed a genius. That'll never happen because the stock market environment is massively competitive and mispricing is jumped upon immediately. Nothing to worry about. It'll correct itself as soon as indexing begins to even slightly cause inefficient stock pricing in my opinion.
The market would eventually self correct so the ETF value will eventually go back to its NAV. And this is even more so with automated computer algorithms that already take minute advantages of stock arbitrage, making pennies on the dollar, thus making the market correction returning to its NAV, happen faster, usually within a few seconds from a surge in supply or demand. It might have been possible before the advent of stock trading algorithms (like pre 90's stock trading, where things were slow as heck). But now? Not so much.
Active fund doesn’t make sense after fees. Even if the fund manager beats the market do they beat it by enough to cover their cost of their fees and the tax burden that often comes with it? Biggest problem I have too is the fee is the same on a year where they lose. Not only am I down, I’m also down fees for that year which now needs to be made up by even more gains the following years.
I am gradually unwinding all my individual stock positions and going to VTI. It will take five years or so as I want to dollar cost average out and some of them pay good dividends and my cost basis is low thanks to DRIP. But, when I got to my NVDA shares last year, I held them. I am glad I did….. but there will come a time to unwind that position as well. That is the tough part, knowing when to sell.
While the market would never get to 100% index it could grow to where prices of individual stock are distorted from their intrinsic value. However I figured if individual stock prices got out of whack it would be self correcting. There will always be people who would step in to take advantage.
This assumes that the market is efficient enough. Particularly in the case of the s&p 500, if it's overpriced, its likely to stay overpriced, until it hits a significant crash. This means that you are getting roughly the same returns as the market while taking on higher risks. With this in mind, smarter investors would find ways to match the market returns, with lower risks, not necessarily seek to make a profit on stocks that are likely to stay overvalued until a crash.
Great video, and well researched. However, I think problems would arise if/when a handful of large active investors were able to manipulate the markets.
The major factor of why the trackers have performed so well is because of the insane concentration in a few US technology names. A lot of FM’s won’t hold such a large amount in single names. What’s my point, well it was easy to outperform the index by factoring this in. A lot of countries active managers smash their index.
Why not just have a fund that buys the index but throws out the stocks being recommended by active managers that underperform the index? This wouldn't require much management expense and would overperform the index by the same magnitude that the active managers underperform the index.
Because if you do that...you become an active manager :) The point of index funds organised by market weight is that you have no idea what companies will do well in the future. Just because a company stock price does badly one year, doesn't make it a bad investment. Own everything, get the market return and you will beat most people :)
I agree on pretty much everything in this video except the idea that great rewards for long shot is a good way to go about anything. I know this is how it works in most of the industry but, as a society, the implied excessive capitalisation and income inequality is a threat to the system stability.
Let's not forget that there are multiple "passive" index funds that get rebalanced according to fundamentals (i.e. Value, Quality stocks), so in practice there are ETFs that actually serves as counter-balance of the more traditional ETFs, such as SP500
There are so many companies I don't want to invest in. So I just pick a few I think that are ok, and keep them forever. I think this is not that much different from buying an index fund, but I can leave out companies I don't like.
Whilst I do own some passive funds, the majority of my investments are actively managed. Ultimately passive investors are reliant on active investors to ensure capital is properly allocated and thus valuations reflect company performance. Personally I choose to partake in that process. In doing so I hope to outperform, but am willing to accept the risk of under performance too (statistics don't lie!).
Capital allocation is performed by the company boards, on behalf of investors. Good capital allocators (like Microsoft, Amazon etc) generate higher earnings which pushes prices up. Poor capital allocators (like Zoom) have no impact on earnings and prices go down. It doesn't really matter whether the underlying shareholders are active or passive.
Mutual funds not only charge modest management fees @~1-2%, investors also incur hidden trade fees. The fees for most Index ETF's are super low and ETF's are more tax efficient. So, why pay more in fees? I'm just saying. NOTE: The returns on ANY investment MUST be at least 5-7% because you have to beat the rate of inflation, or you loose money over time. Then there's short term, 1 year (@15% ) TAX on gains.
That sounds pretty hideously high for a management fee. Even a target retirement year fund (where you pay even more to have someone else take it out of stocks and put it into bonds) shouldn't run that high.
For the active funds shouldn’t their success be measured by risk adjusted returns? Active managers are trying to get returns that are not correlated to the market
Some maybe not all - if an active funds objective is risk adjusted returns e.g. lower drawdowns during market crashes then fine. but MOST are there to win in the long run and they suck....
Good video. But for your own understanding you should also understand the mandate and constraints of people/institutions that invest monies with hedge funds or active managers. It usually is because of the large volatility of index funds. Retail usually end up taking risk that fund managers are not willing to do so.
Great video . I have 20% of my pension in active global fund with Baille Gifford on the off chance they pick the next Amazon like in the past 🤞🏼 Rest is passive. Global inc Small caps. Question Toby - is there any passive fund that tracks global market but more concentrated i.e global tracker of top 200 companies ? Was thinking this may provide better returns with more concentrated collection of global companies but still enough diversification as would be industry agnostic ?
I think some forget that index fund managers are active buyers and sellers. Not all are actively managed, but a lot of the specialty ones are. Sure, a lot of people are buy and forget, but I think there'll always be enough people in the middle, who think "yeah, we're heading into a recession, I don't want to be invested in entertainment but do want consumer staples," even though they aren't sure what companies to buy, therein.
Tech has always traded at a higher PE. The fact that they have grown so big, it makes sense that the overall PE avg is higher. To argue that index funds causes the overall PE to be higher, you’d need to show that non-tech funds in the S&P are also trading higher than usual, rather than the tech funds.
I wonder if could be possible to see the active investing companies size, because I do not think they are getting smaller. Are they?. Many fund have business model far beyond picking stocks in a portfolio, they could short the assess, select managers, affect the decisions, focus on venture capital, specialise in sector or countries and so on. Even in you select ETF does not means you use it well or diversity in the right way. The large passives etfs may ask customer to select and vote and similar options. Personally I like the idea of having a number of different products and strategies to compare across time. Stocks and debt are also a portion of assess you could use as well.
The reason the active fund managers can't beat the market is that their performance is being evaluated against their peers on a quarterly basis which is very short term. Therefore, they are incentivized to perform best in the short term and as a result the long term performance is sacrificed for the sake of short term benchmarks as they keep buying & selling to try to get the best results in the short term. That's where we retail investors have an advantage because we have a long term mind set. So we are not forced to sell any stock in the short term & can ride out the market fluctuations to get the best long term results.
there was an observation in horse racing and the trifecta. attempts by experts to pick the winners were generally unsuccessful. however, picking the losers was less difficult?
Great video. What would be interesting is comparing the long term share price of companies who are at sitting the margin of the S&P 500. Ie what happened when they entered the S&P500? Did their share price and PE ratio suddenly increase? What happened when they existed? Did their share price and PE ratio suddenly drop? This would help establish any causation of index fund inflation (rather than just correlation)
I think there was something like this, just like with the government bonds that get a bad rating I think. There should be some influx of money through more potential buyers. There's the crux though that most small added companies don't get much funds from index funds (especially when they don't have all 500) so there might be no significant change. SuperMicro Computers Inc or Deckers Outdoor Corp for example should have been added in March but there's no really significant rise in their stock price.
@@xman7695 Agree that at the margin, smaller companies will only get a smaller amount of index fund demand due to their smaller market cap. But considering how popular the S&P 500 is, if a company slips out, every S&P 500 fund must then immediately sell all their shares in that company, and immediately buy lots of shares in the new company. Surely all this artificial buying and selling must accelerate the fall of existing companies and accelerate the rise of companies who replace them? Even if the absolute effect on the index is miniscule, the relative effect on the companies entering and exiting the index must be significant? Interestingly this video mentions indexes like the English Premier League. However what it doesn't point out is that in this index, the playoff final (getting promoted to the Premier League) has one of the biggest financial stakes of all games in world sport (bigger than superbowl), yet has almost no effect on the Premier League (index) itself. So huge relative gains/losses for the teams at the margin, yet no meaningful effect on the index. I therefore can't help believe that index funds operate similarly - adding artificial price and inflationary pressure beyond true intrinsic value. Thoughts?
I believe there is some substance in the Index Bubble story. I watched a podcast Rational Reminder, where Mike Green makes a good and scary case of Index Bubble.
There's a bog oversight with your theory. The funders who create index funds make money from that index fund based on the average dividends of that fund. This skews the market to create index funds which hold companies with dividends.
But surely the fact that the share price of the top 7 (say) companies in S&P 500 continue to grow is because anyone who invests in that index fund is disproportionately investing in those top 7. So as more people invest in index ETFs, the top ones will always grow far faster than the others. Consider the case where an Index fund has one very big company (say 80% value) and all the rest make up the remaining 20% of the ETF - by investing in that ETF, most of your money goes into that one big company. Every company has corrections, etc. but that isn't the point. The point is that investing in index funds will always tend to force the share price of the top companies in those funds to do even better. In a way, actively managed funds are competing against this tide unless they also invest in the top 7. Or have I got this wrong?
I hope I explained everything in this video if you watched it all the way through :) If mispricing happens and a stock becomes too expensive, like you say, the active market can exploit the pricing differences. Yet...time and time again they fail to perform and there is still a HUGE amount of cash that is available to active managers and pickers. I'm not 100% sure on what point you are trying to make here? Generally, the companies priced the highest are priced that way for a reason, if you feel otherwise you are welcome to actively pick stocks :) Thats the beauty of the market.
What about people who take a punt with different ETFs? So a bit of vusa, vwrl and then perhaps a ftse 100 or 250 as well? When do they go from being a passive investor to an active investor
Active investing is trying to maximise returns by timing the market. It could theoretically be done with a passive fund (or funds) but if I want to buy apples when they are cheap I don't buy a fruit salad!
I have 40% of my funds in s&p and 60% in the FTSE. I'm 100% a passive investor. Passive investors still have to have a market allocation strategy. But once you have selected a market, you're just buying the whole of it.
That is great food for thought actually. I think as more money flow into passive investing. The market will become less efficient. To which point that the odds of success of active investing might start to improve and the statistics for active also improves. Then more people might flow back into active investing as people see statistics improving and wants to beat the market and the market becomes efficient again and the whole cycle begins again. There should should be an equilibrium point of the ratio between active and passive
Yeah. I would be curious about that too. But I guess regardless it shouldn't change our investing thesis. Just take comfort that there are always people that treat stock market as casinos, while we might mock them we do need them. Everytime I need reassurance that we will never run out of active investor I just think Gamestop 😂.
as the global population stops increasing exponentially, will the value of index funds and the stock market stop increasing exponentially (will it stay positive 7-8% per year as it has been for the last 100 years?)
That will never happen, there are lots of people out there who think they can outperform the market, I was one of them once upon a time, I realised the error of my ways.
I overperformed with the Nasdaq etf 😂😂😂
What if everyone tries to do both
while you can its quite difficult, If you really look into a company you can actually make good money, just don't buy pink sheet stocks
@@jakkuwolfinsomnia8058 they never do
@@dysaster4521 Too much work, I much rather use my time to enjoy my hobbies.
There are lots of index fund holders that are selling, ones who are rebalancing, ones that de-risking because of retirement, ones that want to diversify, and those that just want to sell to live on the proceeds ...
So lots of sellers and buyers. I don't think there is going to be any issues with just sticking to index funds.
Just my opinion...
Agreed, it is quite likely the one who has the S&P 500 also has euro and asia etc indexes. A rebalance between these funds will cause a buys/sells to happen.
Agreed, retirees are selling, they cant be holding on to the funds forever, they have to spend the money to live.
Agreed, I'm not worried in the least, well may be I will diversify a bit more 👍👍
Correct. Retirees have to sell monthly, nee customers, ongoing customers, selling all and buying new etc etc. Plenty of vplume on any vanguard etf
Yep .. I was a net buyer of index funds until 2019 when I stopped work at age 51. Now I'm a net seller and will be unwinding my position slowly over the next 45 years or so (if I live that long. If I don't, someone else will be selling them all the day after I can't)
S&P is already diverse. Lot of the companies are in Asia and Europe
When a retiree sells shares in an index fund, individual stocks are not necessarily sold. That only happens if more money flows out of the index fund than into the fund. So as long as more money is moving into index funds and away from active funds, retirees invested in index funds will not be a source of sellers in the market.
Everybody should go for stock picking , so I can make money with my index fund 🙂
😉
Lol
Lol
😂😂
There was that saying: There are 3 ways to beat everyone else in the stock market: Be smarter, be faster or cheat. I am definitely not faster than a high frequency trading algo, certainly not smarter than everyone else, and I won't cheat, so indexes it is.
I'm 100% index funds. Can't be bothered with picking stocks. Happy to just set and forget :)
Me too.
I have most of my portfolio in index funds but also have 20% Tesla. 20% may seem a little high for an individual stock but I’m happy with my choice.
@@livingart2576 all depends on portfolio size I guess. If your total assets are £10k then it doesn't really matter if 20% are in one stock. You can rebalance with new contributions going forward.
If you have a portfolio of 250k, it starts to become material. You'd then have to be clear that the Tesla stock is going to perform at least at as well as the index over the next couple of decades.
100% this...
Same
At the extreme, if the majority of people will be buying funds without evaluating them. That would open up huge valuation mistakes, which would make it possible for active managers to make a decent living again.
Exactly this :)
No, thats huge mistake. If something is overvalued, you can't profit off it.
Only if something is undervalued - you can buy it.
Market definitely can exist in a state of overvaluation when everyone see it. Because markets can be irrational longer than most bears can stay solvent.
In a state when index funds get more inflows than outflows, it can exists as self-fulfilling ponzi, and sure beat others because others don't get free dumb money as exit liquidity.
But imagine if some day for some external reason funds will have only negative net inflows.
Then suddenly even your grandma will beat index funds, because they'll start to have negative edge to the market: they'd have to sell more and more stocks, and because of that, it'll be ultimate losing stocks by the time.
Really? What indicator can experts use to buy stocks that are undervalued in their opinion on that scenario? Think about it, a stock only rises if people buy it, and if the experts buy "undervalued" champions that nobody realises to buy then they're just buying dead stocks. Dumb money, i.e. blindly buying the index, inevitably leads to stock concentration. Only an event opening the eyes to these blind buyers can make them change their option, and that event is called a crash. However undervalued stocks dump even in a crash. Hence these expert purchases are meaningless.
@@Georgggg"If something is overvalued, you can't profit off it." Hmmm, I guess you never heard about Put options?
We also forget the one of the major buyers/sellers are the companies themselves with buybacks, stock comp, and dilution that can actively keep companies fairly valued.
Companies want to increase their stock price at the end of the day. They contribute to the stock overvaluation problem and don’t do anything to help solve it. Buybacks increase stock prices
@@clint3868Thus stock prices end up "overvalued" so people will sell them off with a profit, what kind of an argument is this?
Paid off my mortgage with index funds. Worth remembering in the UK that you can get these as tax-free ISAs up to a certain level. After a current account, then rainy day fund in a quick access deposit account, investing in index funds up to the ISA limit is a decent third account. But as they say, time in the market beats timing the market: stocks are long term things.
Love this. I primarily invest in index funds but do dabble in individual stocks when I spot a very good risk. This has served me quite well. I get the sustainability of the indexes, coupled with the occasional, high probability winner that pushes me forward
Institutional investors have the most influence over price movements, and they will never be buying index funds. Plus was you say in the video, everyone else will always dabble in picking stocks, so I agree there will always be active investors out there.
Nice video. I would just complement it: my understanding is that as index funds grow comparatively to individual stock buyers, the market becomes more predictable because there are fewer one-to-one transactions. That means that the reward for the successful individual stock buyers will increase while the index fund return will decrease comparatively to one another. So, there is a sweet spot where both methods operate in some sort of equilibrium. For this reason, there will be always an incentive for active funds to exist.
Perfect summary :)
And you would then expect the best active managers to show us how good they really are :P
I really appreciated this video. I don't watch all your videos, just cause time. But out off all the finance channels I follow, I really appreciate when I watch yours. You have such an honest humility that isn't common in this space. I hope the world doesn't take that from you someday when you have millions of subscribers.
I think your book review videos were some of my favorite. I've bought and read at least 5 that you suggested, and as you stated, were worth far more value than the tiny price tag to purchase them.
I'd love to see more book reviews and recommendations in the future. Keep being you.
Sincerely,
A fan
A very comprehensive way of explaining. It made a lot of sense to me with your real life examples. Thanks for making this video.
You're very welcome!
100% vanguard sp500 here buddy. Too smart to know i cant and dont want to pick out stocks and that even the best of fund managers cant do it and i know i aint peter lynch
Why just America? Why not all world fund too?
@@samstiles7053 "just" america? Usa stock market is 60% of total world stock market. If usa goes down so will any other country on this planet
me neither
@@justthebrttrk sure i know that. And other time like last 15yrs usa wins. Overal its about the same so i never quarrel with people about all world vs sp500. We are in index which is a win already
@@DarkoFitCoachOk yeah but it isn't a good message to spread. World economy is not all about America and no one can really predict how the situation will be 10, 20, 30 years from now. Also, to live in US and to be 100% invested in US is a double risk, cause if your economy go down (think about 2008) you not only are impacted as a citizen (taxes, inflation, job...) but also as an investor. It is a choice, but I prefer be a lot more diversified with an all country world ETF and lose a tiny bit of profits (historically, but as someone else said sp500 doesn't always outperform ACWI or even VWCE, and who knows the future) than be 100% in the hands of America for the rest of my life.
I have been trading ETF's as well as shares. Buy different funds within the same sector off different providers, each provider will have different XD days so you can chase the divs, you will always be invested in more or less the same comps all of the time ....
I am invested in index and stocks. My Nvidia purchase a few years ago has more than made up for any wrong stock I picked.
Damn. Good pick 😮
You got lucky. Longterm Nvidia is unlikely to beat the market
@@carlyndolphin Oh it’s way overvalued at this point. I sold some off.
I still regret needing to sell AMD when I bought a bunch at $2. But I sold everything for rent money later that year.
@lVlegabyte womp womp
Thank you for vid, was better than I thought judging from the thumbnail.
Actively managed funds, the pricing has to be changed completely.
1. Only a performance fee capped at max. 20% of the outperformance compared to the index.
2. If the manager underperforms, the manager has to pay out of his pocket the same percentage (up to 20%) as in the case of outperformance.
3. This payout should be quaterly.
4. All other expenses should be capped at 0.2% in total for all expenses, no matter the kind of fund nor the kind of expense.
5. Bid/Ask spreads must be kept at max. 0.2% at all times.
Anyway, modern technology will enable small small investors to buy or sell all 500 companies with a single order, at very low prices, or even for free, just bid/ask spread.
I've done both. For me, researching data on companies is fun. Investing small amounts over the short term has worked for me. Making a few hundred dollars here and there on your picks is exciting. Contributing a lot of money to a few companies I'm not comfortable long term with. You really need to have a thorough understanding of the company and not just quantitative analysis. I think having a good understanding of business in general helps a lot. Having management explain how they do business is a huge help to understand how they make money.
I prefer broad market index funds for the majority of my portfolio. But I do dabble a few thousand dollars here and there into individual stocks when I see opportunities.
7:30 this is incorrect. Large swings in stock price can be a function of increased volume, but what Toby fails to mention is that the available float is a factor as well. With index funds gobbling up shares and basically taking liquidity out of the market, even small selling or buying pressure can result in large swings. This is happening, right now - and is entirely consistent with the theory that index funds are breaking market function.
Brilliant video Toby! Your editing is so good! I’ve got a lot to learn 😂 wishing you all the continued success with your channel 👍
Thank you!!! It gets easier the more you do as you know :)
Excellent presentation. Very insightful. I believe there will always be active investors as you said. This is because there are some people out there who believe the can beat the market.
Great video. Love the slide at 10:34. It really drives the point home.
Still think there’s a case to be made for active management when it comes to fixed income but not so much equities…
Very simple explanation of a complex sounding topic
Thank you! Yes there's a LOT of detail you can go into here :)
I have over $200k ready to be invested, however I am having trouble trying to find out what investments would be best during this present economy. Heard index funds and ETFs provide diversified stock market exposure while spreading risk. How true?
Very true, there are strategies that could be put in place for solid gains regardless of economy situation, but such execution is usually carried out by an investment specialist
The issue is most people have the “I will do it myself mentality” but not skilled enough. Ideally, advisors are perfect reps for investing jobs and at first-hand experience, my portfolio has yielded over 330% since covid-outbreak to date, summing up nearly $1m.
’Karen Lynne Chess’ is the licensed advisor I use. Just search the name online. You’d find necessary details to work with and set up an appointment.
These bot comments are everywhere trying to scam people
Thank god I googled Karen Lynne Cheese to find out she’s a scammer and in fact, she sells really good unpasteurised soft goat cheese.
100% spot on with the comment about only seeing the successes instead of the failures.
I started investing in indexes when I first got into investing two years ago after trying some stock and realising I didn’t know anything more than everyone else. Since then my total growth is around 30%! 18% each year thereabouts. I am hoping they’ll be a dip so I can get some discounts 😉
Good question. Before watching the video, I would say it creates a lot of short opportunities against companies that are struggling and getting overvalued from a P/E standpoint just by being in the index.
If everyone bought index funds, it would simply turn into social security or universal basic income.
If passive funds were the only things in the market, there would still be buying and selling, just not individual stocks for people. That's really what etfs are. They are just a group of stocks. A group can be literally any combination of the overall market using any metric imaginable. For example, there can be a Letter A index that just has all the companies starting with the letter A that are all equally weighted. Because of that, though, passive funds effectively have to trade stocks themselves. So even if people aren't directly trading stocks, they actually are doing so. It would not matter if there were only passive funds even if people only ever bought and never sold, because in order to keep their weights and stay diversified, the funds would have to trade between themselves and it can be automated.
Additionally, funds are bought and sold like any stock and there will always be people selling even when it's not market related reasons. In this way, passive funds act like a grouping but also a regular stock of any company. That's why funds in general don't matter. All they do is add an additional layer of ambiguity to how much is being invested in a company because all of it can be done behind the scenes.
In the case that everyone's passive, then wouldn't it be impossible to outplay as an active manager since there would be no one left to cause the swings in valuation? Companies could be mispriced based on the fundamentals, but if everyone's passive then it'll just keep tracking the index.
It makes it easier for active managers as most of the market is blindly following each other, causing many tickers to be incorrectly valued
I’m a 41 year old single self made multimillionaire. Just retired. No kids. No worries.
I am an early and long time buy and hold of a large concentrated position into NVDA. I am a professional and also personally have always considered the stock market my personal favorite hobby. I am very good at it. I was 100% convinced back in 2018 that nvda’s moat and market share for AI and machine learning would eventually payoff it was certain just a matter of time. I was right. I still am concentrated because it’s simply the best company with the best situation short and long term still. When that changes I will change my investment thesis.
Big money doesn't buy index funds, those funds are for us little guys.
Big money has insider information.
Very nice and informative clip. But I was wondering about a few things. The first thing is that when we are talking about "index funds" it seems like they are all based on the same index, and that is not the case. There are several indexes that have an index fund following it, so there is already a chance that some people will look at the different indexes and select an index fund that they think is best for them or will outperform the other indexes. A second thing are people working for a company and buying stocks of their company or people who get stocks as a form of payment. This will always provide a (small) number of buyers and sellers.
I do 80% index and 20% active 😊
Good stuff Toby ❤
That’s a nice balance 😎
Another funny thing to think about: you have all these working people paying automatically into index funds. Then on the other end you have retirees withdrawing funds by selling...to who? To the working people who are investing. So what's really happening is simply working people paying money to retired people. Sound familiar? It is pretty much identical to social security, and especially when it's all automated by indexing and automatic contributions. Food for thought.
Also notice that there's no law saying that the quantity of sound investment opportunities has to exactly match the amount of money people need to invest for retirement...but the system of automatic investment into index funds proceeds as if this is the case.
Interesting comment - however if just young working people are buying and retirees were selling on an equal level you would have no price change at all.....The prices have risen as more buying pressure has entered the market.
On your second point I'm not sure what you are trying to make here. An index fund promises nothing, only the returns of the market which can be positive or negative. The market will always have risks...but the alternative is far far riskier both in doing nothing or picking individual securities. If yu go down the latter route you have significant;y more risk and are likely to underperform :)
@@TobyNewbattthere is no "however". The price change does not mean anything. It is only an artifact of the distribution scheme.
You do have the same with social security: the old get as much out as the young do put in. You do buy "shares" too, which is how the system counts your individual inputs when you were young. When you are old, the sum of all counts of all the old relative to your individual sum decides, how much you will get from the entire money the young give into the system. So it varies how much 1 in the calculation is worth in eg. Euros.
The interesting part: it completely works without shares, since it is only bookkeeping. And it only redistributes income of the young to the old.
The usage of stocks does only introduce mythical thinking. There are shares in circulation, which are about 100 years old. The investment, which was funded by selling those shares, is probably deconstructed since many decades. What is left from it is only a piece of paper.
But if 50% of the funds are index funds. Say i share loses 10% couldn't that the mean that 10% if all shares owned by index funds then have to sell. Then value goes down etc causes a big slide. Same for increases.
I don't think it works like that. Just because a share price drops 10% doesn't mean that it instantly gets sold off by all the index investors. If anything, the index investor mindset of buy and hold long term reduces the impact of sell off's and market manipulation. My understanding (I may be wrong) is that if a single stock drops by 10%, and that stock happens to be e.g. Apple, 5.9% of the index is Apple, so the index drop is the allocation in the index of Apple stock, which is currently 5.9%, of the 10% drop, which would be a 0.59% drop in the index.
Funds usually only rebalance once every few months.
It's the owners of index fund units who sell, not the fund themselves.
Similarly, index funds only buy if new units are bought by investors (or dividends are received in the case of acc funds)
If I was not into individual dividend stocks I would buy the S&P 500 either the VUAG or VUSA.
@@pmason6076I prefer VUSA and have it set to auto-reinvest the dividends as it gives me the option to take it in the future if I wish.
or GPSA
For how long of a period have you beaten the market already?
@@pmason6076is that such a problem to get dividend and just press 1 button to buy more with it?
Ah, the curse of being a dividend investor.
How long would your dividend portfolio have to underperform the index for before you throw in the towel and just buy the index?
Yeah, I totally agree and also work same way. I mostly invest passively and have 2 actions of AMD - just because... It kind of fits to football team comparation, as it's totally subjective, but if they bounce back and grow again - I will be happy for them... I bought them only recently after big drop and they keep falling, but I like their products and believe in them...
I left SJP after 12 years of investing with them. I put all my money into a Vanguard portfolio which somewhat mirrored the SJP investments and my profits soared. I have no doubt that it was the right decision.
It’s of fees saved! Insane how they add up!
Yep they take 2.2% of your portfolio to manage it. Doesn’t sound much but you compound that over a long period and it’s very significant indeed. The products that the SJP adviser will ‘sell’ are on a whole pretty poor performance wise. I woke up to this after 4yrs being them.
2.2% is CRAZY expensive. Vanguard sp500 is 0.07. Thats 30x the difference. Plus index beats managed funds most of the time anyway
So far SJP is matching my Vanguard portfolio.
@@carlyndolphintell me you work for SJP without telling me you work for SJP 😂
Also worth mentioning, market makers (citadel securities and others) are constantly buying and selling these index funds to make sure their market price approximates that of its net asset value (i.e. the market price of the underlying stocks). So while index funds will probably never be exactly 1:1 the value of its NAV, it will be very close to it
You need to clarify: index funds are funds tracked to an index. You can buy crap index funds, but they are likely to do what they promise. The fidelity Bitcoin ETF tracks Bitcoin very well - does that mean it's a good fund? An international index fund over the past couple years is likely to be garbage.
What you're saying isn't index funds, but total market. What happens if everyone buys total market? That's a very good question - doesn't the growth of a total market index fund slow to the rate of GNP?
Another great video, Toby! I think your editing is really good. If you don’t mind my asking, what software are you using?
There’s a bit of a misconception here because the ones that didn’t beat the market might’ve still done just fine. Maybe they were just short a half a percent. It doesn’t mean they were destitute.
Nice! Thanks for breaking it down 👍
If more stocks move into buy and hold index funds, there are less stocks available to move the market short term, which means the market becomes less liquid, which again means that price volatility must increase in between index buying periods.
May be diversify into different index funds like large cap, mid cap, small cap etc. This way you cover the majority of the market.
Very interesting, great video Toby.
Thanks 👍
Excellent assessment at the end on how the individual active market will continue to thrive - the incentive of being the best money managers, or striking it rich, or get-rich quick (Trading, etc) schemes, and basically anything that tugs on the heartstrings of human greed or ego, will continue to fuel the active frenzy....
Thank you :)
Exactly. I would love for 99% of the market to be index funds, would make it easier and easier to pick out individual stocks that are clearly wildly misvalued.
I can definite challenge you. Depend on what people invest for. In CA index fund can’t beat the house appreciation value. Fund manager will diversify. If you take the aggressive part of portfolio and compare to the index.
Thank you for this video, I agree with your analysis. The market will correct since active managers will find opportunities if it becomes too hot from a passive perspective.
Thanks Toby. A well discussed video.
How does an index fund get rebalanced? Is it automatic based on the market cap of each company? e.g. consider the S&P 500. Or is there human adjustment of the percentages of each company in the index. (but that suggests a fund manager!) Contrast with XDWE an equal weight S&P 500 index
It doesn't get rebalanced. It's just a mechanical process.
Equal weight indexes are similar. They have mechanical rules defining the composition.
An example of an "index" which is not really an index is the dow Jones. That's not an index because there's a bunch of bros who get to pick what's in it.
It doesn't need rebalancing if it's market cap weighted.
Imagine there are 2 companird: A with market cap $100 and B with market cap $50.
Now, let's say there is ETF created there 1 unit of ETF costs $3 and consists of $2 of stock A and $1 of stock B.
If stock B goes +100%, your ETF is now worth $4, and has 50/50 split between companies A and B. Similarly, now the market cap for A and B are same at $100 - so you're still holding them in correct ratios, even though the ratios have changed.
@juleskayak Yes, if you check your fund's prospectus they may include comments about their rebalancing methodology. You can also ask your brokerage (or look up online) the "tracking error" of a fund, which shows how accurately the fund's performance _actually_ matched the underlying index.
Also companies that go to market are new sellers as well. They also create new stock.
Hey, what's that ticker screen on the wall behind you?
it's a Divoom Pixoo 64
@@TobyNewbatt I looked it up. Very cool. Thx!
What index funds do is take shares out of circulation so what shares are left have huge impact on average price. It's basically the same as buybacks but for free
Great analogy. Definitely puts things into perspective when viewing the market holistically
Great video - made a lot of sense to me. Thanks :)
Glad to hear it!
Well, the answer I was hoping when watching this video, if everyone bought "and held" onto the index stocks, could there be not enough for everyone? Or would they create more shares at the cost of reduction of share price?
An ETF is set on the price set by buyers and sellers. If nobody sells then the price will go up…but there are always sellers and buyers 😎. At some point the price tempts someone to sell…and someone to buy
@@TobyNewbatt Yeah, I remember that point in the video, people are drawn to risk like the lotto ;) And I do play the lotto, but the stakes are low, and goes to a good cause :)
I do agree with what you say. However, I do do a few shares as I like the dividend income. From a UK perspective could you suggest some index funds that pay a good dividend, like a stock. I don't want to sell my holdings and do the 4% rubbish. Just buy and own and if I retire then just have another income source.
I hope this makes sense. Great videos and happy for you to post, discuss etc.
Regards
Bret
Thanks Bret, I to also enjoy some stocks on the side for fun :)
As a thought rememeber that even a boring old global index fund will pay you a quarterly dividend if you want it - the yield might be around 2% though nothing special. If you want more...just remember that it has to come from somewhere and will hurt your long term total returns.
I think a good example is having a rental property. Your rental income is like your dividend and your price appreciation is your house hopefully going up in value. However - you can't have a yield of 10% and a price appreciation of 10% as well (aside from some weird anamoly!)
The total stock market returns on average per year have been around 10% for a century or more - 6-8% has been from price appreciation and around 2-4% has been dividends (but in recent times dividends have been shelved for stock buy backs). For retirement my plans so far would be to hold 2-3 years of cash for living expenses and have everything else invested in global index funds - super simple. I'll then sell what I need to top things up and adjust as needed :)
@@TobyNewbatt Hi Toby, thank you for that. 👍
But lately there is a rise in active management etfs
For example active value is beating the index value,recently avantis and dimensional are growing aum fast and their cost is close to the passive ones
Excellent video Toby, liked and subscribed, will watch your other videos. I was thinking about this passive investing proliferation recently, but I do not have enough knowledge to predict consequences, so I liked your explanations. I know about investing habits of some people around me and almost all of them just buy low ER S&P or total US market ETFs or index funds these days because those are so promoted online. I know only one person who buys individual stocks. People buy much less international stock ETFs and bond funds as well today compared with 10-15 years ago. It does feel that it may create some bubble if people from around the globe just buy S&P 500 via ETFs and funds. And people are worried it will burst. But maybe it will not burst. There is some economy growth and high inflation, so the stock prices will continue to grow. I myself continue to buy US market ETFs as it worked in the past, but I did start to buy some treasuries as guaranteed 4+% for 10-20-30 years is pretty good. At least 10-15 years ago bond/treasury yields were terrible. Overall, people got much smarter with investing due to youtube, podcasts and other means of free education
There are many different index funds. Investing in a clean energy index or a chips index will give you different companies than a world index. There will be indexes that beat the world index and this will diversify capital.
Very interesting stats on managed portfolio vs index. What’s not mentioned there are the staggering compounding fees. I was victim of this where I invested in my retirement with Raymon & James and the money grew 4 % between 2019 and 2023. And most of it was sitting in cash with 0,1 % interest. Its shocking how many crooks there are in this world and that statistic shows it. Learn how money works, because at some point you will realise (like me) that no one cares about your money as much as you do!
There are these things called hedge funds. Many of them deeply analyse stocks and determine if they are underpriced, in which case they buy. If the market ever became hugely inefficient, people would pile in to close the inefficiency and make a fortune doing so. That’s why there will never be an index fund bubble
In the REAL world a LOT of hedge funds BLOW UP and have to be shut down after losing a HUGE proportion of their capital. Acting like these are reliably super efficient and accurate traders is INSANITY.
Buffett won a bet awhile back, betting a hedge fund couldn't outperform SPY over a decade. And that's just the broad market index of large stocks. Nothing special or pushing high growth like tech.
@@rogergeyer9851 OP has a point, if there’s inefficiencies in pricing between asset classes the market will fill the gap.
It’s essentially a risk free bet called arbitrage. It’s quite common in forex markets between multiple currency pairs or during merger/buyouts.
My wife worked for a Manhattan hedge fund for a while. She got out of there as soon as she was working for a literal scam and didn't want to get caught up in it when it imploded
If everyone buys index funds, it would be ridiculously profitable to pick stocks. If I was the only guy on the planet picking stocks while everyone else indexed, I'd be insanely wealthy and hailed a genius.
That'll never happen because the stock market environment is massively competitive and mispricing is jumped upon immediately.
Nothing to worry about. It'll correct itself as soon as indexing begins to even slightly cause inefficient stock pricing in my opinion.
The market would eventually self correct so the ETF value will eventually go back to its NAV. And this is even more so with automated computer algorithms that already take minute advantages of stock arbitrage, making pennies on the dollar, thus making the market correction returning to its NAV, happen faster, usually within a few seconds from a surge in supply or demand.
It might have been possible before the advent of stock trading algorithms (like pre 90's stock trading, where things were slow as heck). But now? Not so much.
I really appreciated this nuanced explanation of how the fears are overly simplistic
Appreciate the support 👍
Active fund doesn’t make sense after fees. Even if the fund manager beats the market do they beat it by enough to cover their cost of their fees and the tax burden that often comes with it?
Biggest problem I have too is the fee is the same on a year where they lose. Not only am I down, I’m also down fees for that year which now needs to be made up by even more gains the following years.
I reinvest my ETFs dividends and will do so for years growth.
I am gradually unwinding all my individual stock positions and going to VTI. It will take five years or so as I want to dollar cost average out and some of them pay good dividends and my cost basis is low thanks to DRIP. But, when I got to my NVDA shares last year, I held them. I am glad I did….. but there will come a time to unwind that position as well. That is the tough part, knowing when to sell.
While the market would never get to 100% index it could grow to where prices of individual stock are distorted from their intrinsic value. However I figured if individual stock prices got out of whack it would be self correcting. There will always be people who would step in to take advantage.
This assumes that the market is efficient enough.
Particularly in the case of the s&p 500, if it's overpriced, its likely to stay overpriced, until it hits a significant crash. This means that you are getting roughly the same returns as the market while taking on higher risks.
With this in mind, smarter investors would find ways to match the market returns, with lower risks, not necessarily seek to make a profit on stocks that are likely to stay overvalued until a crash.
Great video, and well researched. However, I think problems would arise if/when a handful of large active investors were able to manipulate the markets.
The major factor of why the trackers have performed so well is because of the insane concentration in a few US technology names. A lot of FM’s won’t hold such a large amount in single names. What’s my point, well it was easy to outperform the index by factoring this in. A lot of countries active managers smash their index.
Why not just have a fund that buys the index but throws out the stocks being recommended by active managers that underperform the index? This wouldn't require much management expense and would overperform the index by the same magnitude that the active managers underperform the index.
Because if you do that...you become an active manager :)
The point of index funds organised by market weight is that you have no idea what companies will do well in the future.
Just because a company stock price does badly one year, doesn't make it a bad investment.
Own everything, get the market return and you will beat most people :)
Good points Toby
I agree on pretty much everything in this video except the idea that great rewards for long shot is a good way to go about anything. I know this is how it works in most of the industry but, as a society, the implied excessive capitalisation and income inequality is a threat to the system stability.
Let's not forget that there are multiple "passive" index funds that get rebalanced according to fundamentals (i.e. Value, Quality stocks), so in practice there are ETFs that actually serves as counter-balance of the more traditional ETFs, such as SP500
There are so many companies I don't want to invest in. So I just pick a few I think that are ok, and keep them forever. I think this is not that much different from buying an index fund, but I can leave out companies I don't like.
Whilst I do own some passive funds, the majority of my investments are actively managed. Ultimately passive investors are reliant on active investors to ensure capital is properly allocated and thus valuations reflect company performance. Personally I choose to partake in that process. In doing so I hope to outperform, but am willing to accept the risk of under performance too (statistics don't lie!).
Capital allocation is performed by the company boards, on behalf of investors.
Good capital allocators (like Microsoft, Amazon etc) generate higher earnings which pushes prices up. Poor capital allocators (like Zoom) have no impact on earnings and prices go down.
It doesn't really matter whether the underlying shareholders are active or passive.
Sp500 index adjusts itself and costs 0.07% which is fuckall. Zero reason to be in active managed expensive funds
Mutual funds not only charge modest management fees @~1-2%, investors also incur hidden trade fees. The fees for most Index ETF's are super low and ETF's are more tax efficient. So, why pay more in fees? I'm just saying. NOTE: The returns on ANY investment MUST be at least 5-7% because you have to beat the rate of inflation, or you loose money over time. Then there's short term, 1 year (@15% ) TAX on gains.
That sounds pretty hideously high for a management fee. Even a target retirement year fund (where you pay even more to have someone else take it out of stocks and put it into bonds) shouldn't run that high.
For the active funds shouldn’t their success be measured by risk adjusted returns? Active managers are trying to get returns that are not correlated to the market
Some maybe not all - if an active funds objective is risk adjusted returns e.g. lower drawdowns during market crashes then fine.
but MOST are there to win in the long run and they suck....
Good video. But for your own understanding you should also understand the mandate and constraints of people/institutions that invest monies with hedge funds or active managers.
It usually is because of the large volatility of index funds. Retail usually end up taking risk that fund managers are not willing to do so.
And it will also be good to understand the role of who is selling index funds to you: market makers
Great video . I have 20% of my pension in active global fund with Baille Gifford on the off chance they pick the next Amazon like in the past 🤞🏼 Rest is passive. Global inc Small caps. Question Toby - is there any passive fund that tracks global market but more concentrated i.e global tracker of top 200 companies ? Was thinking this may provide better returns with more concentrated collection of global companies but still enough diversification as would be industry agnostic ?
Legal & General Global 100 Index Fund
IOO (iShares Global 100 ETF)
But I'd recommend investing in IWQU or IWFQ instead. It gets better returns.
I think some forget that index fund managers are active buyers and sellers. Not all are actively managed, but a lot of the specialty ones are. Sure, a lot of people are buy and forget, but I think there'll always be enough people in the middle, who think "yeah, we're heading into a recession, I don't want to be invested in entertainment but do want consumer staples," even though they aren't sure what companies to buy, therein.
Tech has always traded at a higher PE. The fact that they have grown so big, it makes sense that the overall PE avg is higher. To argue that index funds causes the overall PE to be higher, you’d need to show that non-tech funds in the S&P are also trading higher than usual, rather than the tech funds.
I wonder if could be possible to see the active investing companies size, because I do not think they are getting smaller. Are they?. Many fund have business model far beyond picking stocks in a portfolio, they could short the assess, select managers, affect the decisions, focus on venture capital, specialise in sector or countries and so on. Even in you select ETF does not means you use it well or diversity in the right way. The large passives etfs may ask customer to select and vote and similar options. Personally I like the idea of having a number of different products and strategies to compare across time. Stocks and debt are also a portion of assess you could use as well.
The reason the active fund managers can't beat the market is that their performance is being evaluated against their peers on a quarterly basis which is very short term. Therefore, they are incentivized to perform best in the short term and as a result the long term performance is sacrificed for the sake of short term benchmarks as they keep buying & selling to try to get the best results in the short term. That's where we retail investors have an advantage because we have a long term mind set. So we are not forced to sell any stock in the short term & can ride out the market fluctuations to get the best long term results.
there was an observation in horse racing and the trifecta. attempts by experts to pick the winners were generally unsuccessful. however, picking the losers was less difficult?
Great video. What would be interesting is comparing the long term share price of companies who are at sitting the margin of the S&P 500. Ie what happened when they entered the S&P500? Did their share price and PE ratio suddenly increase? What happened when they existed? Did their share price and PE ratio suddenly drop? This would help establish any causation of index fund inflation (rather than just correlation)
I think there was something like this, just like with the government bonds that get a bad rating I think.
There should be some influx of money through more potential buyers.
There's the crux though that most small added companies don't get much funds from index funds (especially when they don't have all 500) so there might be no significant change.
SuperMicro Computers Inc or Deckers Outdoor Corp for example should have been added in March but there's no really significant rise in their stock price.
@@xman7695 Agree that at the margin, smaller companies will only get a smaller amount of index fund demand due to their smaller market cap. But considering how popular the S&P 500 is, if a company slips out, every S&P 500 fund must then immediately sell all their shares in that company, and immediately buy lots of shares in the new company.
Surely all this artificial buying and selling must accelerate the fall of existing companies and accelerate the rise of companies who replace them? Even if the absolute effect on the index is miniscule, the relative effect on the companies entering and exiting the index must be significant?
Interestingly this video mentions indexes like the English Premier League. However what it doesn't point out is that in this index, the playoff final (getting promoted to the Premier League) has one of the biggest financial stakes of all games in world sport (bigger than superbowl), yet has almost no effect on the Premier League (index) itself. So huge relative gains/losses for the teams at the margin, yet no meaningful effect on the index.
I therefore can't help believe that index funds operate similarly - adding artificial price and inflationary pressure beyond true intrinsic value. Thoughts?
I believe there is some substance in the Index Bubble story. I watched a podcast Rational Reminder, where Mike Green makes a good and scary case of Index Bubble.
I got NVDA as large part
of my portfolio. I am happy buy and hold investor.
It doesn’t matter what fund you’re in. It’s all the same 15 stocks. It’s really just a matter of how much they charge you.
Large cap, sure. But total market...
There's a bog oversight with your theory. The funders who create index funds make money from that index fund based on the average dividends of that fund. This skews the market to create index funds which hold companies with dividends.
Would issues out more shares diluting the price
But surely the fact that the share price of the top 7 (say) companies in S&P 500 continue to grow is because anyone who invests in that index fund is disproportionately investing in those top 7. So as more people invest in index ETFs, the top ones will always grow far faster than the others. Consider the case where an Index fund has one very big company (say 80% value) and all the rest make up the remaining 20% of the ETF - by investing in that ETF, most of your money goes into that one big company. Every company has corrections, etc. but that isn't the point. The point is that investing in index funds will always tend to force the share price of the top companies in those funds to do even better. In a way, actively managed funds are competing against this tide unless they also invest in the top 7. Or have I got this wrong?
I hope I explained everything in this video if you watched it all the way through :)
If mispricing happens and a stock becomes too expensive, like you say, the active market can exploit the pricing differences. Yet...time and time again they fail to perform and there is still a HUGE amount of cash that is available to active managers and pickers.
I'm not 100% sure on what point you are trying to make here? Generally, the companies priced the highest are priced that way for a reason, if you feel otherwise you are welcome to actively pick stocks :) Thats the beauty of the market.
What about people who take a punt with different ETFs? So a bit of vusa, vwrl and then perhaps a ftse 100 or 250 as well? When do they go from being a passive investor to an active investor
Active investing is trying to maximise returns by timing the market. It could theoretically be done with a passive fund (or funds) but if I want to buy apples when they are cheap I don't buy a fruit salad!
I have 40% of my funds in s&p and 60% in the FTSE.
I'm 100% a passive investor.
Passive investors still have to have a market allocation strategy.
But once you have selected a market, you're just buying the whole of it.
That is great food for thought actually. I think as more money flow into passive investing. The market will become less efficient. To which point that the odds of success of active investing might start to improve and the statistics for active also improves. Then more people might flow back into active investing as people see statistics improving and wants to beat the market and the market becomes efficient again and the whole cycle begins again. There should should be an equilibrium point of the ratio between active and passive
Precisely this :)
And I would love to know at what point this happens!
Yeah. I would be curious about that too. But I guess regardless it shouldn't change our investing thesis. Just take comfort that there are always people that treat stock market as casinos, while we might mock them we do need them. Everytime I need reassurance that we will never run out of active investor I just think Gamestop 😂.
@@antofempire yep, the stock market is just a mechanism to transfer wealth from the impatient to the patient
That would also increase people’s purchasing power which would drive up prices of goods, services, and other asset classes.
as the global population stops increasing exponentially, will the value of index funds and the stock market stop increasing exponentially (will it stay positive 7-8% per year as it has been for the last 100 years?)