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The Times' Rorshach Geithner Story
Apr 27 20099:04am EDT -
Sinking Animal Spirits
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Counter-cyclical Urban Policy
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Be Your Own Counterfeiter
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Being Tim Geithner
Apr 25 200912:04pm EDT -
Notes From a Press Conference Naif
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What Good is the News?
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Stressful Enough
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Not Regretting the Pound
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Introducing the New Ford Squeeze
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Non-Economic Questions of the Day
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The Stress Test Blind Alley
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Happy Hour
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Recovery Without Rebalancing
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The Shape of Your Recession
Apr 23 20095:04pm EDT
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Why Index Investing Isn't Passive Investing
In the debate over active vs passive investing, the base-case assumption is that a passive investment involves tracking a stock-market index, normally the S&P 500. But of course stock-market indices are actively managed, with listing requirements and changing components and survivorship bias and that kind of thing. And according to a fascinating paper by Angelo Ranaldo and Rainer Häberle, actively-managed indices significantly outperform a genuinely passive buy-and-hold strategy.
More precisely, actively-managed indices outperform a passive buy-and-hold approach in up markets, and they underperform in down markets. But since the whole point of investing in stocks is that they tend to go up over long periods of time, one can conclude that there is a real outperformance here over the long term.
I'm not sure how the efficient markets hypothesis deals with this: as you can see from the table above, the degree of outperformance is large. And I don't think it's a self-fulfilling phenomenon, either, where the very fact of being included in an index causes a stock to outperform: the same phenomenon is seen in relatively unpopular indices which aren't benchmarked.
But this is yet another reason to buy index funds rather than individual stocks. If you buy and hold your stocks like any good long-term investor should, you have to outperform substantially just to keep up with the index, let alone beat it.
