Why Index Funds Are Like Subprime CDOs • Hacker News Board

Re: Why Index Funds Are Like Subprime CDOs

#141

Post by ninv » Wed, Sep 04, 2019, 6:27 PM UTC

drelihan wrote: post #127

markbnj wrote: post #58

Not knowledgeable on these matters, so my money is in index funds. Obviously a lot of other people are in the same category as myself. The article seems to be saying we'd all be better financial citizens if we put our money into actively managed funds, or did our own investing. The latter is out of reach for most people, and with respect to the former it's somewhat puzzling that managed funds can't consistently outpe…

Imagine there was a cookie market made up of two types of cookies, tasty and meh. An active investor in cookies would spend time determining which cookies are likely tasty and which are meh. They would pay more for the tastier cookies so they can savor the flavor and less for the meh ones they can binge eat in the shower when no one is home.... A passive investor comes along and says, I don't want to do all this rese…

What i understood was all investors are buying basket of tasty cookies and no one is buying meh cookies' basket or cookies. So tasty cookies are overvalued and meh cookies are under valued.

Re: Why Index Funds Are Like Subprime CDOs

#142

Post by Kiro » Wed, Sep 04, 2019, 6:30 PM UTC

southphillyman wrote: post #137

Kiro wrote: post #130

Earlier quoted context omitted.

Stupid question but what are you looking for when browsing Vanguard? I thought all the index funds were the same, just following the index.

They have different asset classes, different minimums, different historical returns. Etc

Thanks. Another stupid question: how can two index funds have different returns? Are they following different indexes?

Re: Why Index Funds Are Like Subprime CDOs

#143

Post by whatok » Wed, Sep 04, 2019, 6:32 PM UTC

pwthornton wrote: post #124

whatok wrote: post #87

Earlier quoted context omitted.

You can't run most active management strategies on anything approaching the average passive fee structure. Additionally, you run into problems with scale. An S&P 500 tracking fund scales extremely well and could add several billion of AUM without having to incur additional expenses. A long only equity fund would probably not be able to do the same without hiring more people, building more infrastructure, etc.

I get that the fees can't be comparable, but without passive management, active management fees are unchecked, and they rose a lot over time. I'm willing to agree that it should cost an order of magnitude more for an actively managed fee, but most are beyond that. A lot of this seems like plain greed to me, combined with grift and graft. A lot of workplace plans try to funnel people into actively managed funds that o…

I'm not sure how fees are unchecked. Active management fees have fallen quite a bit over the past 5+ years. A lot of mediocre managers have gone out of business and many more probably will as well. Additionally, new fund launches are near all-time lows.

Re: Why Index Funds Are Like Subprime CDOs

#144

Post by whatok » Wed, Sep 04, 2019, 6:37 PM UTC

dlp211 wrote: post #135

whatok wrote: post #87

Earlier quoted context omitted.

You can't run most active management strategies on anything approaching the average passive fee structure. Additionally, you run into problems with scale. An S&P 500 tracking fund scales extremely well and could add several billion of AUM without having to incur additional expenses. A long only equity fund would probably not be able to do the same without hiring more people, building more infrastructure, etc.

But there is no reason that they need to be so high. Vanguard Primecap is like .45. Unfortunately it's closed to new investors.

Define "so high". If fees are too high, why is anyone paying them? How do you determine what's high?

Re: Why Index Funds Are Like Subprime CDOs

#145

Post by graeme » Wed, Sep 04, 2019, 6:37 PM UTC

sokoloff wrote: post #138

graeme wrote: post #96

Index funds definitely have a free rider problem. Warren Buffett lucidly pointed out that the average performance of active investors will be....the market average. You cannot, by definition, have a majority of investors beating the market. And once you add in fees, index funds produce above average performance, as they have low fees. So far so good. But, the index funds are free riding on the decisions taken by acti…

> You cannot, by definition, have a majority of investors beating the market. You cannot have a majority of money beating the market. It is mathematically possible for a majority of investors (each relatively small) beat the overall market (albeit unlikely). (I agree with your overall post, but not that line.)

Oh true

Re: Why Index Funds Are Like Subprime CDOs

#146

Post by yourapostasy » Wed, Sep 04, 2019, 6:38 PM UTC

jpmattia wrote: post #51

throwaway713 wrote: post #4

Can someone who understands investing well explain what he’s saying in terms that someone who isn’t knowledgeable about this could understand? I kind of think he’s saying that everyone is just shoveling their money into index funds without thinking about it and this leads to incorrectly valued stock that will correct in the form of a crash at some point. Is that sort of the gist of it?

Most folks here are focusing on Burry's comments regarding price-discovery. However there is another huge point: Liquidity risk. To understand his point, you have to know the gory details of how an ETF operates. First: When you buy a ETF share for the S&P 500 (iShares, Vanguard etc), the share is not backed by all 500 S&P components. Virtually all the large-number component ETFs are using a sampling of shares to matc…

> ..."you can't lose money in the stock market long-term"...

Put in a large enough number of years in that "long-term", and it is true. But many people don't have the time horizons of institutional investors, so what is "long-term" to an re-insurance company might be "lifetime" to an individual investor.

Now, if we could only resolve the principal-agent problem for institutional investors to the benefit of individual participants that make up the institution's backers...

Re: Why Index Funds Are Like Subprime CDOs

#147

Post by kgwgk » Wed, Sep 04, 2019, 6:49 PM UTC

ninv wrote: post #141

drelihan wrote: post #127

Earlier quoted context omitted.

Imagine there was a cookie market made up of two types of cookies, tasty and meh. An active investor in cookies would spend time determining which cookies are likely tasty and which are meh. They would pay more for the tastier cookies so they can savor the flavor and less for the meh ones they can binge eat in the shower when no one is home.... A passive investor comes along and says, I don't want to do all this rese…

What i understood was all investors are buying basket of tasty cookies and no one is buying meh cookies' basket or cookies. So tasty cookies are overvalued and meh cookies are under valued.

"And now passive investing has removed price discovery from the [cookie] markets. The simple theses and the models that get people into [cookie baskets] -- these do not require the [cookie]-level analysis that is required for true price discovery."

Re: Why Index Funds Are Like Subprime CDOs

#148

Post by shalmanese » Wed, Sep 04, 2019, 6:50 PM UTC

drelihan wrote: post #127

markbnj wrote: post #58

Not knowledgeable on these matters, so my money is in index funds. Obviously a lot of other people are in the same category as myself. The article seems to be saying we'd all be better financial citizens if we put our money into actively managed funds, or did our own investing. The latter is out of reach for most people, and with respect to the former it's somewhat puzzling that managed funds can't consistently outpe…

Imagine there was a cookie market made up of two types of cookies, tasty and meh. An active investor in cookies would spend time determining which cookies are likely tasty and which are meh. They would pay more for the tastier cookies so they can savor the flavor and less for the meh ones they can binge eat in the shower when no one is home.... A passive investor comes along and says, I don't want to do all this rese…

At the limit of 100% passive, everyone agrees the system would break down. But that’s not a realistic endpoint. There are studies to suggest that as little as 1% active is enough to keep the markets functioning and we’re nowhere near that point.

Re: Why Index Funds Are Like Subprime CDOs

#149

Post by pwthornton » Wed, Sep 04, 2019, 6:50 PM UTC

whatok wrote: post #144

dlp211 wrote: post #135

Earlier quoted context omitted.

But there is no reason that they need to be so high. Vanguard Primecap is like .45. Unfortunately it's closed to new investors.

Define "so high". If fees are too high, why is anyone paying them? How do you determine what's high?

People are fleeing to index funds, which is what is spurring posts like this.

There are all of these complaints from people who run actively managed funds, never once mentioning that the fees might be why so much capital is going to passively managed funds.

People like myself who invest exclusively in index funds do so because the fees charged by actively managed funds are not supported by performance.

Re: Why Index Funds Are Like Subprime CDOs

#150

Post by entee » Wed, Sep 04, 2019, 6:53 PM UTC

ptero wrote: post #140

markbnj wrote: post #58

Not knowledgeable on these matters, so my money is in index funds. Obviously a lot of other people are in the same category as myself. The article seems to be saying we'd all be better financial citizens if we put our money into actively managed funds, or did our own investing. The latter is out of reach for most people, and with respect to the former it's somewhat puzzling that managed funds can't consistently outpe…

I will try to interpret, but obviously it is just my interpretation (and personally I mostly agree with many theses Burry gave). First, he does not really talk about being a "good citizen" or not. His points are for "greedy citizens" who, in his view, should be worried (about his pocketbook) if he is heavily invested in passive index funds. This is due to his "bigger and bigger crowds, same exits" analogy: individual…

So the result would then be something like the flash crash?

I share your understanding of the article, it’s not about “index bad active good”, it’s about, “is there a problem when a lot of investors have to move quickly”. I wonder if there is some analysis of this during the last crash.