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A Profitable and Legal Way to Game the Stock Market

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Re: A Profitable and Legal Way to Game the Stock Market

#51

Post by sdenton4 »

chollida1 wrote: post #3

I expected to see (1995) tagged to the end of this article. I personally know 3 people who run their own money ( Having said that, this isn't exactly easy. You need to know 1) if a stock is going into the index 2) when its going into the index 3) how much the index will buy 4) how much the index buy will affect the price of the stock the first 3 are trivial for some index funds, though most have rules that allow them…

I actually found $20 on the ground yesterday as I left the Bart. It just sat there, contradicting fundamental economic axioms like it wasn't no thang. And yeah, sure, I picked it up, but I'm also not quitting my day job.

Re: A Profitable and Legal Way to Game the Stock Market

#52

Post by cpncrunch »

phkahler wrote: post #23

Can't the fund "managers" just add is some slop in their buying so they don't cause such a large spike? The spike in demand is what makes this strategy possible, so spreading the demand over period of days or even a week should reduce the spike and the profitability of the strategy. I know they want their fund to match the index, but if this ever became a problem I think they could squash it pretty simply.

According to the article, Vanguard already does this. I suspect it's mostly a non-issue for properly managed index funds.

Re: A Profitable and Legal Way to Game the Stock Market

#53

Post by arielweisberg »

gohrt wrote: post #45
arielweisberg wrote: post #21

Sure some people get rich, but for buy and hold investors it's mostly a non-issue. The expense ratio of an S&P 500 index is still very small. A total market fund won't have the same front running issues and the expense ratios on those can actually be higher than the S&P 500 index funds. IOW the overhead here is in the noise IMO.

The point of the article is that owning an index fund is NOT buy-and-hold -- the indexs sell to rebalance, and do so in poorly timed ways (that is, in hige fixed batches, contrary to standard advise to "drip"), exposing investors to trading waste that the indexes are designed to avoid -- undermining the purpose of the index fund. 0.2% waste is huge compared to the overhead fee of an index fund. VTSMX fee is 0.17%. >…

I did mean higher than, but that is because I incorrectly included the overhead of front running in the expense ratio when I think it would actually manifest as a failure to track the index. Some total market funds end up being a hair pricier (VTSAX and VFIAX are both .05% right now).

Still, if you look at VFIAX it tracks the index perfectly despite front running so it is still nothing to worry about. The amount of money in index funds is large so there is room for a few people to make some money without a big impact. There is some deviation that is significant around the 35 year mark, but do we even know that front running is the cause?

My understanding is that in practical terms weighting shouldn't matter for indexes for the most part since you should only have to buy/sell when funds enter/leave the index (that is the bug). The weight should track without any active trading because it's based on market cap. You buy it and if the market cap increases so does the holding and if it decreases so does the holding. No need for trading.

Now if you want equal weighting among the 500. Well that is an issue. It's one reason not to buy an equal weighted fund.

I know people are thinking of other more problematic indexes than the S&P 500. I don't because I don't buy them so I haven't given a lot of thought to what front running means to them. My investment objective is to hold the entire investable space weighted by market cap (modulo currency risk and home bias) and most indexes play no part of that.

Re: A Profitable and Legal Way to Game the Stock Market

#54

Post by s73v3r »

gaadd33 wrote: post #37
gesman wrote: post #13

Mom-and-pop investors cannot take advantage of this (and many other opportunities) because they have to feed a long chain of middlemen through prohibitively high costs of trading as well as always being on the worst side of bid-ask spreads. And then of course the value and the cost of high quality information delivered to you in a timely manner is a bit different than staring on CNBC screens.

Why can't mom-and-pop investors open an account at a place like Interactive Brokers and trade options on these events? The cost is pretty small per trade (maybe $1-2 for most stock and option trades) and the bid/ask spread isn't that bad if you are talking about an 11% move in a very liquid stock.

Because mom and pop investors have lives, children, jobs, bills, and the other stuff that demands their attention away from watching the stock market ever so closely.

Re: A Profitable and Legal Way to Game the Stock Market

#55

Post by briHass »

anonymousDan wrote: post #49
briHass wrote: post #28

Even in the worst case -- Vanguard doesn't lose anywhere near this premium -- we're talking 20-30 bps, or .25%. It's one of those scenarios where one has to choose what is less bad. Sure, an active manager could play with the index a bit more to help avoid this, but you'd be paying a lot more than .25% for his effort. It might, however, be a good enough reason to side-step this issue and use Total Stock Market (VTSMX…

But don't those Total Stock Market indices have some kind of weighting for each stock? Wouldn't changes in the weightings just leave you with the same problem? Or maybe I'm missing something?

They do, but Vanguard (and probably other fund companies) take a number of steps to help prevent frontrunning. For one, Vanguard recently moved its benchmark provider to FTSE Group (CRSP) for many funds, which takes more of an averaged trade-price approach to determining weights. They also delay trades and "packet" securities between indexes and buffering small changes in market cap from predicting trades.

It's not impossible for someone to squeak some money out of the predictability of an index, but it's not something that makes a ton of material difference with a company like Vanguard.

Some info: http://www.bogleheads.org/wiki/Stock_market_indexing

Re: A Profitable and Legal Way to Game the Stock Market

#56

Post by pa5tabear »

juliangregorian wrote: post #47
jerf wrote: post #15

Earlier quoted context omitted.

It's a nice, clear example of the anti-inductivity of the market: http://lesswrong.com/lw/yv/markets_are_antiinductive/ The very act of noticing that something is a good strategy, and beginning to trade on it, will over time drain away the utility of the strategy, until it is useless or worse than useless. Tracking indexes is "big", and has some brute simplicity about it, but eventually the market will eliminate that…

Show me an actively managed portfolio that consistently beats an index fund and I'll believe it. Until then, you guys can pretend to have all the inside information you want, but numbers don't lie.

Don't the top hedge funds consistently outperform the market?

Re: A Profitable and Legal Way to Game the Stock Market

#57

Post by theptip »

pa5tabear wrote: post #56
juliangregorian wrote: post #47

Earlier quoted context omitted.

Show me an actively managed portfolio that consistently beats an index fund and I'll believe it. Until then, you guys can pretend to have all the inside information you want, but numbers don't lie.

Don't the top hedge funds consistently outperform the market?

AKA the survivorship bias.

Re: A Profitable and Legal Way to Game the Stock Market

#58

Post by littletimmy »

Far as I understand it, the investment market exists on the edge between actively managed and passively managed funds.

Actively managed funds exploit inefficiencies in the market, but the more active funds there are, the less their returns through competition. Passive funds are wonderful when the market is efficient, but the more passive funds there are, the more inefficient the market, and the more profit active funds can make. This should create a natural equilibrium between active funds and passive funds where the market should "settle" and returns are optimal for both parties.

Anyone know how to calculate that?

Re: A Profitable and Legal Way to Game the Stock Market

#59

Post by spectrum1234 »

The reason this happens is because of strict ruling on how index funds must track the index (as the article mentions). There is no way around this unless...

You loosen the requirements on how strict the index fund must track. Portfolio managers are incentived to trade smartly if they are ALLOWED to. This is why bulk trades are usually "random" to avoid front-running.

So a solution here is create a competitor to Vanguard who has loose, yet well defined rules that define an index fund and how closely it must track an index. That's it.

EDIT: Others are commenting on index funds have to redefine themselves and add/subtract funds. But that is only the index, not the cause of the price movements. That is looking at it backwards. You need to look towards those moving the prices, like Vanguard, to find a solution.

Re: A Profitable and Legal Way to Game the Stock Market

#60

Post by gnopgnip »

lingben wrote: post #46

Just reading the title, I thought this would be another article about the Congressional loophole - where members of Congress can trade on insider information with impunity. https://firstlook.org/theintercept/2015/05/07/congress-argue...

When does insider information become public? When does trading on it become manipulating the market?
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