Can You Really Game Index Funds? • Hacker News Board

Re: Can You Really Game Index Funds?

#41

Post by kasey_junk » Wed, Jul 08, 2015, 3:09 AM UTC

snowmaker wrote: post #20

cma wrote: post #4

Order-handling companies pay for "dumb" flow. Vanguard can reduce their outright trading costs to negative by being as dumb about it as possible, and then use these negative costs to artificially lower their reported fees. Just because Vanguard claims to be smart about it, doesn't mean necessarily they actually are incentivized to be smart about it or actually are in practice. People can still judge them by how close…

Is there any evidence that Vanguard gets kick-backs in return for their dumb order flow? I would think that would be a HUGE scandal if it were true and ever came out.

Vanguard Brokerage Services disclosure about order flow payment can be found at:

http://vrs.vista-one-solutions.com/reports/1-6/vang/

Short answer is that Vanguard Brokerage Services did not receive compensation for equities order flow in 1QTR 2015, but did receive compensation for options order flow.

I have no idea what the laws are surrounding their index funds or how those index funds are allowed to/actually do interact with Vanguard Brokerage Services.

Re: Can You Really Game Index Funds?

#42

Post by tempestn » Wed, Jul 08, 2015, 4:06 AM UTC

anonu wrote: post #30

tempestn wrote: post #26

From what I can see, this article is on point, but is missing an important factor: the risk these "front runners" take. As soon as the announcement is made that a company is joining the index, it's public knowledge. In theory, the expected increase, minus a risk premium, should be priced in immediately. There will likely still be money to be made over the following days until the addition is complete, but it's far fr…

most of the juice is in predicting the move before the public announcement

Likely true. Also not without risk of course, since the chance of a stock getting added should also be priced in. If you're better than the "market" at predicting these things, you'll likely do well. I don't expect I am.

Re: Can You Really Game Index Funds?

#43

Post by jackgavigan » Wed, Jul 08, 2015, 4:23 AM UTC

Matt Levine stands out amongst journalists and commentators as someone who actually knows what he's writing about because he's been there, done it, and now wears the t-shirt when he's changing the oil on his car.

Re: Can You Really Game Index Funds?

#44

Post by Tomte » Wed, Jul 08, 2015, 4:38 AM UTC

danieltillett wrote: post #38

p1mrx wrote: post #37

Earlier quoted context omitted.

Yes, it's called a Total Stock Market Index Fund, and they are quite popular. There's really no reason to invest in the S&P500 anymore.

That makes sense. I am surprised why anyone would want to choose S&P500 in this case.

Because most of us don't live in the United States.

Good luck finding a total market index fund elsewhere.

Re: Can You Really Game Index Funds?

#45

Post by yxhuvud » Wed, Jul 08, 2015, 8:44 AM UTC

URSpider94 wrote: post #15

cma wrote: post #11

Earlier quoted context omitted.

No, the 20+ basis points is considering how the index itself underperforms, because stock prices get bid up just before they get added to the index and then drop back down as the liquidity crisis settles. The index, not just the etfs, take a hit. Vanguard claims to soften this by trading more deliberately and not buying or selling it all at the opening auction on the day a stock gets added or removed, respectively. S…

And yet, the index itself (not even the funds) reliably beats the overwhelming majority of active traders over almost any time window you care to look at.

That is typically due to low fees though, and not something that is inherently due to it being an index.

Hint: The people constructing the index are doing as much of an active choice of stocks as the active traders are. Nothing stops a trader from selecting stocks following the same strategies as how an index is selected.

Re: Can You Really Game Index Funds?

#46

Post by 6stringmerc » Wed, Jul 08, 2015, 1:55 PM UTC

tptacek wrote: post #12

Even if you don't care about the index fund "front-running" "scandal", the section starting at "The value of market-making is hard to see and easy to criticize" is critically important to understanding why the markets work the way they do. As always, Levine is fucking fantastic.

You know what's easier to criticize? Manipulating LIBOR and nobody going to jail. The downstream effects of instruments pegged to LIBOR is staggering, well, would be if the industry / reglatory agencies actually did anything of merit.

Remember, the main rationalization for Bernie Madoff's unbelievably consistent returns was that he was front-running, and fund after fund after fund after fund lined up to give him money. Besides, front-running isn't really where the big money is anyway. Insider trading is way, way more profitable from an individual standpoint.

Re: Can You Really Game Index Funds?

#47

Post by maaku » Wed, Jul 08, 2015, 2:57 PM UTC

Tideflat wrote: post #27

maaku wrote: post #25

Earlier quoted context omitted.

The majority, sure, but not all. Look at since-inception charts of POGRX, VHT, and BRK.B for example.

However, for a lazy or casual investor discovering the difference between the good managers and the lucky managers is very hard.

Eh, just compare the active fund against the S&P 500 on a suitably long enough horizon:

https://www.google.com/finance?q=NYSEARCA%3ASPY%2C+NYSEARCA%...

I'll admit it's looking for a needle in haystack though. In all my looking I've only found these three. Really just VHT and POGRX, since the success of BRK (Warren Buffett's company) is common knowledge.

Re: Can You Really Game Index Funds?

#48

Post by KingMob » Wed, Jul 08, 2015, 3:19 PM UTC

URSpider94 wrote: post #16

KingMob wrote: post #13

Earlier quoted context omitted.

Ehh, not quite. The author is indeed correct about the market-makers providing liquidity to everyone who wants to purchase on the day a company is added to an index. But saying "index funds free-ride on the work done by active investors" and then following with "no one thinks that active managers should be able to charge for their services, is a world that will spend too little time and effort on allocating capital t…

I didn't necessarily take him to be saying that. He is absolutely right that a market that is, quite literally, 100% passive would just sit there and not do anything -- it would just grow as money comes in, but there wouldn't be any relative movement of one share against another. However, we are in no danger of running out of active traders, so there's no need for anyone to run out and sell their indexed investments…

Hmm, well, that wasn't the impression I got. Given the venue and audience, that part of the article felt more like it was giving fund managers the talking points they need to lure in unsavvy investors.

Re: Can You Really Game Index Funds?

#49

Post by KingMob » Wed, Jul 08, 2015, 3:23 PM UTC

tptacek wrote: post #18

KingMob wrote: post #13

Earlier quoted context omitted.

Ehh, not quite. The author is indeed correct about the market-makers providing liquidity to everyone who wants to purchase on the day a company is added to an index. But saying "index funds free-ride on the work done by active investors" and then following with "no one thinks that active managers should be able to charge for their services, is a world that will spend too little time and effort on allocating capital t…

Levine does not think you should invest in actively-managed funds. The little coda about active management makes more sense if you read him religiously, because this is a schtick of his. Passive management helps most investors. But the market as an entity benefits from active management, because active management makes prices more accurate. This despite the fact that for the most part, contributing to the accuracy of…

I think too many people are erroneously conflating active fund managers with active traders, and my major objection to the article stems from how the author blurs the line between the two. But I admit, I'm not a regular reader of the author.

The market needs active traders for stock prices to accurately reflect investor opinion, but actively managed funds are not the only source of active trading.