My thoughts on passive investing have evolved a lot over the years. First I had a rather unsophistacted view of The Index, as a kind of benchmark you were aiming to beat.
Then came an uncomfortable realization. There are multiple indices. Which one should you aim to beat and why? This question stuck with me and I didn't manage to resolve it at the time.
Then I learned about the argument that active investors cannot beat passive investors because on average these two groups will hold the same stocks in the same proportions. The active investors are just trading stock back and forth and incurring fees in the process. This seemed logical and convincing at the time.
A few years later I was trying to think on a theorethical level, how can active investors stand a chance against passive investors, if on average they hold the same things, and the passive investors don't incur fees? What I came up with was this: Stocks enter and exit indices. So even index funds have to do the occasional trade. If active investors as a group buy a stock before it enters an index, they can gain a leg up on the passive investors.
Then I thought of something even worse. A bad actor could "poison" the index by founding companies. Trade a few stocks back and forth with a buddy to establish a high market cap. If it makes it into the index, the index funds have to buy from you.*
Another thing that an index fund has to do is buy and sell when people enter and exit the fund, and when it does it has to trade with active investors. If active investors can predict in/outflows into the index-fund they can beat its cap-weighted**performance.
Recently I've been thinking about the inclusion criteria for the index. This kind of ties in with all of the previous threads I mentioned and unifies them. Every index has a bunch of inclusion criteria, this is completely necessary and inescapable or else the poison problem becomes serious. Whichever index you choose, there will be some good companies inside and some bad companies outside. Thus there is no right index to choose. And here is another opportunity for active investors as a group, trying to beat the inclusion criteria of the index. Avoiding the poison better than the index funds. And picking good companies that didn't make it inside, and of course investments that are outside the index because it's in a different region, or because they are not stock at all.
* This is a simple example. You could imagine a much more sophisticated scheme, with many different actors trading stocks back and forth, and mixing real companies in with the duds.
** An example to help the imagination: An index fund falls in value, almost everyone exit the fund. It recovers, people come back. Even though the fund is +-0, the average investor has lost money.