If you read this blog regularly, you know that we advocate a passive, low-cost, diversified investment portfolio. Most people equate that to index funds. For the majority of investors, index funds are a great alternative to their actively managed counterparts. But not everything about index funds is perfect. About 10 years ago we started to hear about some of the "front-running" that happens with index funds. Bloomberg has an article out called: The Hugely Profitable, Wholly Legal Way to Game the Stock Market:
When an index reconstitutes, it removes a group of stocks and adds another group. If you are a hedge fund or trader and you can guess in advance which stocks they will be, you can buy (or sell) them in advance of billions of dollars moving into (or out of) these specific securities. This is one of the reasons we choose to use a passive alternative to index funds. Here is another excerpt depicting a real-life example:
Don't get me wrong. Index funds, when compared to actively managed funds, get you 80% of the way there. The other 20% are some of the fringe activities that can be done to improve returns- developing a patient trading strategy, overweighting known risk premiums like small and value stocks, and other small moves like securities lending and not being a slave to tracking error. Improving portfolios, one small step at a time by the factors presented above, can have substantial positive impact on portfolio returns.
Information contained herein has been obtained from sources considered reliable, but its accuracy and completeness are not guaranteed. It is not intended as the primary basis for financial planning or investment decisions and should not be construed as advice meeting the particular investment needs of any investor. This material has been prepared for information purposes only and is not a solicitation or an offer to buy any security or instrument or to participate in any trading strategy. Past performance is no guarantee of future results.