July 1, 2020 – One question that I frequently get – in the comments section, via email and in-person – is whether the continued shift away from active stock picking and into passive index investing is all going to create one big, scary bubble. Will this all end in tears? As a member of the FIRE community and a lifelong true believer in passive indexing, it definitely piqued my interest when I heard that I’m (partially) responsible for increasing market inefficiencies and dislocations and potentially even a bubble.
The issue of the “passive investing bubble” bubbles up, so to say, with great regularity. An example is the August 2019 Bloomberg piece “The Big Short’s Michael Burry Sees a Bubble in Passive Investing” likening the current state of the equity market to the crazy CDO market right before the 2008/9 meltdown. Well, that definitely got everyone’s attention! Especially during the slow months in the summer when there isn’t much else going on and financial journalists have to come up with some eye-catching headline!
Long story short, I find that this a bunch of mumbo-jumbo. And instead of replying via email about 10 times a year I just decided to write a blog post about this topic, so I can point to this post in the future if there are people still wondering about my views. That saves me a lot of time and I get to distribute my view to a larger audience, just in case other readers had this same question. And I get into the details a bit more than in a short email reply.
So, why am I not too worried about this shift to passive indexing? Let’s take a look…