Index Investing Goes Full Circle

Abstract

Indexing today is anything but passive. Exchange-traded funds (ETFs) have never been more popular, but as the market has become increasingly crowded, the list of gimmicky, unproven indices that have ETFs tracking them is growing longer all the time. Reflecting a new perspective on investment management, investors are using passive instruments to implement active portfolio management strategies, also known as “portable beta” or “active indexing.” As investors increasingly assemble “portfolios of indices” to generate excess returns, the demarcation between alpha and beta blurs and the “active versus index” debate is rendered obsolete.

The investment problem increasingly revolves around the timing of the beta exposures, but one has to wonder if “market exposure” investing has gone too far—if we’re right back where we started. The explosion of narrowly defined indexes, and finely segmented, beta-centric investment products, has reached the point at which investors have to ask how this differs from regular old stock picking.

TOPICS: Exchange-traded funds and applications, mutual fund performance, portfolio construction