Trillions: a new history of the rise and rise of passive investment

A new book by Financial Times journalist Robin Wigglesworth surveys the history of index funds and considers their increasingly significant implications for the global economy.

The Chicago School

The book opens with a story that has come to encapsulate the case for passive investment, the 2007 wager between legendary investor Warren Buffet and hedge fund manager Ted Seides pitting the 10 year performance of a cheap S&P 500 tracker against that of a fund compiled of five top hedge funds. The result was emphatic, Buffet’s chosen tracker, the Vanguard 500 Index Fund available to any retail investor, returning 125.8% over the period against 36.3% for the fund-of-hedge-funds. The margin was all the more remarkable for the fact that the decade encompassed the financial crash and its aftermath, turbulent conditions in which hedge funds, able to both buy and sell stocks under the oversight of the industry’s self-styled elite, should have been at an advantage against a humble tracker obliged to go with the flow of the market.

The first index funds

Given the scepticism of the emerging passive investment movement regarding the ability of professional asset managers to pick winning stocks it’s hardly surprising that the first index funds were pioneered by those on the industry’s fringes. As an executive at one mainstream investment fund put it: ‘I can’t believe that the great mass of investors are going to be satisfied with just receiving average returns. The name of the game is to be the best.’

Uncharted waters

The book’s concluding chapters zoom out from storytelling mode to consider the impact of the ongoing passive revolution. Wigglesworth is a fan. Although passive products have earned billions for the owners of the leading index funds, the bigger picture shows they have done much to spread the financial sector’s wealth to ordinary investors. Competition from low cost index funds — the Vanguard tracker Buffet purchased cost just 0.04% a year — has forced active managers to significantly reduce their fees, which used to include the notorious ‘load’, an upfront sales charge that would take a cut of 5 to 10% of the initial money invested, annual fees of around 2%, and, very often, performance fees taking a slice of the profits generated. Since the advent of ETFs mutual fund fees have halved. BlackRock CEO Larry Fink plausibly suggests that, love them or hate them, the big index providers are shaking up the finance sector much as Amazon have transformed retail, giving consumers what they want: lower costs, transparency and convenience.

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