Pimco critique of passive investing

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Pimco critique of passive investing

Postby AZK » Thu Feb 07, 2013 10:21 am

My FIL sent me this since he knows I'm a pretty passionate boglehead.

Thought you all might find it interesting.

http://www.pimco.com/EN/Insights/Pages/ ... tions.aspx
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Re: Pimco critique of passive investing

Postby Tigermoose » Thu Feb 07, 2013 10:36 am

“It is difficult to get a man to understand something, when his salary depends on his not understanding it.”
― Upton Sinclair, I, Candidate for Governor: And How I Got Licked
Institutions matter
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Re: Pimco critique of passive investing

Postby tadamsmar » Thu Feb 07, 2013 10:52 am

The passive investor is not in a straight-jacket. He is in a device that mimics the composite moves of active investors.

The passive investor is not ignoring the risk-adjusted expected future return on capital of his investments. Or rather, he is ignoring it (or not ) exactly to the extent that the active investors are ignoring it (or not). And he is doing this at lower cost relative to the active investor.
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Re: Pimco critique of passive investing

Postby FafnerMorell » Thu Feb 07, 2013 11:07 am

You'd think with what Pimco pays these guys, they'd be to come up with some more creative & original points. Looks like the usual "Passive isn't optimal, it just protects you from fear and greed" (sounds good to me) and "If everyone was passive, it wouldn't work" (Thank goodness for those 2/20 hedge funds, huh!) and "History tells us that these strategies work until they don’t" (Err, OK, so let's follow strategies that don't work until they do?).
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Re: Pimco critique of passive investing

Postby magician » Thu Feb 07, 2013 11:29 am

I just got asked to teach a 3-day Level III CFA review course at PIMCO in April.

If I remember, I'll ask the candidates about this.

(This is nothing new, by the way; I was at PIMCO for 6 years until 2001 and it was ever the same.)
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Re: Pimco critique of passive investing

Postby NYBoglehead » Thu Feb 07, 2013 11:34 am

FafnerMorell wrote:You'd think with what Pimco pays these guys, they'd be to come up with some more creative & original points. Looks like the usual "Passive isn't optimal, it just protects you from fear and greed" (sounds good to me) and "If everyone was passive, it wouldn't work" (Thank goodness for those 2/20 hedge funds, huh!) and "History tells us that these strategies work until they don’t" (Err, OK, so let's follow strategies that don't work until they do?).


What these guys always forget that is collectively we are the entire market. If 90% of dollars were in index funds, 5% would outperform and 5% would underperform. Why is this mathematical certainty so hard for these Ivy League geniuses to understand.

And right you are about 2/20 hedge funds, they will ensure that people will underperform for years to come! The biggest problem I have with hedge funds is they have crept into some municipal pension funds, so they are now siphoning fees from the tax-paying public. Absolutely terrible.
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Re: Pimco critique of passive investing

Postby magician » Thu Feb 07, 2013 11:58 am

NYBoglehead wrote:
FafnerMorell wrote:You'd think with what Pimco pays these guys, they'd be to come up with some more creative & original points. Looks like the usual "Passive isn't optimal, it just protects you from fear and greed" (sounds good to me) and "If everyone was passive, it wouldn't work" (Thank goodness for those 2/20 hedge funds, huh!) and "History tells us that these strategies work until they don’t" (Err, OK, so let's follow strategies that don't work until they do?).

What these guys always forget that is collectively we are the entire market. If 90% of dollars were in index funds, 5% would outperform and 5% would underperform.

Not necessarily; it may be that 9% underperforms (a little) and 1% outperforms (a lot), or vice-versa.
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Re: Pimco critique of passive investing

Postby NYBoglehead » Thu Feb 07, 2013 12:02 pm

magician wrote:
NYBoglehead wrote:
FafnerMorell wrote:You'd think with what Pimco pays these guys, they'd be to come up with some more creative & original points. Looks like the usual "Passive isn't optimal, it just protects you from fear and greed" (sounds good to me) and "If everyone was passive, it wouldn't work" (Thank goodness for those 2/20 hedge funds, huh!) and "History tells us that these strategies work until they don’t" (Err, OK, so let's follow strategies that don't work until they do?).

What these guys always forget that is collectively we are the entire market. If 90% of dollars were in index funds, 5% would outperform and 5% would underperform.

Not necessarily; it may be that 9% underperforms (a little) and 1% outperforms (a lot), or vice-versa.


Thanks for the correction, I meant to get that across.
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Re: Pimco critique of passive investing

Postby magician » Thu Feb 07, 2013 12:09 pm

NYBoglehead wrote:
magician wrote:
NYBoglehead wrote:
FafnerMorell wrote:You'd think with what Pimco pays these guys, they'd be to come up with some more creative & original points. Looks like the usual "Passive isn't optimal, it just protects you from fear and greed" (sounds good to me) and "If everyone was passive, it wouldn't work" (Thank goodness for those 2/20 hedge funds, huh!) and "History tells us that these strategies work until they don’t" (Err, OK, so let's follow strategies that don't work until they do?).

What these guys always forget that is collectively we are the entire market. If 90% of dollars were in index funds, 5% would outperform and 5% would underperform.

Not necessarily; it may be that 9% underperforms (a little) and 1% outperforms (a lot), or vice-versa.

Thanks for the correction, I meant to get that across.

I knew that; just yanking your chain.
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Re: Pimco critique of passive investing

Postby bottlecap » Thu Feb 07, 2013 12:12 pm

Thanks for the laugh. I had two thoughts that jumped to mind:

1. Everything the guy says about cap-weighted, suboptimal, etc... makes sense on the surface. The turd in the punchbowl is the results. Active management is not optimal and even more "suboptimal" than indexing when in put into real-life practice; and

2. Contrary to popular belief, markets can remain efficient (however you define that) with very few actors (in this case, investors). So should our fairy tale world suddenly exist, where almost everyone indexes and there are just a few active mutual fund investors, it could very well still be efficient. Moreover, when and if it's not (and the percentage investing in index funds thereby creates exploitable opportunities for active investors), people will move out of indexing to profit. Even if you believe the argument, at some point an equilibrium will be reached between just the right amount of active and index investors. Results continue to suggest we haven't reached that point, should it exist.

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Re: Pimco critique of passive investing

Postby Chan_va » Thu Feb 07, 2013 12:18 pm

Indexing is the worst way to invest - except for every other form of investing out there.
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Re: Pimco critique of passive investing

Postby tadamsmar » Thu Feb 07, 2013 12:29 pm

At least the guy should make the (perhaps veiled) claim that the reader is smarter than the average active investor. At least, if you start with that premise you can arrive at a proof that the reader should not be passive. As it stands, the guy never even made an argument, he just rambled and threw out a few slurs (straight jacket, herd) at passive investors.

Makes me inclined to avoid Pimco even more than I do now.
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Re: Pimco critique of passive investing

Postby Phineas J. Whoopee » Thu Feb 07, 2013 12:42 pm

Now I've seen it all. Hodge calls private individuals choosing to invest their savings into private businesses in a manner to their liking socialists.

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Re: Pimco critique of passive investing

Postby hoops777 » Thu Feb 07, 2013 1:55 pm

What is the boglehead response to cap weighted vs equal weighted index investing.I just read an article saying the guggenheim equal weighted index has outperformed the cap weighted by I believe about 2% over time.
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Re: Pimco critique of passive investing

Postby NYBoglehead » Thu Feb 07, 2013 1:59 pm

hoops777 wrote:What is the boglehead response to cap weighted vs equal weighted index investing.I just read an article saying the guggenheim equal weighted index has outperformed the cap weighted by I believe about 2% over time.


I prefer cap weighted. I have no desire to hold the same amount of Monster Energy Drink as I do Exxon Mobil, Apple, JP Morgan, etc.
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Re: Pimco critique of passive investing

Postby SSSS » Thu Feb 07, 2013 2:00 pm

hoops777 wrote:What is the boglehead response to cap weighted vs equal weighted index investing.I just read an article saying the guggenheim equal weighted index has outperformed the cap weighted by I believe about 2% over time.


Opinions differ, but here are the standard responses:

1. Equal-weight requires frequent rebalancing, which incurs huge trading costs and makes the fund vulnerable to frontrunning.

2. Equal-weight is essentially just a tilt towards smaller companies, which could be replicated much more cheaply by holding a small-cap fund.
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Re: Pimco critique of passive investing

Postby pkcrafter » Thu Feb 07, 2013 2:01 pm

I was put off right away by the straightjacket title and especially by the connection to the mentally ill. There are actually very few articles by professionals that attack indexing, but early in the article the author explains why indexing is getting a lot of interest. "The most obvious cause is rising investor disenchantment with actively managed equity funds – and perhaps with good reason."

The author brings up the old argument about indexing driving up prices, but this was much more pronounced in 1999. In theory, if prices are distorted and overvalued, then there should be opportunity for active managers to capitalize on it, but what did they do? They loaded up on tech stocks losing their investors about 90% of their assets. Also, this argument seems to look at only the large cap category, ignoring all other asset classes. Those who were diversified in 1999 with value and small did much better. The author also seems to blame a rising market totally on investors moving to index funds. That is absurd, but Dunn's law is now at work.

"When an asset class does well, an index fund in that asset class does even better."--Steven Dunn

Hodge:
While passive strategies can protect us from our worst predilections of fear and greed, they can also serve to artificially restrict the free flow of capital into an optimal set of investments and potential returns.

Well, doesn't this present an obvious opportunity for active management? Why don't they move faster to adjust the market? Oh, maybe it's because they want to be where the money is. Don't blame inefficiency on indexers!
Hodge's summary: The community of active investment managers can and should do better. Investors deserve a better option than straitjacket passive strategies, especially in this policy-driven, debt-burdened, modest-growth environment.

From this you can conclude that it's active management that has driven investors to indexing, and Hodge seems to be putting the challenge to active managers--well, other than PIMCO mangers. Or another way to look at it--the article is not about indexing; it's about poor active managment. :happy

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Re: Pimco critique of passive investing

Postby NYBoglehead » Thu Feb 07, 2013 2:07 pm

pkcrafter wrote:I was put off right away by the straightjacket title and especially by the connection to the mentally ill. There are actually very few articles by professionals that attack indexing, but early in the article the author explains why indexing is getting a lot of interest. "The most obvious cause is rising investor disenchantment with actively managed equity funds – and perhaps with good reason."

The author brings up the old argument about indexing driving up prices, but this was much more pronounced in 1999. In theory, if prices are distorted and overvalued, then there should be opportunity for active managers to capitalize on it, but what did they do? They loaded up on tech stocks losing their investors about 90% of their assets. Also, this argument seems to look at only the large cap category, ignoring all other asset classes. Those who were diversified in 1999 with value and small did much better. The author also seems to blame a rising market totally on investors moving to index funds. That is absurd, but Dunn's law is now at work.

"When an asset class does well, an index fund in that asset class does even better."--Steven Dunn

Hodge:
While passive strategies can protect us from our worst predilections of fear and greed, they can also serve to artificially restrict the free flow of capital into an optimal set of investments and potential returns.

Well, doesn't this present an obvious opportunity for active management? Why don't they move faster to adjust the market? Oh, maybe it's because they want to be where the money is. Don't blame inefficiency on indexers!
Hodge's summary: The community of active investment managers can and should do better. Investors deserve a better option than straitjacket passive strategies, especially in this policy-driven, debt-burdened, modest-growth environment.

From this you can conclude that it's active management that has driven investors to indexing, and Hodge seems to be putting the challenge to active managers--well, other than PIMCO mangers. Or another way to look at it--the article is not about indexing; it's about poor active managment. :happy

Paul


What's crazy to me is how so many people are looking for work but this guy somehow has a job. This was incoherent drivel that is more a rant about how index funds have eaten active management's lunch and more people are figuring it out.
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Re: Pimco critique of passive investing

Postby pkcrafter » Thu Feb 07, 2013 2:22 pm

NYBoglehead wrote:
What's crazy to me is how so many people are looking for work but this guy somehow has a job. This was incoherent drivel that is more a rant about how index funds have eaten active management's lunch and more people are figuring it out.

Seems like PIMCO is losing market share to indexing, and something must be done :!: Something, even if this is the best they can do. No wonder there aren't too many pros taking shots at indexing, they don't have much ammo.

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Re: Pimco critique of passive investing

Postby magician » Thu Feb 07, 2013 2:48 pm

hoops777 wrote:What is the boglehead response to cap weighted vs equal weighted index investing?

Feast your eyes, laddie.
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Re: Pimco critique of passive investing

Postby NYBoglehead » Thu Feb 07, 2013 2:51 pm

Regarding market-cap weighted vs. equal weighting, don't listen to opinions but look at the portfolios. Guess what, if you own TSM, it's market cap weighted. Same for TISM. So if you are 3-fund portfolio holder, you are endorsing cap weighted index funds.
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Re: Pimco critique of passive investing

Postby Phineas J. Whoopee » Thu Feb 07, 2013 3:09 pm

NYBoglehead wrote:Regarding market-cap weighted vs. equal weighting, don't listen to opinions but look at the portfolios. Guess what, if you own TSM, it's market cap weighted. Same for TISM. So if you are 3-fund portfolio holder, you are endorsing cap weighted index funds.

I am and I do.

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Re: Pimco critique of passive investing

Postby hoops777 » Thu Feb 07, 2013 3:12 pm

Well I have a headache now after skimming thru the posts on the thread NY linked.It appears that equal weighting does have a higher return but the reasons for it are subject to debate.To my simplistic way of thinking it makes more sense to be equal weighted.If I wanted my portfolio to be dominated by Apple,XOM and the like I could buy them as indiv stocks.Because a company is larger does not make it a better investment.I understand the other side of wanting to own more XOM than say one of the midcaps in the index,but equal weighting seems purer to me. 8-)
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Re: Pimco critique of passive investing

Postby SSSS » Thu Feb 07, 2013 3:35 pm

hoops777 wrote:Well I have a headache now after skimming thru the posts on the thread NY linked.It appears that equal weighting does have a higher return but the reasons for it are subject to debate.To my simplistic way of thinking it makes more sense to be equal weighted.If I wanted my portfolio to be dominated by Apple,XOM and the like I could buy them as indiv stocks.Because a company is larger does not make it a better investment.I understand the other side of wanting to own more XOM than say one of the midcaps in the index,but equal weighting seems purer to me. 8-)


Have you considered something like a combination of 60% total stock market + 40% small-cap index, or some other ratio?

Trying to equal-weight every stock is infeasible because of the extreme rebalancing required.
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Re: Pimco critique of passive investing

Postby magician » Thu Feb 07, 2013 4:04 pm

hoops777 wrote:Well I have a headache now after skimming thru the posts on the thread NY linked. It appears that . . .

. . . NY didn't post a link.

But I did.

;)
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Misleading article

Postby Taylor Larimore » Thu Feb 07, 2013 4:11 pm

AZK wrote:My FIL sent me this since he knows I'm a pretty passionate boglehead.

Thought you all might find it interesting.

http://www.pimco.com/EN/Insights/Pages/ ... tions.aspx


AZK:
I found the article interesting -- but very misleading. This is the author's concluding sentence:

Investors deserve a better option than straitjacket passive strategies, especially in this policy-driven, debt-burdened, modest-growth environment.


We have had a "policy-driven, debt-burdened, modest-growth environment" for a long time. In its latest comparison of managed bond funds vs. index bond funds, Standard & Poor's found that managed bond funds under-performed their index in ALL 13 bond catagories during the past five years (Report 11):

http://us.spindices.com/documents/spiva ... r-2012.pdf

I think Tigermoose hit on the answer:

"It is difficult to get a man to understand something, when his salary depends on his not understanding it.”

Best wishes.
Taylor
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Re: Pimco critique of passive investing

Postby jdilla1107 » Thu Feb 07, 2013 11:25 pm

I love that these kind of guys are getting worried. They are over paid and have been riding this wave of easy money too long.

Horrible article too.
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Re: Misleading article

Postby peppers » Fri Feb 08, 2013 11:32 pm

[quote="Taylor Larimore"]



We have had a "policy-driven, debt-burdened, modest-growth environment" for a long time.

I'll second that.
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Re: Pimco critique of passive investing

Postby afan » Sat Feb 09, 2013 12:31 am

I love how the active guys love analogies ("straightjacket"), but never, ever, EVER want to talk about data. The data in favor of indexing is so overwhelming that those selling active services know the only thing to do is change the subject.
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Re: Pimco critique of passive investing

Postby Jack » Sat Feb 09, 2013 12:34 am

"The best companies are capital-starved, while poorer companies are unduly enriched in what becomes a “socialist tax” on the economy."

If investing in index funds is socialism, the word "socialism" no longer has any meaning except as a silly epithet for something you don't like. He may as well use the term "poopyheads." Is this guy like five years old?
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Re: Pimco critique of passive investing

Postby ResNullius » Sat Feb 09, 2013 11:58 am

afan wrote:I love how the active guys love analogies ("straightjacket"), but never, ever, EVER want to talk about data. The data in favor of indexing is so overwhelming that those selling active services know the only thing to do is change the subject.

Yeah, it sort of like trying to convince a Northwestern Mutual Life salesman that term life insurance is better than whole life. A snake oil salesman rarely tells anyone what's actually in his little bottles.
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Re: Pimco critique of passive investing

Postby Boglenaut » Sat Feb 09, 2013 12:16 pm

"For example, looking at equity indexes, if one believes that every stock has an intrinsic fair value based upon the marginal return on invested capital, then an optimal index would risk-weight the stocks in its composite based upon these

This statement shows he doesn't understand indexing.
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Re: Pimco critique of passive investing

Postby hafius500 » Tue Feb 12, 2013 6:11 am

hoops777 wrote:Well I have a headache now after skimming thru the posts on the thread NY linked.It appears that equal weighting does have a higher return but the reasons for it are subject to debate.To my simplistic way of thinking it makes more sense to be equal weighted.If I wanted my portfolio to be dominated by Apple,XOM and the like I could buy them as indiv stocks.Because a company is larger does not make it a better investment.I understand the other side of wanting to own more XOM than say one of the midcaps in the index,but equal weighting seems purer to me. 8-)


Many people believe that value stocks have higher expected returns. Why do you want to under-weight THIS value stock and underperform the cap-weighted market?

CNBC: Apple ‘Worth a Lot More’: Damodaran, Published: Tuesday, 5 Feb 2013

Apple stock represents a value play and is worth much more than $450 per share, New York University finance professor and valuation expert Aswath Damodaran said Tuesday on CNBC...On "Fast Money," Damodaran said that the stock was worth $600 per share. Shares of Apple traded at $452.50 midday..."If you're a value investor, a true value investor, you've got to invest when you're not comfortable," he said. "Right now, am I comfortable investing in Apple? Not really, but I will invest in it because that's the time to get into a stock if you're a value investor...
(more articles on Apple on Damodaran's blog)

hoops777 wrote:Because a company is larger does not make it a better investment


It doesn't make it a worse investment either if prices are correct.
Assume you can choose between two stocks that will gain 100%. Stock A would represent 3% of your portfolio and stock B would represent 0,01% of your portfolio. A gain of 3 pps is more valuable than a gain of 0,01 pps.

Second, assume your conviction that A will gain 100% is ten times higher than your conviction that B will return 100%.
Would it be prudent to equal-weight A and B?
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Re: Pimco critique of passive investing

Postby docneil88 » Tue Feb 12, 2013 7:04 am

afan wrote:I love how the active guys love analogies ("straightjacket"), but never, ever, EVER want to talk about data. The data in favor of indexing is so overwhelming that those selling active services know the only thing to do is change the subject.

Hi afan, Nor do they want to talk about this almost purely theoretical argument against active management by William F. Sharpe from Stanford U ( http://www.stanford.edu/~wfsharpe/art/active/active.htm ). Assuming that the costs of active management are higher than passive, Sharpe argues that, "Properly measured, the average actively managed dollar must underperform the average passively managed dollar, net of costs. Empirical analyses that appear to refute this principle are guilty of improper measurement."

On another note, I saw in the article in the original post ( http://www.pimco.com/EN/Insights/Pages/ ... tions.aspx ) that the author, Douglas Hodge, refers to index investors as "price-insensitive buyers." That is only partly true. It is true that an index investor often won't refuse a purchase if there happen to be some some seemingly overvalued stocks in the index he's considering buying. On the other hand, many (though not all) index fund buyers are sensitive to the average valuation of an index fund being considered for purchase. If that average valuation is high, these price-sensitive buyers may not make a purchase, or they might buy less than they otherwise would. Best, Neil
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Re: Pimco critique of passive investing

Postby petrico » Tue Feb 12, 2013 8:28 am

Am I overreacting, or did this wing-nut actually imply, however obliquely, that indexing is a socialist threat to capitalism?

first Douglas M. Hodge wrote:However, at the extreme in which all investors choose to index their portfolios, the price-setting mechanism that discriminates among high-, modest- and poor-performing companies is no longer acting efficiently. The best companies are capital-starved, while poorer companies are unduly enriched in what becomes a “socialist tax” on the economy.

then Douglas M. Hodge wrote:The capitalistic economies of the developed nations are being tested as a result of persistently high debt levels, low job growth and increasing political dysfunction. Well-functioning capital markets that allocate risk capital efficiently and optimally are our best way out of this troubling triple threat.


So the message is: "Defend Capitalism, Buy Actively Managed Mutual Funds."

Wow. These guys are really concerned ( 8-) ).

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Re: Pimco critique of passive investing

Postby riskreward » Tue Feb 12, 2013 9:56 am

I guess I distinguish between investing in the total stock market index vs.total bond market index.

In total stock market the more successful companies in market cap become a larger part of the index. I am ok with that.

With total bond market the most needy (i.e. least successful) aka US govt bonds crowds out all else and becomes a larger and larger part of the index (not as a result of its success but as a result of its need to finance the deficit)

Maybe passive on stocks and active mgmt with bonds?
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Re: Pimco critique of passive investing

Postby Jeff7 » Tue Feb 12, 2013 11:16 am

I think it's good to get some exposure to this sort of article. While reading through the various Bogleheads' Guide to Investing/Retirement Planning books, and Common Sense on Mutual Funds, I just couldn't help but keep thinking that I was only getting one side of the issue, regardless of what the math presented said. (Math is of course pretty tough to refute - assuming it's being calculated and presented properly.)

This isn't to say that I've seen anything that's swaying me to change my mind, but it's still good to know the opposition. (I'm still holding out on the faint hope that I can find some way of convincing my employer to get us some funds that are well below our 1.38-1.89% ER range.)

...
As far as straitjackets go, passive investing sure offers a lot of freedom of motion, and interestingly enough, some protection against external insanity.
Last edited by Jeff7 on Wed Feb 13, 2013 12:54 am, edited 3 times in total.
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Re: Pimco critique of passive investing

Postby Jack » Tue Feb 12, 2013 12:17 pm

riskreward wrote:I guess I distinguish between investing in the total stock market index vs.total bond market index.

In total stock market the more successful companies in market cap become a larger part of the index. I am ok with that.

With total bond market the most needy (i.e. least successful) aka US govt bonds crowds out all else and becomes a larger and larger part of the index (not as a result of its success but as a result of its need to finance the deficit)

Maybe passive on stocks and active mgmt with bonds?

There is no evidence that Treasury bonds are crowding out corporate bonds. If that were true, corporate bonds would be increasing in yield but they are not. Investors are demanding more safe assets than corporations can provide so the Treasury must provide them. If they did not, prices would be even higher and yields would be even lower. The bond market is not a morality play. It is a very efficient capital allocation market.

You should be very clear about this. When you are saying that you want less government borrowing at this time, you are saying that you want higher bond prices and lower bond yields. Are you sure this is what you want?
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Re: Pimco critique of passive investing

Postby docneil88 » Tue Feb 12, 2013 4:33 pm

Jack wrote:You [i.e. the poster "riskreward"] should be very clear about this. When you are saying that you want less government borrowing at this time, you are saying that you want higher bond prices and lower bond yields. Are you sure this is what you want?

Hi Jack, Setting aside the issue of the amount of government borrowing, right now quantitative easing is raising US Treasury bond, note, and bill prices and lowering yields; the US central bank, i.e. the Federal Reserve Bank, is currently creating a lot of money which is uses to buy US government debt instruments. From http://lexicon.ft.com/Term?term=quantitative-easing :
When interest rates are close to zero there is another way of affecting the price of money: Quantitative Easing (QE). The aim is still to bring down interest rates faced by companies and households and the most important step in QE is that the central bank creates new money for use in an economy.

Only a central bank can do this because its money is accepted as payment by everybody. Sometimes dubbed incorrectly "printing money" a central bank simply creates new money at the stroke of a computer key, in effect increasing the credit in its own bank account.

It can then use this new money to buy whatever assets it likes: government bonds, equities, houses, corporate bonds or other assets from banks. With the central bank weighing in, the price of the assets it buys should rise and the yield, or interest rate, on that asset will fall.

...Of course there are risks. First, a central bank can lose money on its purchases, money that will ultimately have to be underwritten by taxpayers either with higher future taxation or by the central bank creating more money and risking higher future inflation. Second, go too far with creating and spending money and you will destroy the value of the currency. Inflation or even hyperinflation is the result. Third, if a descent into QE destroys confidence in an economy rather than gives reassurance that the authorities are on the case it can be counter-productive.
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Re: Pimco critique of passive investing

Postby larryswedroe » Tue Feb 12, 2013 4:58 pm

I just drafted a response for my blog. So stay tuned for the fireworks

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Re: Pimco critique of passive investing

Postby Akiva » Tue Feb 12, 2013 5:15 pm

hoops777 wrote:What is the boglehead response to cap weighted vs equal weighted index investing.I just read an article saying the guggenheim equal weighted index has outperformed the cap weighted by I believe about 2% over time.


We had a thread on this recently. Basically equal weighting out performs cap weighting by the exact amount predicted by it's increased factor exposure to small stocks. My $.02 from that thread was that the only alternative weighting that seemed justified based on the data was the minimum volatility weighting from MSCI.
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Re: Pimco critique of passive investing

Postby Jack » Tue Feb 12, 2013 11:39 pm

docneil88 wrote:Setting aside the issue of the amount of government borrowing, right now quantitative easing is raising US Treasury bond, note, and bill prices and lowering yields.

The Fed has been pushing on a string. It is struggling mightily to lower rates but it can't do much because rates are already near the zero lower bound. If the Fed were the primary force for low interest rates, then you would have to explain why every time the Fed has stopped a round of quantitative easing, interest rates have gone down more, not up -- quite contrary to pundit predictions. Further, in QE2, operation twist, the Fed was selling short term debt and buying long, yet short term rates did not rise. This all indicates that low interest rates are not an artifact of quantitative easing. Interest rates are low because there is a very high demand by investors for safe assets and the supply is too low. Quantitative easing is just diddling about at the margins. Interest rates aren't "artificially" low. Interest rates are low because of investor demand for safe assets -- period.

If you are asking the government to reduce borrowing and reduce the supply of safe assets, you are asking for higher bond prices and lower yields.
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Re: Pimco critique of passive investing

Postby EmergDoc » Wed Feb 13, 2013 12:02 am

Index investing is the worst way to invest, except all the other ways that have been tried.
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Re: Pimco critique of passive investing

Postby EmergDoc » Wed Feb 13, 2013 12:04 am

riskreward wrote:I guess I distinguish between investing in the total stock market index vs.total bond market index.

In total stock market the more successful companies in market cap become a larger part of the index. I am ok with that.

With total bond market the most needy (i.e. least successful) aka US govt bonds crowds out all else and becomes a larger and larger part of the index (not as a result of its success but as a result of its need to finance the deficit)

Maybe passive on stocks and active mgmt with bonds?


That data suggests that indexing is better with bonds than with stocks as I recall.

I also recall that you need less than 5% of investors to be actively trying to beat the market in order to keep it efficient enough that indexing is the optimal strategy. It'll be a long time before we get there.
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Re: Pimco critique of passive investing

Postby Akiva » Wed Feb 13, 2013 12:14 am

EmergDoc wrote:That data suggests that indexing is better with bonds than with stocks as I recall.


I'm not familiar with this data, but the portfolio mathematics are such that it is substantially easier to beat a bond index than it is to be a market cap weighted stock index. (Because even if you make extremely optimistic assumptions about your active manager's ability to predict returns etc., he still has very little room to maneuver his positions to earn an excess return, and the only way he can efficiently capture that return is to take on extremely large amounts of benchmark tracking risk.)

With bonds on the other hand there are some proven strategies dealing with the yield curve that have been shown to out-perform naive indexing and the portfolio mathematics are decidedly more favorable. Consequently, Gross's track record at PIMCO isn't as nearly as impressive as it would be if he were a stock manager.
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Re: Pimco critique of passive investing

Postby EmergDoc » Wed Feb 13, 2013 12:44 am

Akiva wrote:
EmergDoc wrote:That data suggests that indexing is better with bonds than with stocks as I recall.


I'm not familiar with this data, but the portfolio mathematics are such that it is substantially easier to beat a bond index than it is to be a market cap weighted stock index. (Because even if you make extremely optimistic assumptions about your active manager's ability to predict returns etc., he still has very little room to maneuver his positions to earn an excess return, and the only way he can efficiently capture that return is to take on extremely large amounts of benchmark tracking risk.)

With bonds on the other hand there are some proven strategies dealing with the yield curve that have been shown to out-perform naive indexing and the portfolio mathematics are decidedly more favorable. Consequently, Gross's track record at PIMCO isn't as nearly as impressive as it would be if he were a stock manager.


Perhaps what I'm thinking of is the fact that cost matters far more in bond funds than in stock funds.
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Impact of Quant. Easing on Interest Rates

Postby docneil88 » Wed Feb 13, 2013 4:59 am

Jack wrote:
docneil88 wrote:Setting aside the issue of the amount of government borrowing, right now quantitative easing is raising US Treasury bond, note, and bill prices and lowering yields.

The Fed has been pushing on a string. It is struggling mightily to lower rates but it can't do much because rates are already near the zero lower bound. If the Fed were the primary force for low interest rates, then you would have to explain why every time the Fed has stopped a round of quantitative easing, interest rates have gone down more, not up -- quite contrary to pundit predictions. Further, in QE2, operation twist, the Fed was selling short term debt and buying long, yet short term rates did not rise. This all indicates that low interest rates are not an artifact of quantitative easing. Interest rates are low because there is a very high demand by investors for safe assets and the supply is too low. Quantitative easing is just diddling about at the margins. Interest rates aren't "artificially" low. Interest rates are low because of investor demand for safe assets -- period.

If you are asking the government to reduce borrowing and reduce the supply of safe assets, you are asking for higher bond prices and lower yields.

Hi Jack, I was making no point about what I'd like the government to do. Also, it may well be that investor demand for safe assets is the main reason for low interest rates. Re. quantitative easing (QE), what I should have said it is that it is adding upward pressure on Treasury bond, note, and bill prices, and thus it is adding downward pressure to their yields. I believe that pressure is significant. But of course there are other factors in the mix, some of which may be more important than QE. Thanks for helping me hone what I was trying to say. Best, Neil
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Re: Pimco critique of passive investing

Postby Taylor Larimore » Wed Feb 13, 2013 11:13 am

Akiva wrote:
EmergDoc wrote:That data suggests that indexing is better with bonds than with stocks as I recall.


I'm not familiar with this data, but the portfolio mathematics are such that it is substantially easier to beat a bond index than it is to be a market cap weighted stock index. .


Akiva:

This is the data showing that indexing is better than the average managed fund for both stocks AND bonds:

Standard & Poor's SPIVA mid-year 2012 Report (#11)

Best wishes.
Taylor
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Re: Pimco critique of passive investing

Postby Akiva » Wed Feb 13, 2013 3:01 pm

Taylor Larimore wrote:
Akiva wrote:
EmergDoc wrote:That data suggests that indexing is better with bonds than with stocks as I recall.


I'm not familiar with this data, but the portfolio mathematics are such that it is substantially easier to beat a bond index than it is to be a market cap weighted stock index. .


Akiva:

This is the data showing that indexing is better than the average managed fund for both stocks AND bonds:

Standard & Poor's SPIVA mid-year 2012 Report (#11)

Best wishes.
Taylor


Oh, I thought he was talking about something else. I thought he was saying that the difference between the average active bond fund and the index fund was greater than the difference between the average active stock fund and the index fund. (Though, to the extent that bond returns are lower than stock returns, costs as a percent of returns are probably higher for bond funds.)

I was also thinking of is that you can buy treasury bonds directly via a broker at very low cost. And since the only thing that differs between those bonds is the duration (essentially), you should be able to just buy bonds at the appropriate duration directly. I don't know how the (minor) costs of doing this compare with the costs of an index fund. But there's a paper (IIRC by Fama) where they show that selling your old bonds and then buying new ones each year at the highest implied yield will do better than the simple market cap weighting that the index funds use.
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