Does that mean as index investors we’re getting a free ride on the work of the active investors? Yes it does. It’s a free ride I’ll happily take. Let the big boys bash each other over the head trying to one up themselves in market. Meanwhile, I’ll capture all the intrinsic growth in the market that comes from the companies actually producing value.

Where Was Indexing 100 Years Ago?

Duh. You couldn’t do index investing before computers. Can you imagine how much work it would be to create a hand ledger tracking 4,331 public companies? And then you’d have to set up a fund that maintained the market capitalization of those companies on a daily basis? Impossible.

So the fact that investors weren’t talking about index fund investing 100 years ago is the same reason they weren’t talking about cat videos. They didn’t exist.

But doesn’t Shiller claim that the strength of the country was built off the backs of those active investors toiling in the market to create efficiency? Sure, the efficiency of the market is critical to its growth. If those traders hadn’t been moving shares back and forth setting prices along the way, we wouldn’t have a functioning market. But let’s not kid ourselves. Those traders were trying to make money, not working for free. And did they create all the value? Well, I’d argue that the vast majority of the value came from the company’s capital and it’s employees working tirelessly to bring profits to the corporation.

Finally, the interview suggest that passive investing might be a bad thing for the market. It’s certainly a bad thing for the financial advisors that think they can select winning stocks for you. It’s a bad thing for the brokerage houses that make money on every trade and thus are heavily incentivized to encourage you to make transaction. But index investing hasn’t been a bad thing for investors. And since it’s your money, would you prefer to help out the market or yourself? I don’t find it convincing that as an investor I should be more incentivized to do what’s best for the market than what’s best for me as investor.

Let’s talk about it. Are you worried that one day index investing will become so dominant that we’ll no longer have active traders? Do you find any of Schiller’s arguments compelling?

This article was republished with permission from The BigLaw Investor