What If Everyone only invested in Index ETF ?


what if ?



This is a fascinating and interesting book by Randall Munroe , a former NASA roboticist with a degree in Physics and also the author of xkcd:volume 0 ( a stick-figure webcomic ).


Munroe get thousands of questions submitted by readers and he answers a modest subset of those that not only pique his interest but are amusing and offer the potential to use real science to explore concepts, the world around us, and day-to-day mysteries of life and the universe.




What makes Munroe’s work so fantastic is a combination of two elements: his commitment to trying to answer even the weirdest question with solid science, and his undeniable sense of humor.

As quoted in the introduction of his book “ … I eventually left NASA to draw comics full-time , but my interest in science and math didn’t fade. Eventually, it found a new out-let , answering the Internet’s weird- and sometimes worrying questions. This book contains a selection of my favorite answers from my website…”


What If ? takes ridiculous scientific questions Munroe has received or encountered over the years and answers many of them — questions like:



1) What would happen if everyone on Earth stood as close to each other as they could and jumped , everyone landing on the ground at the same instant ?(One of the most popular questions )

2) If every person on Earth aimed a laser pointer at the moon at the same time, would it change color?

3) What If I took a swim in a spent nuclear fuel pool ?

4) When, if ever, will Facebook contain more profile of dead people than of living ones ?

5) If everyone on the planet stayed away from each other for a couple of weeks , wouldn’t the common cold be wiped out ?

6) What if a rainstorm dropped all of its water in a single giant drop ?

7) How quickly would the ocean drain if a circular portal 10 meters in radius leading into space were created at the bottom of Challenger Deep , the deepest spot in the Ocean ? How would the Earth change as the water drained ?

8) What if a glass of water was, all of a sudden, literally half empty?

9) If you suddenly began rising steadily at 1 foot per second, how exactly would you die ? Would you freeze or suffocate first? Or something else ?



10) If you had a printed version of the whole of (say, the English) Wikipedia, how many printers would you need in order to keep up with the changes made to the live version?


 You may find out more detail and interesting question on below link to his blogs :


Anyone can summit a question at the bottom of his blog page , I have submitted mine .. the question is :


What if everyone only invested in Index ETF ?



Of course this is just a hypothetical and funny question which will never happen in real investing world . We know that as matters of diversification , we will need to hold different kind of asset class and also , we human like something exciting and thrill , hence we would most likely to pick the stocks by ourselves so as to prove our capability that we are smarter than others.



Concept explained : What are Index ETF ?
From Investopedia :


DEFINITION of 'Index ETF'

Exchange-traded funds that follow a specific benchmark index as closely as possible. Index ETFs are much like index mutual funds, but whereas the mutual fund shares can only be redeemed at one price daily, the closing net asset value (NAV), index ETFs can be bought and sold throughout the day on exchanges. Through an index ETF, investors get exposure to a large number of securities in a single transaction. Index ETFs can cover U.S. and foreign markets, specific sectors, or a specific class of stock (i.e. small-caps, ADRs, etc.) but all incorporate a passive investment strategy, only making portfolio changes when changes occur in the underlying index.

BREAKING DOWN 'Index ETF'

Index ETFs may occasionally trade at slight premiums or discounts to the fund's NAV, but any differences will quickly be ferreted out through arbitrage by institutional investors. In most cases, even the intraday prices will correlate rather precisely to the actual value of the underlying securities. Additional options are available such as leveraged ETFs or short ETFs, which will have a compound or inverse response, respectively, to the underlying index. Index ETFs can be found based on most of the major indexes such as the Dow Jones Industrial Average, the S&P 500 and the Russell 2000.


ETFs vs. Mutual Funds ( Unit Trust )

ETFs are most comparable to open-end mutual funds. Although they can provide some of the same benefits and risks as comparable mutual funds, ETFs also have their own unique features that purchasers should understand before investing.

Open-end mutual funds are pooled investment vehicles that have the ability to issue or redeem (repurchase) shares on demand. Such funds can grow the number of shares over time when investor deposits (purchases) are greater than investor redemptions (sales). Although there are actively managed mutual funds, many are passively managed and, like ETFs, attempt to duplicate the investment performance of a particular investment index, industry sector, or asset class. Both vehicles can provide specific investment exposures and help investors diversify their holdings.



There are a number of reasons why some investors may prefer investing in ETFs over mutual funds.
As their name suggests, ETFs are publicly traded on stock exchanges, making them liquid investments with relatively low transaction costs. Investors should be aware that frequent transactions will result in higher trading fees. Because they do not require significant overhead or resources to administer, management costs are comparatively low. Unlike some mutual funds, ETFs do not charge upfront load or other purchase fees that would increase their cost.

Mutual funds often lack transparency about what they are investing in, and as a result, it is not uncommon for an investor in different mutual funds to be invested in the same stocks, causing overexposure to specific companies or industry sectors. Because of the simplicity of ETFs and because most are linked to specific indexes, investors are potentially less likely to be overexposed to specific securities with an ETF.


Some mutual funds require a certain minimum investment to invest. Although this may not be a big hurdle for some investors, it can reduce an investor’s ability to diversify risk among many different options. ETFs do not require an investment minimum, so they are accessible to all investors who have enough capital to buy at least one share. This feature may make it easier for investors to spread risk among many sectors, countries, and asset classes, greatly improving the benefits of diversification.


Increasing popularity of ETF ( including Index ETF )



According to Wikipedia , as of 2014, index funds made up 20.2% of equity mutual fund assets in the US. Index domestic equity mutual funds and index-based exchange-traded funds (ETFs), have benefited from a trend toward more index-oriented investment products. 

From 2007 through 2014, index domestic equity mutual funds and ETFs received $1 trillion in net new cash, including reinvested dividends. 

Index-based domestic equity ETFs have grown particularly quickly, attracting almost twice the flows of index domestic equity mutual funds since 2007. 

In contrast, actively managed domestic equity mutual funds experienced a net outflow of $659 billion, including reinvested dividends, from 2007 to 2014. Also, since 2003 , US ETF has registered a double digit growth of more than 25% CAGR.



Advantage of investing using ETF :


Low costs
Because the composition of a target index is a known quantity, it costs less to run an index fund. Typically expense ratios of an index fund range from 0.10% for U.S. Large Company Indexes to 0.70% for Emerging Market Indexes. The expense ratio of the average large cap actively managed mutual fund as of 2015 is 1.15%. If a mutual fund produces 10% return before expenses, taking account of the expense ratio difference would result in an after expense return of 9.9% for the large cap index fund versus 8.85% for the actively managed large cap fund.

Simplicity
The investment objectives of index funds are easy to understand. Once an investor knows the target index of an index fund, what securities the index fund will hold can be determined directly. Managing one's index fund holdings may be as easy as re-balancing every six months or every year.

Lower turnovers
Turnover refers to the selling and buying of securities by the fund manager. Selling securities in some country may result in capital gains tax charges, which are sometimes passed on to fund investors. Even in the absence of taxes, turnover has both explicit and implicit costs, which directly reduce returns on a dollar-for-dollar basis. Because index funds are passive investments, the turnovers are lower than actively managed funds. According to a study conducted by John Bogle over a sixteen-year period, investors get to keep only 47% of the cumulative return of the average actively managed mutual fund, but they keep 87% in a market index fund. This means $10,000 invested in the index fund grew to $90,000 vs. $49,000 in the average actively managed stock mutual fund. That is a 40% gain from the reduction of silent partners.

No style drift
Style drift occurs when actively managed mutual funds go outside of their described style (i.e., mid-cap value, large cap income, etc.) to increase returns. Such drift hurts portfolios that are built with diversification as a high priority. Drifting into other styles could reduce the overall portfolio's diversity and subsequently increase risk. With an index fund, this drift is not possible and accurate diversification of a portfolio is increased.


Why cost matter ?






Below link from BigfatPurse.com  give you a very good insight on Index ETF investing in Singapore’s context :




 Food for thought !


Will market become "more or less volatile“  if more and more people goes for  ETF Indexing ?

What happen if investors just dumping the Index including those good fundamental company.

Found below interesting article from FT.com :

The investment industry is set for a “massive re-balancing” from active to passive fund management as disillusionment about the ability of active managers to beat benchmark indices persists, according to an authoritative report. 

However, by the middle of this decade the volume of money being run in a passive index-tracking manner could be so great that attractive opportunities will begin to emerge for active managers, according to the report*, by Citigroup, Principal Global Investors and Create Research. 

“Pension fund consultants reckon that something like 50 per cent of new pension money coming into the market will go into passive by the end of the decade. If so much money is going into dumb indices they will become even dumber. Someone has to do asset allocation,” said Mr Rajan. 

“Price anomalies will be rife as market cap weightings carry concentration and momentum risks. It will become inefficient and open alpha [index beating] opportunities for active managers. 

However, he added: “The growth of passives will create anomalies and inefficiencies. Stock prices of individual companies will be influenced more by inclusion in the indices than intrinsic worth. 

“Great stock pickers will have a field day. Paradoxically active management will prosper as passives become more popular.”   // Unquote //


What do you think ?

So , are you an Index ETF investor who will be part of my question on “ What if ? “ 

Cheers !!




"One of the funny things about the stock market is that every time one person buys, another sells, and both think they are astute." - William Feather.

Comments

  1. STI ETF is one of my portfolio...about 10%. It is a mid to long term strategy.

    PE ratio is one of the valuation indicator. Using mean reversion increase higher odds as well.

    However, the past ~9% CAGR of STI ETF is unlikely to repeat again. SG growth story is at its peak and now in sustaining mode.

    Singapore over the next 20 years, with the economy projected to expand at about 2 to 3 per cent annually after 2020. http://www.straitstimes.com/singapore/slower-but-quality-economic-growth-over-next-20-years-0

    IMO, market timing is equally important as to time-in-market.

    ReplyDelete
    Replies
    1. Hi Ray ,
      Yap! ETF index investors should look for much longer terms perspective while waiting for market mean reverting and compounding to take effect ,
      I do agree that future return will be much lower than past and one must accept such scenario of lower return ,,,,I also think that demographic will play an important role in company's earning in coming years ,, as one may notice that some company are getting their revenue or profit out of Singapore ,,eg GLP, SIN Tel, Jardine C&C and Capital Land ,,, I think in the long run ( forget about short term market volatility ) ,, I think these company will be able to capitalize increasing spending of millennia and middle income group from their respective investment in these emerging market,,
      Telco( data requirement ) , infrastructure ( including logistic ) and urban development are some industries I think will have high potential and prospect ,,
      Cheers !

      Delete

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