Why Index Funds Are Like Subprime CDOs

Re:Why Index Funds Are Like Subprime CDOs by OrangeMango on Wednesday September 04, 2019 @05:25PM (#20881590)

> What happens if there is a small, but synchronized outflow for any reason? If customers ask for 1% of index funds to be sold, index funds have to sell 1% of their holdings in the exact ratios defined by the index

That's pretty interesting.

In 2019, the average daily trading volume of Berkshire Hathaway (class A) was 0.04% of the total shares outstanding. If all people that held this stock were forced to sell 1% of the total shares outstanding, look out!

On the other hand, Roku has averaged 15.6% this year, with a standard deviation of 10. 1% of total shares isn't even going to be noticed.

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Re:Why Index Funds Are Like Subprime CDOs by Retric on Wednesday September 04, 2019 @07:31PM (#20882428)

Index funds can and generally should skip Berkshire Hathaway class A and just buy class B stocks without issue. It’s meaningless in this context.

The SP500 has a long tail 150M on a 20B dollar company, which is the median, is 0.75% per day that’s quite a bit of motion normally but you expect volatility to go up on a major sell off.

Anyway, if 1% of all money is removed from index funds on the same day whatever caused that is also going to cause the market is going to crash and crash hard. It would take something like an outbreak of Ebola in NYC to get that kind of a reaction.

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Re:Why Index Funds Are Like Subprime CDOs by mcguire on Wednesday September 04, 2019 @09:07PM (#20882980)

If 1% of the money in index funds exited the market in any form (not just index fund withdrawals), it's going to be a bad day any way you look at it.

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Re:Why Index Funds Are Like Subprime CDOs by segmondy on Wednesday September 04, 2019 @11:11PM (#20883557)

I think the fund managers know this and will collude to prevent it from happening. They are smart enough to know about game theory, it's not their money. So they can sit and not go on a selling frenzy.

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Re:Why Index Funds Are Like Subprime CDOs by danw1979 on Friday September 06, 2019 @10:53AM (#20896166)

Are they manually managed though ? isn't there an algorithm somewhere responsible for balancing these funds ?

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Re:Why Index Funds Are Like Subprime CDOs by lyrrad on Wednesday September 04, 2019 @11:08PM (#20883550)

My understanding is that the largest index funds use free-float weighting. This adjusts the weight of a stock in the index by the proportion of the stock that trades freely in the market. https://en.wikipedia.org/wiki/Capitalization-weighted_index#...

In the example you give, this should result in Berkshire Hathaway Class A to have a very small weight in an index fund weighted this way.

Looking at the holdings of VOO, as of July 31, 2019, It holds 806 shares of Berkshire Hathaway (Class A) (worth ~$249 million), but about 37 million shares of Class B, worth ~$7.6 billion.

https://investor.vanguard.com/etf/profile/portfolio/VOO/port...

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Re:Why Index Funds Are Like Subprime CDOs by mcguire on Wednesday September 04, 2019 @08:59PM (#20882933)

That's an interesting point; it would seem like the stocks Michael Burry, the Big Short investor, likes would be in the same boat.

Or maybe he's counting on their low volume? :-)

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Re:Why Index Funds Are Like Subprime CDOs by abetancort on Sunday September 08, 2019 @02:29PM (#20912374)

If you are buying Berkshire with as a short term investment and you’re not a market maker, you are an idiot.

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