We have been heavy believers in inflation due to the idea that monetary policy has been skewed during the past decade in favor of inflation through QE. In our previous, we highlighted the fact that now that we are truly in a high CPI environment and that it is now time to begin to adjust your portfolio to this new environment. If you haven't checked that article out, please check it out here.
Let's talk about passive vs. active investing and how inflows into passive investment funds or inflows of new retail traders affect the market. Passive investing is a long-term investment strategy in which investors buy and hold a mixed group of companies so they can achieve the same return as the market. The most common forms of passive investment are investing in mutual funds, index funds, and ETFs. Passive investing can serve as a very powerful way to develop wealth and is a great way to increase your net worth over a long period of time. Let's take an example: say your parents set aside 10,000 dollars for you when you were born, and these 10,000 dollars were invested in an index fund that yields an average of 10% per year. By the time you are 50 years old (assuming you didn't add any money into your funds), you would be worth $1,173,908. Seems pretty good considering the fact that you didn't do anything for this money either. Passive investing serves as a great way to increase your net worth over a long-term basis.
Active investing is an investment strategy that involves buying and selling by the investor; this investment strategy aims to outperform the stock market. This can be done through trading equities, futures, and options. The time horizon for active investment strategies can be as short as a day-long to 10+ years if you select very long-term stocks or are pursuing a strategy that requires you to have a long-term perspective.
Recently, we have seen massive inflows into index funds and ETFs throughout 2020. This is due to the fact that everyone wants a piece of this market. This can serve as both good and bad. It's good because it means that the stock market is being democratized, but it's also bad because lots of people will sell out of their funds and their ETFs if the market goes into recession.
It's very important to remember that when you are passively investing, you are not there to time the market: you are in that market to invest for the very long term––we are talking about investing for 20-30 years minimum––or else you are holding your investments all the way until you retire and need extra money.
Psychologically speaking, investors are extremely weak, and it takes a lot of scarring in the market to be fully able to have the psychological strength to stay with your investments and trades if they move against you, but the fundamentals stay the same.
For those of you who are familiar with "The Big Short," you may recall Dr. Michael Burry, recently he has developed some opinions on passive investing and on index funds, claiming that "Passive investing has removed price discovery from the equity markets. The simple theses and the models that get people into sectors, factors, indexes, or ETFs and mutual funds mimicking those strategies…those require the security-level analysis that is required for true price discovery" what Dr. Burry is claiming that there is a bubble similar to the CDO bubble that was happening in 2008, his perspective is short term and claims that sometime in the next 30 years the index fund market will collapse. This is a short-term perspective and should not scare people out of investing in index funds.
Since the name of our column is "Taming the Bull," we are here to find opportunities to outperform the market, but it takes a lot of time to discover these opportunities, and we truly emphasize the fact that it takes countless amount of hours and days to find strong opportunities that can outperform the market. Whether your time horizon is short or long term, you will spend a lot of time analyzing securities and potential investment opportunities in order to outperform. If you don't have the time or the will to do this, the probability of you underperforming the market is high; therefore you are probably best off with a passive investment strategy that yields between 8-10%.