Has Index Fund Growth Impaired Markets?
One common concern about the increasing popularity of index funds is whether the corresponding decline in active management has impacted the function of markets. The premise is that a higher proportion of assets in index funds means fewer non-index investors devoting resources to analyzing securities, thereby increasing the chances of mispriced securities.
If the rise in indexing was producing low-hanging mispricing fruit, it sure isn’t showing up in the performance of actively managed mutual funds and ETFs in the US. Even as the percent of index assets has expanded—jumping from 32% to 58% in just the past 10 years, according to ICI’s 2024 Fact Book—the percentage of active equity funds outperforming their benchmarks over rolling three-year periods has not changed by much.
It’s debatable whether index fund assets should be equated with passive behavior. And judging by the active fund landscape, it’s hard to argue markets are any less effective at incorporating information into prices.