Index hugging
Pfäffikon SZ, Switzerland – Back in 2015, the Dutch regulator AFM investigated how many Dutch investment funds qualified as index huggers. As usual, supervisors lag behind events, because they act on the controlling side, and sometimes work even inhibitory. That index hugging is now being addressed is nevertheless a good thing, even though it took some time.
Nuance
Index hugging is a form of investing which resembles the popular index investing model. However, the fund manager adjusts small differences by overweighting some equities and underweighting certain shares relative to the index. Consequently, the fund manager is self-congratulatory in the media, when he narrowly defeated the index. As icing on the cake, this manager charges the full commission for this To top it all off; he expects the full commission for his theatre play. It is advisable to investigate whether you may have included a difficult to trace index hugger in your portfolio.
Popular
Index investing is a popular form of investing as it is simple and easy. In itself, there is nothing wrong with that, but this kind of investors are partakers of a ‘crowded trade’. Sooner or later, this may even lead to big disappointments because not everyone can go out through the same door. Additionally, no attention is paid to voting rights, which is extremely passive and therefore sometimes undesirable. I leave it to you to decide whether or not to invest in a specific company within an index based on ethical reasons. In my point of view, anyone can implement index investing based on a simple spreadsheet that is only corrected if the index is adjusted for the umpteenth time.
Misunderstandings
About index investing exist —whether consciously created— many misunderstandings. Successful investor Warren Buffett should have said that index investing is an excellent way of investing. Unfortunately, Buffett is not quoted properly. Buffett has said he would advise his wife to start index investing, who, after all, has absolutely no understanding of the matter. Buffett has earned his assets just by not investing in an index, but instead to strongly overweight specific (undervalued) equities within his portfolio over a period of many decades. He calls this ‘hitting a home run.’ In the area of investment, Buffett can hold out the longest, which is a quality and is underestimated by many. Computationally, Buffett could have never gathered his tremendous assets with index investing.
Index huggers have every right to benefit from the simplest and cheapest form of investing in a devious way. However, selling index hugging as a handcrafted profession, where a lot of research is executed on companies, makes no sense. Index investing or index hugging is the simplest variant of investing that exists and has nothing to do with concentrated and focused investing. The fact that the Dutch regulator AFM is further investigating the phenomenon index hugging I can only applaud; better late than never.
It remains for me to wish you a good weekend.
Jan Dwarshuis is a senior asset manager at Thirteen Asset Management AG, where he is responsible for the Thirteen Diversified Fund. Dwarshuis writes his columns in a personal capacity and is not paid for them. Nor is he paying for his columns to be placed. Professionally, he holds positions in major European, American and Russian stock funds. The information in his columns is not intended as professional investment advice or a recommendation to make certain investments. At the time of writing, he has no position in the above mentioned shares and has no intention of doing so in the next 72 hours.
