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Index funds should be expected to underperform the index

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  • Michael Hanke
  • Klaus Schredelseker

Abstract

A widespread belief is that index funds should earn the index return. We argue that this would lead to a serious paradox. In our model, we analyse the effects of an increasing number of investors switching from active to passive investment.

Suggested Citation

  • Michael Hanke & Klaus Schredelseker, 2010. "Index funds should be expected to underperform the index," Applied Economics Letters, Taylor & Francis Journals, vol. 17(10), pages 991-994.
    • Handle: RePEc:taf:apeclt:v:17:y:2010:i:10:p:991-994
    DOI: 10.1080/17446540802599689
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    References listed on IDEAS

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    1. William N. Goetzmann & Massimo Massa, 2003. "Index Funds and Stock Market Growth," The Journal of Business, University of Chicago Press, vol. 76(1), pages 1-28, January.
    2. Edwin J. Elton & Martin J. Gruber & Jeffrey A. Busse, 2004. "Are Investors Rational? Choices among Index Funds," Journal of Finance, American Finance Association, vol. 59(1), pages 261-288, February.
    3. Nesri-super-˙n Okay & Uğur Akman, 2003. "Index tracking with constraint aggregation," Applied Economics Letters, Taylor & Francis Journals, vol. 10(14), pages 913-916.
    4. Burton G. Malkiel, 2003. "Passive Investment Strategies and Efficient Markets," European Financial Management, European Financial Management Association, vol. 9(1), pages 1-10, March.
    5. Jeff Madura & Thanh Ngo, 2008. "Impact of ETF inception on the valuation and trading of component stocks," Applied Financial Economics, Taylor & Francis Journals, vol. 18(12), pages 995-1007.
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    Cited by:

    1. Weissensteiner, Alex, 2019. "Correlated noise: Why passive investment might improve market efficiency," Journal of Economic Behavior & Organization, Elsevier, vol. 158(C), pages 158-172.
    2. Marinelli, Carlo & Weissensteiner, Alex, 2014. "On the relation between forecast precision and trading profitability of financial analysts," Journal of Financial Markets, Elsevier, vol. 20(C), pages 39-60.
    3. Wang, Zongrun & Chen, Songsheng, 2019. "Market efficiency, strategies and incomes of heterogeneously informed investors in a social network environment," Journal of Economic Behavior & Organization, Elsevier, vol. 158(C), pages 15-32.

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