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<h2>Tempted by high-flying ETFs in this aging bull market? Just remember… Excitement is highest as the roller coaster goes over the top!</h2>
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<p>In today’s technologically advanced world, featuring self-driving cars, pilotless airplanes, and smart homes, a “hands-off” trend is also gaining popularity among the investing public. As indicated by the headlines below, passive index investing has become all the rage, and Exchange Traded Funds (ETFs) are the tool of choice:</p>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>ETFs could see $1 trillion in inflows over the coming year</strong></p><cite>MarketWatch, 1/31/17</cite></blockquote>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Small investors’ move to ‘passive’ stock funds becomes a stampede</strong> </p><cite>LA Times, 4/9/17</cite></blockquote>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Global ETF assets reach $4tn</strong> <em>The global exchange traded fund industry smashed past $4tn in assets last month…</em> </p><cite>Financial Times, 5/10/17</cite></blockquote>
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<p>And our personal favorite...</p>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Wheee! A Quadruple-Leveraged S&amp;P 500 ETF is Here</strong></p><cite>Barron's, 5/3/17</cite></blockquote>
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<h3>Exchange Traded Fund (ETF)</h3>
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<p>The first Exchange Traded Fund (ETF) was launched in 1993, and although they were slow to start, ETFs have proliferated over the last decade, both in number (see graph at right) and the variety of index funds available. There’s now an ETF for nearly every strategy, no matter how esoteric, and that has helped fuel the passive investing craze.</p>
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<p>Over the past 24 years, one can see the shift in interest from actively managed mutual funds toward passive investing. As shown in the graph at left, net cash flows into actively managed funds were still four times larger than passive funds from 1993 through 2000. From 2001 through 2008, a change becomes evident as net cash flows for active funds turned negative while passive funds continued to grow. The disparity between the active and passive net cash flows during the current bull market (2009-2016) is remarkable, and it shows why there’s been a parabolic increase in the number of ETFs!</p>
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<h2><strong>So, why has passive investing become all the rage in recent years?</strong></h2>
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<blockquote class="wp-block-quote has-text-align-center is-style-default"><p>Excitement is Highest as the Roller Coaster Goes Over the Top.</p><cite>– Anonymous</cite></blockquote>
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<p>Many investors have been burned –not once, but twice– by the Tech Bubble of the 1990s and the Housing Bubble in 2007. Also, they are frustrated with the challenges of managing investments… a task that in this uncertain bull market has frequently seemed counterproductive.</p>
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<p>The most popular index funds are touted as low-cost and broadly diversified, with a portfolio full of blue chip stocks. Moreover, ETFs offer “instant liquidity” with intraday trading compared to mutual funds that only settle at the end of each trading day. To the average investor, passive funds with minimal fees, implied safety, and lots of liquidity may appear to be the Holy Grail. As we’ll see, however, there is more to the story…</p>
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<p>Just as the number of ETFs has grown, the past few years have witnessed an explosion in assets tied to passive investing that has extended to both mutual funds and ETFs (as shown in graph at right). A large part of the growth has been in ETFs, which are poised to overtake index mutual funds as the preferred indexing vehicle. Both types of products have doubled in assets just since 2012.</p>
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<p>It is important to recognize that passive investing is not a fresh new idea; in fact, the concept was introduced by John Bogle (the founder of Vanguard) in the 1970s. This strategy has shifted in and out of favor, becoming more popular as bull markets age and losing its luster only after the damage has been done by the next bear market. Just like riding a roller coaster, the peak in public enthusiasm often comes as the bull market is cresting the top.</p>
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<h2>A Trip Back in Time…</h2>
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<p>The rise in the popularity of index funds has been seen before.</p>
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<blockquote class="wp-block-quote has-text-align-center"><p>It’s like deja vu all over again.</p><cite>- Yogi Berra</cite></blockquote>
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<h3>The late 1990s: </h3>
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<p>As the decade of the 1990s became the longest bull market in Wall Street history, the Tech Bubble wasn’t the only phenomenon catching investors’ attention. In 1998-99, headlines were touting the benefit of index investing as inflows reached record levels:</p>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Saving for Retirement Index Fever</strong></p><cite> Fortune, 11/9/98</cite></blockquote>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Who Needs a Money Manager?</strong></p><cite>Business Week 2/22/99</cite></blockquote>
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<p>In <strong>March 1999</strong>, InvesTech Research published the issue shown at right, <a href="https://ns2020-investech.investech.com/subscriber-library/lemming-principle/">comparing the emotional influx of index investors to lemmings</a>. However, instead of falling off a cliff, index investors fell into the largest bear market since the 1930s (the S&amp;P 500 Index lost -49.1%).</p>
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<p><strong>Fast-forward to 2006-07:</strong> Index investing was even <em>more</em> popular at the peak of the last bull market (also one of the longer bull markets of the past 80 years):</p>
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<div class="wp-block-image"><figure class="aligncenter size-medium is-resized"><img src="https://ns2020-investech.investech.com/wp-content/uploads/2020/12/V99I04-216x300.png" alt="InvesTech Research newsletter, &quot;The Lemming Principle,&quot; March 12, 1999" class="wp-image-4840" width="195" height="201"/><figcaption>InvesTech Research newsletter, "The Lemming Principle," March 12, 1999</figcaption></figure></div>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Index Funds: So Hot Right Now</strong></p><cite>The Motley Fool, 12/11/06</cite></blockquote>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Index funds help you avoid risks of stock selection, market timing</strong></p><cite>Boston Globe, 2/27/07</cite></blockquote>
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<blockquote class="wp-block-quote is-style-headline-highlight"><p><strong>Owning the S&amp;P 500 is cheap, easy and smart</strong></p><cite>USA Today, 7/20/07</cite></blockquote>
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<p>In these previous periods, much like today, most investors perceived index funds – particularly the S&amp;P 500 Index funds – to be more diversified, safer investments. In the next two pages, we’ll discuss why index funds may not be all they’re thought to be…</p>
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<p>First published in our June 16, 2017 issue. Also available to read in PDF format: <a href="https://ns2020-investech.investech.com/wp-content/uploads/2020/08/IndexingFever.pdf" target="_blank" rel="noreferrer noopener">Download the PDF.</a></p>
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