Passive fund management is a big success built on a big fallacy. The late Jack Bogle’s sales pitch encapsulates it: “Don’t look for the needle in the haystack. Just buy the haystack.”
That line is still highlighted in marketing by Vanguard, the mutual fund business Bogle founded. BlackRock and State Street, two other big US fund managers, have their own variants. The implication: funds that track stock and bond indices immunise their clients against human error.
That is impossible. Someone has to build the haystack in the first place. In this case, it is active managers, who select securities they believe will outperform. But Bogle’s reassuring line, combined with ultra-low charges, has created an industry that has hitched a lucrative free ride on the backs of stock pickers. It is so successful that index funds will soon face the issue that confronts all titans, from Standard Oil to Facebook: their outsized impact on business and society.