> There is bigger problem than index funds and it's closet indexing. Many portfolio managers that claim to be active investors secretly follow their benchmark index without exactly replicating it. This is fraudulent behavior.
As long as they can also provide competitive maintenance fees and tracking errors don't play against them, I don't see much of a problem. If they consitently do worse than the ETFs based on the same indexes with a similar risk profile, the market will eventually punish them for under-delivering.
If they only make a few picks that end up doing well, keeping the rest of the benchmark for a balanced risk profile seems sensible to me.
>If they consitently do worse than the ETFs based on the same indexes with a similar risk profile, the market will eventually punish them for under-delivering.
The problem is with consistency and eventually. Definition of closet indexing is active share below 60%. These funds are not consistently worse if the observed period is just few years.
Since actively-managed funds usually perform worse than index funds in long term, closet indexing should be able to keep up with actively managed fund with same costs.
Selling funds is mostly marketing. Asset management firms have several funds and they sell the one that randomly performs better than it's benchmark in some short period of time (1-3 years). Very badly performing funds are merged into other funds and new funds are created.
Research shows that 15-20% of European large-cap funds could be labeled as closet indexers and 15% of the net assets in equity mutual funds sold in the United States are closet indexers.
As long as they can also provide competitive maintenance fees and tracking errors don't play against them, I don't see much of a problem. If they consitently do worse than the ETFs based on the same indexes with a similar risk profile, the market will eventually punish them for under-delivering.
If they only make a few picks that end up doing well, keeping the rest of the benchmark for a balanced risk profile seems sensible to me.
Please explain where the problem lies exactly?