Rip Van Winkle Indexing

[buffett]

Executive Summary

There’s no doubting the spectacular success of “passive” investing based on the market capitalization weights of companies. It is estimated that almost 20% of all managed fund assets are based on cap-weighted indices, up from less than 9% in 1998. It is based on the theory that in an efficient market, where equity prices reflect all known information about a company, there is no capacity for a talented analyst to outperform, and a portfolio that uses the most up-to-date prices should deliver the best results. On the other hand, even if the market is not efficient, then surely the active manager with the timeliest information has the best chance to outperform (i.e., deliver “alpha”).

Researchers at the California-based index and...