The great rebalancing

Note: I originally wrote this Feb 24 but didn’t post it until now. I don’t think the current market crash really validates or invalidates any of what’s below.

Predicting the future is always tough. Doing so publicly is basically asking for trouble…. So I’m just going to do it!

I think something is going to happen with the market, that’s not really a prediction, something always happens to the market. But I think this time it will be different.

Right now everyone “knows” that index funds are the best way to invest. Just like everyone knew that buying a house was the best financial decision you could make (and many still do think that, especially in Canada which hasn’t really had a correction in the market…yet).

As soon as everyone knows something like this, it will eventually become false. By it’s nature, as soon as it’s popular the market will adjust to price that in. Everyone thinks buying a house is great, therefore everyone buys houses, the price of houses goes up and up and up until it reaches a level that doesn’t make sense.

I worry the same thing will happen with index funds. Last year the amount of money managed in index funds probably surpassed actively managed funds (Wall Street Journal) https://www.wsj.com/articles/index-funds-are-the-new-kings-of-wall-street-11568799004 that means that for all intents and purposes, everyone knows index funds are the best way to invest.

The problem is that index funds reward the top stocks, not because they are in any way good, but because they are popular. That worked incredibly well in the past since it for all intents and purposes took all of the available information and invested it based on that. But now, over 50% of that information is self referencing. In that the biggest funds are not big because a majority of people think they are valued correctly but because they were previously big.

Pump and dump isn’t a new thing https://en.wikipedia.org/wiki/Pump_and_dump it’s been around for years. But now, all you have to do is get listed on one of big indexes and automattically millions of funds will rush to buy the stock. No need to convince people that this is the next penny stock that will be worth billions, just get listed. Now yes, I say just get listed like this is super easy, it’s not, but also not super hard in some countries [and you probably have a % of your portfolio in a global index fund])

Anyway all that to say that I have a crazy prediction and it’s that the next big thing will be some sort of “Great Rebalancing” (you know like the Great depression and the Great recession). And it’ll probably be linked to the confluence of index funds, consistent historically low interest rates, zombie company and stock buybacks. (note: or you know a pandemic…)

The only problem is I don’t know how to take advantage of if it’s true.

Also, this should be obvious but I’m not an economist, I have all of zero real knowledge in the matter, this is not financial advice and you should definitely not make any financial decisions based on reading the random musings I have on the matter.

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