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Is a “passive investor” the same as a “passive investment”?

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My understanding is that ETFs choose stocks in a particular segment and are “passive” in the sense that they choose from all the stocks in the segment without using some kind of logical discretion. As a result “up and coming” growing companies are chosen as well as the decaying losers. Over time, this activity “rewards” the losers with investments in their shares just as much as the winners. I would call that a “passive investment” although maybe there is better terminology that I’m not aware of. I would hope that a stock-picking mutual fund or an individual stock investor doesn’t do that — I wouldn’t.

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Posted by Dennis
Posted on 10/27/2016 5:52 PM
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ETFs can be systematic or not. But what they all do is construct their own index and then track it. In this sense they are not trying to “beat the market” because they’ve created their own benchmark. Of course, that’s BS. Creating your own benchmark doesn’t mean you don’t deviate from global market cap. So we’re all active because of this fact. As I’ve said many times, there’s no such thing as passive. We are better off not even using the term.

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Cullen Roche Posted by Cullen Roche
Answered on 10/27/2016 9:10 PM
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    Thanks, Cullen, (so forget “passive”). So maybe I don’t understand ETFs. They “track” a collection of investments. Do they actually buy the underlying stocks? If the index tracked is a portfolio that had 10% Netflix and 10% Blockbuster, over time in order keep that index intact, they would need to be subtracting Netflix and adding to Blockbuster. I must have this wrong.

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    Posted by Dennis
    Answered on 10/28/2016 2:58 PM
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      Well, an ETF can track anything. But basically the way they usually work is they create a strategy that is defined by a set of rules that comprises how the “index” works. When the manager changes the index the ETF trades to reflect that change. If you ran the Netflix/Blockbuster ETF then you might equal weight the index so that it always reflects an equal weight position in both companies. So your “index” would be systematically rebalanced every minute of every day to reflect this strategy.

      Now, the kicker with active vs passive is that this fund can call itself passive because it’s just tracking your 50/50 index. In other words, it always reflects its own internal benchmark. But that’s BS obviously. The appropriate benchmark for this is something like the SP 500 and it obviously deviates from that. But these fund companies now call their ETFs “passive” because in an arcane way they technically are….at least the way we currently describe these funds. Which makes no sense.

      The way I describe active and passive is really the only logical way to do it. And I suspect that in 5 years everyone will use the definition I use.

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      Cullen Roche Posted by Cullen Roche
      Answered on 10/28/2016 4:29 PM
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