Indexing in Less-Efficient Markets
The case for index investing rests on the index fund's cost advantage and how representative it is of its actively managed peers, not market efficiency.
A version of this article was published in the August 2016 issue of Morningstar ETFInvestor. Download a complimentary copy of ETFInvestor here.
Intuitively, the case for index investing seems the strongest for more-efficient areas of the market, like U.S. large-cap stocks. Here, information is easy to obtain and widely disseminated. So prices should reflect all available information, making it difficult to consistently outperform without taking on greater risk. In less-competitive markets, it may be easier to obtain an informational edge, or identify mispriced securities, giving savvy investors a better chance to outperform.
Alex Bryan does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.