Watch Out for the Market’s First Real Test of the Index-Investing Era
Pedestrians walk along Wall Street near the New York Stock Exchange (NYSE) in New York, US, a month ago. Stocks keep hitting records as investors grow confident that the stock market rally can keep running on hopes the Federal Reserve will start cutting interest rates later this year. Index investing is a big part of the run up.
Photographer: Alex Kent/BloombergThe real reason that inflation and Fed decisions count on days like Wednesday is that what they do can seed the potential for further economic growth or a nasty recession. And right now, the market’s short-term moves are reflecting the more positive scenario. But longer term, it’s worth considering the wall of money that keeps piling into passive index funds.
Unlike the hot-money movements that carry one-day moves, the growing use of this value-agnostic investing style has kept the stock market’s upward momentum churning ahead even during periods, like the current one, when there’s really no big sea change on the horizon. That has left the market poised for a big test if the Fed doesn’t pull off the soft landing everyone’s expecting, and those passive investors — at least for a while — turn off the spigot. The virtuous cycle of inflows that have helped push the indexes up could easily become a vicious one.