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TSV moving average is plotted as an oscillator. Four divergences are calculated for each indicator regular bearish, regular bullish, hidden bearish, and hidden bullish with three look-back periods high, mid, and small. For TSV, the The New York Stock

Investing in credit hedge funds hardcover danvers alexander gerchik forex factory

Investing in credit hedge funds hardcover danvers

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Just consider the revolutionaryeffect that indexing has had on the investment markets. From thesimple notion of creating a benchmark of the market, a host of radicalchanges have emerged to give investors greater control in managing risk, return, and cost in their portfolios. Index ing also has raised the bar for activemanagers. The changes have been profound, positive, and permanent. Fromalmost any angle, the power of indexing and its impact on investors, financialmarkets, and investment products are difficult to overstate.

Index es serve as a gauge of the market, but they also do much more. They are the basis for asset allocation research. Much of what we now knowabout the relative impact of asset, sector, and security selection on portfolioperformance is the result of analytical work derived from indexes. They arealso tools for performance measurement, creating increasingly better st and ardsby which to evaluate managers.

But, perhaps most significantly, indexesare now often the basis for investment vehicles. No longer can a fundmanager take credit simply for offering the investor broad-based exposure tothe market. Today, that service can be had for pennies on the dollar throughindex funds. Money managers who want to charge higher fees must demonstratethat their services provide added performance benefits. In a very realsense, the growing popularity of indexes and index investing has forced allmoney managers to raise the level of their game.

Index ing has been at the heart of a process that is moving the investmentprofession from art to science, which in turn brings significant value toall investors. Beyond the considerable cost savings of index-based productsversus conventionally managed ones, indexes yield many other significantxi. By establishing clear benchmarks, indexes serve as performancemeasurement tools that bring a needed precision to manager evaluation, increasingthe likelihood that an investor will identify and retain high-qualitymanagers.

But where indexes get really interesting is when theory turns to practice. The wave of investment products based on indexes has been remarkable,both for its variety and popularity. While some moneymanagers may perceive index-based alternatives as a threat, investors shouldcheer their arrival.

The benefits of index strategies are perhaps greatest if investors think ofindex-based products not as being on a straight-line spectrum that runs fromactively managed funds to passive indexes, but instead as being on a horseshoe-shapedspectrum. One prong offers low-cost index strategies and theother prong offers exceptional managers at reasonable costs.

Either approachis attractive and the two can easily be combined. Think of Jack Boglerepresenting one approach and Warren Buffett the other. What smart investorswill do is purge their portfolio of the bottom part of the horseshoe,which delivers not particularly creative or effective management at high fees.

Still, with the advent ofindex funds, and the added pressure on good managers to deliver strong returnswith reasonable risk, the number of suitable choices facing an investorhas never been greater. To exclude indexvehicles from your arsenal without proper consideration of their meritwould be foolhardy. For one, index products offer purity of style or assetclassexposure. With an index fund, what you see is what you get—it is theultimate in truth in labeling.

Index -based products also remove the ambiguityover who is making the asset allocation decision. There is no need toworry about a manager going to cash when your intent is to be fully invested. Index es also can remove security selection risk for all or any partof the portfolio.

If you think biotech will rally but are unsure which stocks. Forewordxiiiwill do the best and want to avoid the risk of selecting a manager whopicks wrong, an index-based solution is at your disposal. A significant reason to include indexes among your choices is the transparentavailability and legitimacy of their performance record. Index es offerlong histories of how a certain approach to the market works in all sorts ofenvironments.

Whereas the returns of actively managed funds lose legitimacyas managers come and go or styles change, the consistency of an index strategymakes the entire record of the index germane to the investment decision. One is left with a lot less fully applicable datathan may at first appear.

This facet of indexes is a boon to investors whowant to underst and the long-term implications and potential of their choices. A final reason, which I have already touched on but which bears repeating,is the significant cost savings of index strategies. At a time when mutualfund expenses continue to creep inexorably upward, the low-cost alternativeof index investing appears increasingly attractive.

Within the world of indexing,there is true cost competition. Who would pay basis points for exposureto the same index that another firm offers for 20? In an era of lowerexpected absolute returns for both stocks and bonds, the cost savings ofindex strategies makes tremendous sense. With all the positive changes that the index revolution has broughtto investing, you might expect the field to be crowded with books documentingthe origins and subsequent ascent of indexing in the marketplace,but that is hardly the case.

While the field may still not be crowded, it cancertainly no longer be claimed to be underserved. Steven Schoenfeld hasproduced a remarkable book that features not only his own considerable insights,but also the perspectives of numerous leading practitioners from allspheres of the indexing and investing world.

Infact, the concept of a web-based supplement to the book was so compellingthat Steven chose to partner Index Universe. The book itself is encyclopedic. Active Index Investing not only coversthe history of indexing to date, but also marks out the terrain the industry islikely to cover in its continuing evolution. If you follow the investment markets and want to see how indexes and index-based tools and strategies willcontinue to shape the markets, you have found what will surely become oneof the definitive books on the topic.

I am sure that you will gain fromthe journey. Well, to some extent, unintentionally. But as Ideveloped numerous outlines and discussed the project with industry peers,the importance of producing a comprehensive survey of index-based investmentbecame evident— and the project exp and ed accordingly. The initial motivation to embark on this project developed during my sixyears as an investment strategist and manager of institutional equity indexfunds. They often differentiated these funds only byprice—the management fees, which were often measured in fractions of abasis point.

My former colleagues and I at Barclays Global Investors BGI wouldprovide detailed advice on benchmark selection and overall investment policy, and assist clients with complete investment solutions. These includedst and ard or customized index funds, benchmark evolution, and portfoliotransition services. My team of investment strategists and portfolio managersalso interfaced with all of the major index providers, sharing informationon corporate actions, advising them on methodology, evaluating theprospects for new benchmarks, and sometimes complaining loudly whentheir index changes were not well aligned with market realities.

We also launched some of the most efficiently managed exchange-tradedfunds ETFs that were used by both institutional and retailclients. We knew that through our hard work, we were saving our clients millionsof dollars each year. Yet indexing—whether U. Iwas favorably disposed to both the idea and the messenger, as I had workedclosely with Bill when I was a trader and writer in Singapore in the late s, and he was a writer and editor at Intermarket Magazine in Chicago.

Yet I initiallyrefused, remembering how much work my first book had been. I also talked to colleagues throughout the industry—friendsat asset managers, pension plan sponsors, institutionalbrokers, index providers, exchanges— and they almost universally agreed thatthere was a need for such a book. As one colleague reminded me, although indexingaccounted for about 25 percent of institutional equity assets and over12 percent of mutual fund assets, there was no comprehensive, professionallevelbook on index-based investments.

I made the final decision in late spring , during a trip to SoutheastAsia. I then asked the people in the industry who were most supportive of theproject to contribute to the book— and many accepted. As mentioned, theproject initially focused on equity indexing—benchmarks and portfolio management. But as I got deeper into developing the framework for the book, Irealized that ignoring other asset classes would be suboptimal. So at first Iadded chapters on fixed-income benchmarks and index portfolio management.

And sure enough, once this expansion started, I added chapters or sidebarson commodity indexes, real estate indexes, and hedge fund benchmarks. In early , I left BGI and joined an innovative venture focusedon index-based separate accounts which were actively managed for taxefficiency.

The idea was to bring the power and efficiency of customized. During this time I learned a lot more aboutthe financial products that are sold to individual investors, and the generallyhigh costs and subpar performance that these services generate. I becameeven more convinced that index-based products—whether separate accounts,index funds, or ETFs—should play a much larger role in the portfoliosof most individual investors.

A diverse group of plan sponsors, brokerdealers,academics, and financial advisors round out this great group of contributors. All in all, over 50 contributors from more than 20 organizations areinvolved in the book and its supporting web site: www. The views of all the different players inthe large world of indexes and index-based investing are represented. Thisbroad and deep perspective provides comprehensive insight into the uniqueart and science of index-based investments.

But now, in , sophisticated financial advisors and individual investors view index funds and ETFs as key elementsin their search for a better way of investing. Because of their transparency,precise performance objectives, and low costs, index funds have always hadto discourage market timers and develop fair and effective solutions to stalepricing and the late trading practices that could engender.

Traditional index funds have long had safeguards in place to preventthe abuses of shareholders that have caused the outcry. In addition, a certaintype of index fund—which I categorize as focused funds e. Similarly, index-based exchange-traded funds ETFs have atotally transparent price and trading structure, and can be traded all daywithout harming long-term investors in the funds. Furthermore, index funds.

Finally, regardless of the efficiency and fairness advantages of index fundstructures, after the brutal bear market of —, investors have beenlooking for a better way to achieve their long-term investing objectives. Thus, a key message of this book is that through indexing and index-basedvehicles, there is a better way for individual investors to achieve some of thesame efficiencies enjoyed by large investors.

It is excerpted from an important book written by two formerU. Treasury Department officials. Another somewhat unintended outgrowth of the book project was myinvolvement in a media enterprise focusing on the world of index products,anchored by the web site that I originally developed to support the book— Index Universe.

The idea for this site stemmed from my experience incoauthoring a book on Asian-Pacific derivatives markets in the earlys. As I embarked on this book, knowing that the world of indexproducts is constantly changing, I wanted to avoid this problem— and savesome trees as well. The booktherefore has a relatively short appendix, featuring abridged glossaries and bibliographies, with the bulk of supplemental materials on the web, atwww.

This concept has proven itself manytimes over in producing the manuscript, especially as its scope exp and eddramatically. Through this site I was able to exp and content beyond theconfines of the pages before you and even update material between manuscriptsubmission and final publication. As part of the E-ppendix concept, I began to develop Index Universe. Initially focused on supporting the book, conversationswith industry peers convinced me that the world of indexing had astrong and genuine need for an online community that could bring together.

Prefacexixinvestors, exchanges, index providers, and fund managers. Somewhat likethe unintended expansion of the book itself, the web site has developedsteadily in scope and scale. Initially, Index Universe. Index Universe. I amhopeful that this blend of hard-copy book and web-based supplement willprovide continuing value to readers, and perhaps serve as a new model forprofessionally oriented financial books. However, many global examples areprovided, especially in some of the sidebars.

Furthermore, another benefit ofhaving the book supplemented by the web sites is that Index Universe. I hope that you find this book useful as a source of background on thedevelopment of indexing as well as the wide array of index products and their uses. Benchmarks and index products for all major asset classes are discussed,as well as the ways that sophisticated investors use these products. The book has five parts that cover distinct areas of knowledge. While theparts build on each other, and ideally one would read the book in sequence,.

Each discrete part has an Introduction that sets the stage for the broadtopics and ties the chapters and accompanying sidebars together. In addition,Chapters 1 and 31 fall outside the five parts and serve as a thematic introduction and conclusion for the entire work. Chapter 1 outlines thethemes of the book, the different meanings and interpretations of active indexing, and the different str and s of Parts One through Five.

Chapter 31briefly reviews how far the indexing revolution has advanced and providesan extensive— and opinionated—vision for the future of indexing. But the book does not end with Chapter The Glossary and Bibliographyprovide a resource for terms and references in the book, supplementedby the exp and ed Glossary and Unabridged Bibliography and Research Resourcesin the E-ppendix.

Each chapter has its own area on the E-ppendix,which includes relevant web-only sidebars. As notedpreviously, I initially developed the latter site simply to support the book,but the site is now partnered with the Journal of Index es and ExchangeTraded Funds Report, to become the ultimate portal to the world of indexing It has numerous featuresthat will help the book maintain its relevance longer than most books of thistype.

Where needed, updates and errata areprovided. Some chapters also include web-only sidebars that enhance materialin the book, as well as related Internet links for further information. TheE-ppendix also includes several special sections for particular categories ofreaders, including one for indexing novices, one for industry professionals, and another for academia. I also anticipate that some of the material in the errata entries for thebook will be provided through this feedback mechanism— and I thus invitereaders to help me continually improve the book through the E-ppendix.

AcknowledgmentsAbook project that spans more than three years from conception topublication invariably involves the effort of many people—colleagues,friends, industry counterparts, and publishers. And when the editor is tryingto coordinate these efforts across time zones and oceans, the communicationschallenges and burden on those who have assisted tends to be thatmuch greater.

Although I have tried to acknowledge all those who have helped makethis dream a reality, I am aware that I may have forgotten some people. Atthe outset of these acknowledgements I therefore both thank them for theirassistance and apologize for my oversight. A few other key supporters of theproject preferred to remain anonymous, but I will make my thanks to thempublic—Thanks!

I must start with my family and friends not only for their support and encouragement, but also for their forbearance. The workload and challengesof this project meant numerous instances of canceled plans,unreturned phone calls, and missed e-mails. My parents, my brother, and four sisters provided a big dose of emotional support and cheerleadingwhen needed. Everyone I acknowledge in this section helped me achieve this goal, buta h and ful of people were essential in making this book and web site a reality, and therefore deserve special recognition.

Since early , John Spence has been a superb editorial assistant,project manager, and coordinator of many book-related tasks, large and small. He also kept my spirits up during times when the scale of the projectseemed overwhelming. John was also my partner in developing many of theelements of Index Universe.

Yasue Pai was first editorial assistant for the book, and project managerfor the Index Unverse. In , she helped me design the first versionof Index Universe. Yasue also applied her global outlook and skills in working with contributorsaround the world. He published some earlierversions of several book chapters and was a steady voice throughout theprocess, reminding me of the strong need for such a book.

He also took ona selfless coordinating role for the project during a particularly challengingperiod in mid In addition, Jim provided a substantial amount of lastminutecomments on draft chapters in the homestretch of the project. Littledid we know at the outset that his involvement in the book project wouldalso result in a business relationship. As noted in the Preface, we saw thepotential and need for an independent indexing web site, and we decided toincrease our collaboration and partnership to develop Index Universe.

Christina Polischuk is a former colleague in two previous firms whoalso worked closely with me on the book project. Through it all, she hasbeen a very good friend. For this, the authors of the chapters she helped with and I are very grateful. Robert Ginis has been a friend and colleague for a dozen years and shares my passion for indexing and global investing.

Aside from the chapters and sidebar that we coauthored, Rob generously agreed to review severalother chapters. He also was a constant source of encouragement for my effortson both the book and web site projects. I greatly appreciate his support,his friendship, and our partnership in building a shared vision forGlobal Index Strategies. Paul Danziger Weil helped develop much of the programming backboneof Index Universe. Acknowledgmentsxxiiieditor, Bill Falloon pursued the book aggressively and helped me see theopportunity to bring index fluency to a broader audience.

Senior Editor Pamela van Geissen who has now had to deal with meon two book projects in two decades provided impetus and guidancewhen the effort hit the inevitable rough spots. Peggy Garry provided firstrateadvice on numerous complex copyright issues that were inevitable witha book of this length. And the copyediting and production staff, particularlyMary Daniello of Wiley and Pam Blackmon and Nancy L and and their colleagues at Publications Development Company of Texas, made theendgame of this project as smooth and as painless as possible.

All the contributors to this book took time out of their busy schedules toshare their views and experience with index-based investing. Their encouragement was a sourceof additional energy to propel me forward. And, of course, they share my interest and passion for the world of indexing. Actve Index Investing. Baron Hill, U. I apologize in advance for the inevitablemistakes that emerge in a work of this nature and scope.

Luckily, as noted previously, the book has a linked web site, and you are encouraged to provide feedback on any factual errors, or evenpoints of disagreement. The world of indexinghas benefited greatly from debate and exchange of ideas, and I will behonored if my mistakes can stimulate dialogue and positive change.

Finally, I want to reiterate my thanks to all the contributors to the book—both chapter contributors and sidebar contributors—for their effort and commitmenton behalf of this project. The ultimate expression of this activeness was our transition of tens of billions ofdollars of client assets in and from MSCI and FTSE global indexes totheir new float-adjusted successor benchmarks. While doing this, we minimizedtransaction costs and avoided wealth erosion from potential index change frontrunnerslurking in the marketplace.

This major index event is discussed in Chapters5, 9, 12, and Keith K. Park and Steven A. ContributorsThe following is a list of the contributors to this book. These professionals represent a wide range of functions and backgroundsfrom across the indexing industry—including portfolio managers,analysts, index calculators, university professors, financial advisors, editors, and other industry practitioners to name but a few.

As readers will know,the financial industry is dynamic, and successful professionals are anythingbut static in their roles. As the book was in the final editing stage, it was notpossible to assemble comprehensive, updated biographical information forthis group of more than 60 talented investment experts. Therefore, a simplelist of the contributors and their institutional affiliation where appropriate is provided below. This biographic informationis also accessible via the Index Universe.

For some contributors,photographs and additional research papers are available. TheE-ppendix will also facilitate continuing updates from contributors on theirspecific topic areas. Its purpose is to help the reader gain a better underst and ingof the multiple dimensions of indexing, which are then explored comprehensivelyin the rest of the book.

The impact of index investing has gone well beyond index-based portfolios;its transparency and efficiency have dramatically changed the investmentl and scape. Benchmarks have moved from being theoretical constructsto become truly transparent and efficient investment alternatives. What bettermethod of measuring active manager performance could be devised thana yardstick for asset class exposure?

Institutional investorshave saved enormous sums in the first quarter century of indexing. Among the most notable are portfolio trading, securitieslending, and structured transition trades. The same focus on efficiency of exposure and risk management led tothe development of stock index futures and options.

And the development1. Furthermore,ETFs, unlike previous index vehicles such as index mutual funds, are appropriate and efficient for both institutions and individual investors: The participationof one type of user does not disadvantage the other. Finally,although indexing started with equities, it has exp and ed into most otherasset classes and virtually every equity market in the world.

The growth and development of indexing has been both a theoretical and practical financial revolution, and it is steadily advancing. Thus, it isimportant to underst and the fundamentals of indexing, as well as the products and their varied uses. This knowledge will help the reader recognizejust how dynamic the field is and why indexing truly is active. The second part of the chapter provides a broadoverview of the core themes and information in Parts One through Five ofthe book.

Index -based products are commonly referred to as passive, which implies astatic, even boring, approach to the market. This has led to decades of debate between proponents of activemanagement versus believers in indexed approaches.

As Chapter 3 indicates, forsophisticated investors, this debate is over, and the conclusion is both simple and elegant. Thisbook shows the reader how smart cost- and risk-sensitive investors use thepower of indexing to maximize portfolio performance and minimize risk. As noted in the Preface, the term active indexing is most decidedly notan oxymoron.

It can describe the active nature of managing index-based. It can mean many different things to different marketparticipants, but I define it in three basic ways that reflect a high degree ofactiveness the key phrases are in italics Benchmark construction and selection is active. The choice of benchmarks for indexing and for asset allocation and performance measurement involves substantial active decision making.

In using indexstrategies, investors make important, active decisions about strategicbenchmarks, weightings, and rebalancing of asset allocations. Evenwhen using exclusively active managers, the choice of benchmark forthe manager— and for the asset class within the overall portfolio—greatly influences the investment outcome. The index industry is dynamic,with continual development and refinement of both benchmarks and the index products linked to them.

As more products are launched, and as indexing exp and s to virtually every asset class, the need for investorsto make informed decisions on benchmarks will only grow. Asset owners cannot be passive about the benchmark decision. Part Two of the book provides background on benchmarks. It includesthe discussion and analysis of the benchmarks that are available toinvestors, the different metrics for assessing indexes that demonstrate theactiveness of this decision process, and the need for independent analysis.

Part Three of the book provides an overview of the huge variety ofindex-based products and strategies and how they are developed and used. Readers will see how active the innovation and creativity of the financialcommunity can be when applied to indexing. Managing index funds is active. Managing index-based portfolios is anextremely active process. Because tracking benchmark indexes requires ahigh investment quotient IQ , index portfolio managers often have moreinsight into market microstructure—trading, operational constraints, liquidity,corporate actions—than most traditional active investors.

Part Four of the book focuses on this little-understood dimension ofindex-based investment. Readers will likely be amazed at the degree ofeffort and skill needed to manage portfolios that accurately track equity and fixed-income indexes. The use of index products can be as active as the investor wants it to be.

Active and sophisticated decision making by investors undergirds their useof index-based products and strategies. Investors who choose an indexbasedapproach in no way abdicate the quest for outperformance. In fact,integrating indexing and enhanced indexing within a total portfolio approachto risk budgeting allows them to better segment the beta or market. Using appropriate indexing approaches can beone of the most important ways to achieve outperformance.

In Part Five, sophisticated investors illustrate how index products and strategies can help manage risk, minimize costs, and maximize performancein the only way that matters—relative to the risk taken. Although the issues of index-based portfolio construction differ greatlyfrom the decisions and products of traditional active management, its dimensionsare all active—there is nothing passive about them. These diverse and multiple options reflectthe continual evolution of both index products and the theories behind them.

This complexity and the many nuances highlight the activeness of everyindexing decision. The use of index products and strategies almost alwayshas an active element, and often, index-based products are the most efficientway to maximize return and minimize risk. As active benchmark decisions are not explicitly discussed in subsequentchapters, a short description follows here.

Further explanation of theactual implementation of alternative benchmark structures can be found inChapters 14 and Index ing started as a way to achieve diversified, transparent, efficientcore exposure to asset classes—initially domestic equity, and then international and global equity and fixed income. But indexing has evolved in manyactive ways; among the most interesting is the blending of index benchmarks and tools with various levels of active decisions.

This phenomenon developedthrough the interaction and debate of many players: academics discussed inPart One , index providers, consultants, fund managers, and asset owners. Index benchmarks have numerous differences—investors need to underst and the methodologies before making decisions. And as ETFs penetrate furtherinto the retail marketplace, this need will become more pressing. Choosing benchmarks and investment strategies will become increasinglycomplex. Parts Two and Three of the book describe many nuances involvedwith these choices and explore ways to build portfolios on them.

Index ing Is Active 5following short list shows some of the choices that investors face in determiningappropriate benchmarks st and ard or custom and the investmentstrategies linked to them:Reliance on known quantities—use of name br and indexes. Alternative weights, both within markets and across markets.

Style and style rotation. Screened portfolios, whether for social policy or investment prudence e. To visually portray the array of choices, Table 1. And each of these factors can be custom implemented—using alternativeweights or excluding certain characteristics—either as a benchmark or withinan index strategy. Table 1. TABLE 1. Thistotal portfolio perspective can use investor cash flows to rebalance between and among asset classes—domestic and international equities,fixed income, real estate securities, and others.

Using new funding to rebalancewith index products can be a highly efficient way to achieve thelong-term benefits of multi-asset class index or index and active strategies. This approach is discussed in Chapter 28 and in more detail inChapter Working alone, or with their asset managers or financial advisor,investors have virtually limitless opportunities for creative solutions,with transparent, cost-effective, and efficient investment vehicles.

Furthermore,even the most heavily customized indexing strategy can sharein the liquidity pool of other index portfolios. Whether trading a publiclylisted vehicle that benefits from institutional participation or workingwithin an institutional product structure, index-based approachesbenefit from the two-way activity flow of various users. Many times,this activity can facilitate cross-trading between large index investorstrading in the opposite directions.

Whether a portfolio is percent index-based,or a blend of index or active, there are many important choices inbenchmark selection and implementation—some of them highlycomplex. This is a key element in the definition of the term activeindex investing. Throughout, the book highlights the myths and misperceptions about indexing and provides insight into the core benefits of index-based strategies.

It does,however, cover most other major asset classes; more important, the coretheories that underlie equity indexing are equally relevant for other assetclasses, including fixed income, real estate, and commodities. Part Oneprovides a comprehensive overview of the foundations and principles of indexing,including a consolidation of the theoretical and business history ofindexing. Contributors explore the enduring logic and accelerating sophisticationof indexing and tackle the critics of indexing with solid empiricaldata and numerous real-world examples.

The detailed presentation of benchmarks in Part Two shows how indexesare the foundation for almost all investment activity. The nuances ofindex construction and maintenance methodology are described as well asthe seven key criteria for choosing the right benchmark index for specific investingneeds. This decision is an active choice that has significance, regardlessof whether the investments are in index funds or in active fundsbenchmarked to an index.

Part Two starts with a focus on equity indexes, but its scope broadens toinclude most major asset classes and areas of investment. Investors buildingmultiple asset class portfolios rely on benchmarks when performing asset allocationstudies that determine their commitment to various categories of assets. Again the reader will see how and why the benchmark decision is anactive one, and why it matters so much.

In Part Three, the focus shifts to an overview of the ever-growing rangeof index-based investment products. Index ing has shaken up sleepy cornersof the investment industry by bringing transparency and accountability toinvestment managers.

Through three decades, innovative index product developmenthas been a source of disruptive technology that serves the greatergood of asset owners. And while the process started with equity markets, itis rapidly spreading to all major investable asset classes, including alternativeinvestments such as real estate and hedge funds. The purpose of Part Three is to define and highlight the broad categoriesof index products—funds, derivatives, ETFs, and so on— and theasset classes that they track.

Thiswould have been virtually impossible. The largest institutional index fundmanagement firms track hundreds of benchmarks for more than a thous and clients, and although retail index mutual funds may have fewer variants, theystill have large fund families. ETFs are somewhere in between. But more critically,the product sets are always evolving, and thus this part of the book depictsthe scope and scale of index-based products.

It highlights someparticularly interesting product and strategy types, such as ETFs, enhancedindexing, and the indexing of alternative asset classes. Chapter 18 delvesdeep into the ways that index products can be used to facilitate sophisticatedstrategies—what I call active indexing.

Part Four focuses on the art and science of managing index-based portfolios. The subject matter covers the major asset classes and product types including U. As far as I know— and I asked a lot of people before embarkingon this project—there has never before been such a detailed and comprehensiveexploration of the index portfolio management investment process. The contributors have provided robust examples and even some entertainingwar stories from the front lines of the battle to minimize costs and maximizetracking.

Topics include index construction methodology, clientneeds and motivations, the underlying market microstructure, trading and transaction costs, and macroeconomic and other market-moving forces. Part Five, the final section, is an exploration of why and how sophisticatedinvestors use index-based products to minimize costs and risks, and maximize portfolio performance.

Inwhat may prove to be the most valuable part of the book for some readers,the contributors provide numerous real-world examples of indexing forasset allocation, risk budgeting, and tax minimization. They also describethe key factors that plan sponsors and their consultants should use whenchoosing index-based instruments. Speaking for the needs of individual investors, two former U.

Index ing Is Active 9Part Five also proposes a universal investment philosophy that is relevantfor institutions, financial advisors, and individual investors—what Icall indexing at the core; and this section and the book conclude with anopinionated projection of the future of indexing. Not surprisingly, the chapterenvisages the probability of continued expansion and democratizationof index-based products and strategies. Investors should keep this multifaceted concept in mind when consultingthe five parts of the book—in whatever order makes the most sense to them.

Each one covers material that could have been a book in itself, and thereare numerous cross-references to related chapters throughout. We now move into Part One of the book, which documents the effortsof then-radical academics and investment professionals who began this revolution. Their theories and innovations continue to drive the inexorable advanceof index investing even today. These savings includetransaction costs, management fees, and the performance difference betweenindex and active strategies.

These terms are fully explained in subsequent chapters, particularly in Chapters2 and Return relative to risk incurred is generally measured as an information ratio. This measure is defined and discussed in Chapters 14 and Crossing—which saves enormous amounts of money for institutional indexfund clients—is discussed in Parts Four and Five of the book.

SchoenfeldAfter over a third of a century of indexing, we are seeing the start of a revolution. The first index fund was launched in , and perhaps the conceptwas revolutionary, but how then can the revolution just be starting? Part One focuses on the finance theory that is the foundation for indexbasedinvestment and explores the enduring logic and accelerating sophisticationof indexing. One of the most interesting elements in the growth ofindexing has been the constant interplay between academia and practitioners.

In fact, many indexing pioneers—past, present, and , likely, future—have blended careers in the ivory tower and the trenches of Wall Street. As background and perspective on some of the major milestones in thehistory of indexing, I have provided a time line of key developments inproducts and investment practice see the table on page Chapter 31 includes a more detailed version of this time line, extendedfurther into the future. That chapter looks deeply into future trends in theindustry and bravely naively?

Chapter 2 provides a comprehensive overview of the theoretical and practical foundations that started the indexing revolution. This history isboth interesting and entertaining. Part One provides a solid foundation in the history, rationale, and dynamismof indexing. It will hopefully propel the reader—with enthusiasm—into the more technical parts of the book. By the time you reach the finalchapter, you are likely to be as excited as I am about the next stage of the indexingrevolution.

Vanguard established its first retail index fund in , while international and fixed-income indexing started in the early s. Since then,hundreds of index futures, options, swaps, exchange-traded funds ETFs , and other index products have put theory into practice. The essential principleunderlying indexing—a focus on minimizing costs and controlling risks—remains unchanged and is now shared by index and active managers alike.

It is about ensuring that the investor chooses the appropriate mixof the two approaches. This theme concludes the chapter and is developedthroughout the book. The authors would like to acknowledge John Spence and Yi Zheng for their researchassistance in developing this chapter.

With his new benchmark, Dow hoped to give investorsan overall view of what the market was doing on any given day. In ,Dow Jones created the industrial average with 12 stocks and separated therailroad stocks into a separate average, which was renamed the Transportation Index. The DJIA exp and ed to 20stocks in , and to 30 in The index still lists 30 stocks on a priceweightedbasis, although the only company remaining from the original 12 isGeneral Electric see Table 2.

Since those early days, a mind-numbing array of index-based products—from index funds and ETFs to options, futures, and options on index ETFs—have been launched around the world. CompanyWhat Became of It? Steel in U. Leather preferred Dissolved in U. The Foundations of Index ing 15have constructed thous and s of indexes to meet these burgeoning product and benchmarking needs. Most important, an entirely new investing philosophyhas grown around indexing, and has fundamentally changed how sophisticatedinvestors look at the market.

This philosophy, which has gained groundin both institutional and retail investing circles, is an interesting mix of faithin efficient markets, sober examination of the facts of performance attribution, and a good dose of common sense. A casual conversation, struck up while they were bothwaiting to see the advisor, ultimately led to a radical transformation of theinvestment management industry. Harry Markowitz was the graduate student at the University of Chicago, and he started his project by perusing the st and ard research reports publishedin the industry.

He was struck by the focus on return as the primaryconsideration in choosing assets. When the portfolio managers of the daylooked at risk, they did so subjectively without fully underst and ing the interrelationshipsbetween securities. The name suggested that investors should search for the best portfolio, and not just the best stocks. Investors choose different portfolios because everyonehas different goals and varying tolerances for risk.

On the other h and , a retired investormight not be willing to stomach the ups and downs of a high-risk portfolio and would settle for a low-risk, low-return basket of securities. The set ofpossible choices is depicted in Figure 2. This diagram iscommonly known as the Efficient Frontier Curve, with the point on thecurve which touches the preference line point U being the point of maximumutility for the particular investor.

This new theory ran counter to the then-prevailing wisdom that an investorshould only buy a few firms that could be researched and examined indepth. Investors typically bought only companies that they understood, withoutconsidering how each addition affected the overall risk of the portfolio.

Analyzing a security portfolio would. Number crunching of this magnitude simply could not bedone within a reasonable time frame on the technological platforms of thoseyears. In addition, transaction costs were prohibitively high. Commissions averaged2 percent per transaction. By definition, a well-diversified portfoliowould require more transactions than a concentrated portfolio. The additionalcosts would negatively impact the benefits of diversification. He provedthat an investor could attain any desired point of risk by simply altering theproportion of cash and stock in a portfolio.

Furthermore, the investorwould be better off lowering the risk level with cash, instead of shifting themix of securities. It stated that the uncertainty of stock returns iscaused by two types of risk factors—systematic and unsystematic. This includes general shocks such as an unexpected rise in inflationor threat of war. Unsystematic risk, on the other h and , is specific toa particular stock.

Examples of this risk are rumors of management changes. The Foundations of Index ing 17 and product failures. Systematic risk should be rewarded, as that is the compensationfor being exposed to the vagaries of the general economy. Becauseunsystematic risk could be reduced to zero in a portfolio simply byholding securities that encompass all aspects of the market, it should notbe rewarded. In , Paul Samuelson published his paper on the information inherentin stock prices.

He said that the intrinsic value of stocks is nothing but theirmarket price at any moment. The only price at which equilibrium is reached is the market price. Eugene Fama exp and ed this argument. He coined a phrase with hisnew theory: the Efficient Market Hypothesis EMH , which has three levels—weak,semistrong, and strong. The semistrong versionsays that the market also reflects all current information, such as earningsreports and new product releases. Monopolisticinformation here is defined not just as information from all sources, butalso as the ability to translate that information into valuable asset selections.

The academic community debated which level of efficiency applied tostock prices, while the investment community, for its part, continued toblithely ignore the entire topic. The extended bull market that continuedinto the mids had contributed to a conviction in many quarters thatprofessionals who were willing and able to identify outperforming stockscould easily beat the market.

Only after a painful bear market did professionalsstart to differentiate between luck and skill. Alas, when the theoretical dust finally settled, it became all too clearthat because, by and large, the market is efficient, it is difficult to systematicallyexploit inefficiencies.

They are quickly priced out of the market and are fleeting at best. On average,investors are going to earn market returns minus whatever theircosts may be. And the more active the investors are, the more transaction,market impact, and tax costs they will have to deal with.

Thus, not onlymust active investors overcome higher costs, basic EMH theory holds thatit is nigh impossible to guess correctly over any long-term period aboutmarket or specific equity movement. Whether or not an investorbelieves in an efficient market, the logical course in investing is to firstmanage the controllable variables by dampening risk through diversification,while minimizing turnover, transaction costs, and tax implications. Achievingthese goals is the core logic supporting index investing and index-based products.

Many not-so-passive investors are using the increasingly diverse array ofindex products because of their diversification across a relevant asset class,their low turnover, and low-cost tax efficiency. All these subsequent developments were beyond the wildest imaginationof the first proponents of both modern portfolio theory and EMH.

In the earliestdays of index investing, unfamiliarity with these intellectual concepts inactual investing circles and a correspondent distrust of the unfamiliar delayedthe launch of index products. Then once they were launched, gaining sufficientassets took many years. However, indexing had to start from somewhere, and it all really began with the theoretical underpinnings of portfoliotheory and EMH articulated by Markowitz, Samuelson, Sharpe, and Fama.

The financial analysis department of Wells Fargo Bank performed trailblazingwork on fund management through a confluence of the right people and circumstances. The fund held an equal proportion of its assets in each of the approximately1, names listed on the New York Stock Exchange, as that seemedto be the most appropriate representation of the overall market. This meantthat the portfolio had to be constantly rebalanced—winners sold and loserspurchased to maintain equal weights.

Excessive transaction costs caused theequal-weighted strategy to be ab and oned in favor of a market capitalizationweightedfund. As long as dividends are reinvested, such a fund automatically. Meanwhile, Mr. Vertinwas not sympathetic to this at all. But McQuown had the ear of ErnieArbuckle, the chairman of Wells Fargo at the time, and Dick Cooley,who was president, and was telling them that they had to get theirinvestment operation up to snuff.

The people in charge of the trust divisionat Mellon were decidedly against that. So I really wanted to dosomething with my career at Mellon and was lucky enough to meetMcQuown. McQuown wanted toplace me right in the Financial Analysis department under Vertin.

Hegot me into the department because he had the ear of the president and chairman of the board of the company. Subsequentchapters in both Part Two and Part Four discuss the inherent advantagesof cap-weighted benchmarks and index funds. American National Bank of Chicago which was ultimately absorbed byNorthern Trust launched the first publicly marketed index fund. Booth left graduate school and went to workfor Wells Fargo on the first index funds.

Less than 10 years after graduation, they teamed up to take indexingin a different direction and build their own company. They documented that the return of small-cap stocks wassuperior to that of large-cap stocks by approximately 3 percent annually. The paper outlined a three-factor model based on risk, size, and financialhealth that largely determined the returns of stocks.

By the mids, disillusionment with active management was beginningto set in. After adjusting for inflation, stock prices in were at thesame level as It was a very different environment from the headys, and active funds were not holding up well under the brutal pressure ofa prolonged bear market. Other changes in the investing environment e. Stock commissions were deregulated on May 1, The typical commissionbefore then—about 2 percent of the trade—strongly affected the indexingbusiness because indexed portfolios held such a large number ofstocks.

The indexing wave did not leave individual investors behind for verylong, thanks in part to two Princeton alumni who brought index theory and index funds to retail investors. The release of new information,. The Foundations of Index ing 21which is itself unpredictable, determines stock prices. As Burton Malkiel brought the concept of indexing to the general public,academia continued to turn out a steady stream of research and mainstreamarticles that questioned the benefits of stock picking and activemanagement.

Awidely quoted and often misunderstood study by Brinson, Hood, and Beebowerpublished in the Financial Analysts Journal found that investmentpolicy, or asset allocation, dwarfs the effect of investment strategies, such asindividual stock selection or market timing. The authors found that asset allocationpolicies—the major asset classes include stocks, bonds, cash, and real estate—account for Chapter 30 addresses some of the misunderst and ings and misinterpretations of this l and mark study.

In a comprehensive study of mutual fund performance, Mark Carhartfound no evidence of persistence of fund outperformance after adjusting forthe common Fama-French risk factors as well as for momentum. For every loser, there must be a winner—not all investors canoutperform because they are the market.

In , John Bogle at the Vanguard Group, disillusioned with activefund underperformance, introduced the first index fund for individual investors. After reading a Fortune magazinearticle on the mutual fund industry in , Bogle decided to devote hisPrinceton senior thesis to the topic, and he took a job within the industrysoon after graduation.

However, after following with interest the EMH academicresearch and experiencing firsth and the failure of active managementwhile at Wellington Management, he left to form the Vanguard Group in Vanguard is currently second in retail mutual fund assetsbehind Fidelity, and its index funds include the top performers amongtheir peer groups over long periods, just as Bogle envisioned.

Bogle became the primary spokesperson for the index philosophy; and even after retiring as CEO of the Vanguard Group, he continued to makespeeches around the country to get the message out. Bogle always keptthings simple and clear for retail investors.

He pointed out that nearly all ofthem would be better off to just put their money into a broadly diversified,low-cost portfolio and leave it there. Even today, the Vanguard group continuesits effort to educate retail investors who are paying too much and making too little from their investments. The message has penetrated institutionalcircles, where by some measures, indexed assets are now approaching30 percent of the total assets in the United States as opposed to still lessthan 10 percent for U.

In, a paper by William Sharpe made another case for indexing. It provedthat the average active dollar has to produce a performance identical to theaverage indexed dollar before costs and fees. As an example, Sharpe and others ask investors to consider all managerswhose m and ate requires them to be measured against the benchmark of countryX. We use a supposedly inefficient emerging market to demonstratehow this theory works in all markets.

When our Index Fund began, it was criticized by virtually everyone. Inertia wasthe biggest problem—we had to get across the idea of indexing as away of investing, not merely a product. But such a large change in theway people think always takes some getting used to. Bogle: Yes, communism. The rewards go to the owners, not the managers. Investors as agroup lose by the exact amount of their costs So did indexing win today?

The data says that indexingwins. Search SpringerLink Search. Authors: view affiliations Robert M. Concise and easy-to-read style that avoids complicated, time-consuming study How to avoid unwise investments and recognize real opportunities Illuminating primer on understanding stocks, bonds, and mutual funds Practical approaches to building wealth and attaining financial security Funding your retirement and your children's education Investing in real estate so you can own your own home at an early age Includes supplementary material: sn.

Buying options eBook EUR Learn about institutional subscriptions. Table of contents 33 chapters Search within book Search. Page 1 Navigate to page number of 2. Front Matter Pages i-xv. Goals for Your Investment Return Pages The Magnificence of Compound Interest Pages Arrogrance, Ego, and Greed Pages The Mark Pages Define Specific Goals Pages Thrift Pages Invest in What You Know Pages Documents Required for Financial Security Pages Paying Daily Bills Pages Your Home Pages Insurance Pages About this book Although physicians are extremely intelligent, hard working, and superbly trained in medicine, they are often poorly trained in how to invest the hard-earned fruits of their labor.

Giving simple, practical advice on how health professionals can manage and invest their money, the book covers all general aspects of investing and financial planning, with the ultimate long-term goal of attaining financial security. Here, physicians will quickly discover what is a reasonable rate of return on an investment, when the return on an investment should immediately cause alarm, and how to recognize when a real opportunity does arise.

They will also find profitable suggestions about paying off their mortgage early, the power of thrift, when to buy and when to sell an asset, and whether to invest in stocks, bonds, real estate, collectibles, or art.

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Focus on fund assets, too. Hedge funds often hold investment vehicles that can be hard to sell and difficult to price. Understand your fee obligations. Hedge funds charge higher fees than regular mutual funds. Know your redeemable timelines. Instead, you can only redeem your shares four times or fewer annually. Know your hedge fund manager. Above all, keep your checkbook closed until you get all of your questions about the fund answered to your satisfaction.

You should also know if there are any potential road blocks in getting your cash back. Still convinced that a particular hedge fund is right for you? In most cases, hedge funds are open-ended and allow investments or withdrawals on a monthly or quarterly basis. Hedge funds can invest in nearly any asset class. This includes risky short-sales, real estate, equities, buying and selling entire firms, or using a specific investment ethic or rule. Many members of the Billionaire Club made their money as hedge fund managers.

Unlike public mutual funds, hedge funds only allow wealthy investors who can stomach high risks and high fees. With fees like that, it's no wonder there are so many wealthy people in the hedge fund arena. No specific rules forbid new investors from putting money into a hedge fund.

The big hurdle new investors have to overcome is to qualify under the Securities and Exchange Commission SEC rules as an accredited investor. If you do not meet these rules, you do not qualify to invest in hedge funds no matter how much experience you have with investments.

Accredited investor rules are not limited to hedge funds. They apply to most any private placement investments that are not open to the public on a major stock market or exchange. To buy regular stocks, bonds, and other investments, you need the cash to cover the investment. To invest in private placements, you must meet the accredited investor threshold.

Many hedge funds require more than just meeting the accredited investor threshold. Most have minimum account rules that put their funds out of reach for all but the richest people. If you qualify as an accredited investor and you find a hedge fund that will take your money, you have nothing holding you back from giving your money to a fund manager to do what he will with it.

But as Dr. Ian Malcolm said in "Jurassic Park," "Your scientists were so preoccupied with whether or not they could , they didn't stop to think if they should. Unlike passive index fund investing, hedge funds come with plenty of risks. There is a good chance you could double your money or more.

Still, you can just as easily lose every dollar. Unlike a business failure, which often leads to turning assets into cash and paying back investors to some extent, hedge fund failures are often all or nothing. They can lead to huge losses. New investors are far better off with a low-risk investment that will offer more stable returns. Even if you can afford to invest in hedge funds, they may not be the right fit for your needs.

In the world of investing, higher risk often means higher returns. Nowhere is this more true than the world of hedge funds. With high-risk plans, hedge funds can earn your money back many times over a short period.

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To qualify as a hedge fund accredited investor, you must clear two primary hurdles established by the SEC:. Vet the fund. Focus on fund assets, too. Hedge funds often hold investment vehicles that can be hard to sell and difficult to price. Understand your fee obligations. Hedge funds charge higher fees than regular mutual funds.

Know your redeemable timelines. Instead, you can only redeem your shares four times or fewer annually. Know your hedge fund manager. Above all, keep your checkbook closed until you get all of your questions about the fund answered to your satisfaction.

But those bets can lose. Hedge funds take on these riskier strategies to produce returns regardless of market conditions. This tactic appeals to investors looking to continue to earn returns even in bear markets. And, there may be some glamour associated with qualifying to invest in hedge funds. A hedge fund manager is an investment manager who makes daily investment decisions for a hedge fund.

Due to the large role they play in managing your money, you want to make sure any hedge fund manager is qualified to handle your money. Hedge funds also carry hefty fees. All of these fees can eat into your overall return.

This can make index-based ETFs and mutual funds, which have average expense ratios of 0. Hedge funds have historically underperformed stock market indices. That said, hedge funds still lost 4. By , hedge funds were up again, returning 6. This is a perhaps-exaggerated difference but in line with historical data: From through , hedge funds averaged returns of 6.

Does that mean in the debate between hedge funds vs. Not necessarily. Because of the higher levels of risk associated with hedge funds, the U. To invest in hedge funds as an individual, you must be an institutional investor, like a pension fund , or an accredited investor. SEC guidelines support this claim: In August , the SEC introduced provisions to allow those demonstrating advanced investing knowledge, gained through qualifying work experience or certain financial licenses , to become accredited investors, even if they lacked the financial qualifications.

To invest in hedge funds, first research funds currently accepting new investors. There is no standardized method or central accreditation authority. Each fund determines your status using its own practices. You may have to provide your income, assets, debts and experience and have this confirmed by licensed third parties, like a financial institution you have accounts with, an investment advisor or an attorney.

You can find ETFs, mutual funds and funds of funds that use similar strategies to hedge funds, like short-selling or leveraged investing, says Brewer. Historically, broad market indices have outperformed hedge funds, so you may be better off investing in index funds instead. Continuing to investing in index funds through years when the market is down and hedge funds are supposed to shine allows you to buy low and enjoy higher returns when the market recovers.

If you qualify as an accredited investor and are willing to invest hundreds of thousands of dollars—or even millions—at once, investing in hedge funds may be a smart way to diversify your profile and hedge against market volatility. In other words, being average is winning. Kat Tretina is a freelance writer based in Orlando, FL. She specializes in helping people finance their education and manage debt.

John Schmidt is the Assistant Assigning Editor for investing and retirement. Before joining Forbes Advisor, John was a senior writer at Acorns and editor at market research group Corporate Insight. Select Region. United States. United Kingdom. Kat Tretina, John Schmidt. Contributor, Editor. Editorial Note: We earn a commission from partner links on Forbes Advisor. Commissions do not affect our editors' opinions or evaluations.

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