This weekend my attention was drawn (thank you to PSG Asset Management’s Shaun le Roux) to an article on the FT website with the title above.
There is no doubt that many tracker funds and ETFs have had very strong performance in recent years as we have seen a powerful momentum trend push the prices of huge companies ever higher. This is a typical characteristic of a late-stage bull market.
“Take the Nasdaq 100 index on which the popular PowerShares Nasdaq 100 ETF is based” writes author John Plender. “It has almost $50bn of assets, making it one of the 10 largest ETFs in the US. Steven Bregman, co-founder of Horizon Kinetics, the investment adviser, highlights that just the top five holdings in the Nasdaq 100 — Apple, Google, Microsoft, Amazon and Facebook — comprise 41 per cent of the value of the entire index. If an active manager took on such a concentration of risk it would be regarded as daring, bordering on reckless.”
Plender reminds us that we should not forget the lessons learned in the late-90s dotcom bubble where a handful of huge stocks, driven to stratospheric valuations by the index stock forced buyers, came tumbling down – dragging the now forced sellers with them.
As I have said before, I am neither a blind disciple of either active or passive management, but I do worry about investments which hold and continue to buy (and be forced buyers) of assets which are expensive.
Extreme valuations and extreme concentrations increase the risks of permanent capital loss for investors.
Helping our clients to avoid permanent capital losses is a vital role which we as prudent financial advisors should serve.