So what you're saying is, we could have a run on the S&P 500... inconceivable!
Seriously though, the outsized Boomer demographic hitting their age of required minimum distribution, which are 3.6% per year in year one, and increases every year, would allow the quant minded to fairly accurately model this liquidity demand.
The saving grace might be that Boomers as a demographic were late to get involved in IRA's and passive compared to Gen X and Millennials, which had them available (some might say foisted) practically from the start of their careers. So, this time bomb might have another 20 years yet before detonation.
On the other hand, if you assume the median Boomer is 72, in 20 years, they will be 92 and staring down a 9.2% mandatory withdrawal liquidity demand. Assuming they make it that long, of course, which according to our Gompertz Interval math suggests less than 1/3rd will. On the third hand, the heirs of the unfortunate 2/3rds are required to withdrawal at an even faster rate (I think). Lots of moving parts, but the beauty of demographics, like the motion of the planets, is it's all tractable for those motivated enough to work through the math.
I have never had an entire well-researched blogpost made in response to my questions. So I am wowed by this post. Really bravo!
I hate to burst your bubble, but I am not a wizenned, rich boglehead, but a 26 year old starting my investment journey, not ahead of you but far far behind, treading the path you have already been on.
Phenomenal blogpost and a lot to think about. Thank you!
My question is and this may be incorrect because it is off-the-cuff. Ultimately, cash, bonds, and stocks are all simply held through excess savings of the public sector, therefore, higher P/Es can be caused by changes in what percentage of these savings are held in each asset (as you propose) OR by an imbalance between excess savings and these assets (too much cash chasing too few saving vehicles). Could higher PEs and lower cash be due to the fact that there is just simply too much wealth in the world vs. the savings vehicles they can go in. Too many people who are wealth vs. entrepeneurs who use this wealth to make savings vehicles (bonds and stocks)?
Sir, please keep writing and even hammering this topic. So few understand it well and almost no one explains it as clearly. I wrote way back in the mid 2000's that passive funds were an engine of contagion over time, but mine was an intuitive understanding. Your depth of knowledge led you to understand and explain it far better than I ever could.
This religious belief in indexing, along with the efficient markets hypothesis have had an easy time with the demographic trends in the developed world, along with the 40+ year bull market in interest rates and equities both. Demographics are turning that upside down. I have a feeling the 60/40 buy and hold crowd is not going to be happy in the coming 40+ years.
Thank you. I love everything you share. My take away is if 85% of flows are inflows from 401k passive investors then the market should consistently drift up. so the market moves are caused by the 15% active buying and selling, so big moves down are much less than they could be if the passive folks became more active. I was passive for 20 years until the Covid crash. I woke up because I’m now older and starting to worry more about not losing my nest egg more than growing it. With decent rates on long bonds now, seems there is a risk of more older people getting out of stocks, especially since the risks seem elevated. From your data I think you are showing that active cash holding is mainly for redemptions, and even active managers don’t really market time, is that right?
given the % passive vs equity level chart, would it make sense to have a longer term portfolio structured such that most of the funds are yield-seeking via active and the small remainder of funds holds long-dated stupid-far-OTM strangles. If so, is simplify thinking of structuring any ETF offering like that? Or am I misunderstanding you and that the far OTM vol might not be underpriced?
Just wondering if the use of the term ‘passive’ may be too broad because you appear to equate it with its most common algorithmic variant - cap weighted.
The self reinforcing process would not be there for, say, ‘value’’. While I guess you are correct that most ‘passive’ is indexed to cap weighting, I wonder what percentage of ‘passive’ follows non self-reinforcing algorithms?
Brilliant, excellent, etc...I don't think you could disappoint even if you tried Mike. My hunch is that none of this active vs. passive/market structure issues will matter much until either unemployment rises beyond some unknown level and/or baby boomers begin to retire in masse and ask for cash beyond some unknown threshold level (ask for cash then sell, give me cash then buy)
This is fascinating. I’d never thought of it this way. Makes sense. Seems like you could make a killing providing liquidity but then again the Vanguard wave reversed would just shut down markets. I started a boglehead and still adhere to many of the low cost principles but I’ve embraced value, momentum, trend, etc. I’m also currently blatantly market timing by keeping in Treasuries.
Well done Mike, as usual. Similar to another reply here, does the constant supply of deficit state spending and the institutional structure of incentivized savings potentially obviate this concern outside of acute situations? Maybe it's the acute situation that you're worried about? Ie: when passive become net sellers such as briefly during the height of Covid....
Thanks Mike. Wondering if you could elaborate on how one is to square the analysis of John Hussman on the inevitable return to the mean and the constant bid passive? Is a return to the mean even possible between now and the end game for passive?
So what you're saying is, we could have a run on the S&P 500... inconceivable!
Seriously though, the outsized Boomer demographic hitting their age of required minimum distribution, which are 3.6% per year in year one, and increases every year, would allow the quant minded to fairly accurately model this liquidity demand.
The saving grace might be that Boomers as a demographic were late to get involved in IRA's and passive compared to Gen X and Millennials, which had them available (some might say foisted) practically from the start of their careers. So, this time bomb might have another 20 years yet before detonation.
On the other hand, if you assume the median Boomer is 72, in 20 years, they will be 92 and staring down a 9.2% mandatory withdrawal liquidity demand. Assuming they make it that long, of course, which according to our Gompertz Interval math suggests less than 1/3rd will. On the third hand, the heirs of the unfortunate 2/3rds are required to withdrawal at an even faster rate (I think). Lots of moving parts, but the beauty of demographics, like the motion of the planets, is it's all tractable for those motivated enough to work through the math.
I have never had an entire well-researched blogpost made in response to my questions. So I am wowed by this post. Really bravo!
I hate to burst your bubble, but I am not a wizenned, rich boglehead, but a 26 year old starting my investment journey, not ahead of you but far far behind, treading the path you have already been on.
Phenomenal blogpost and a lot to think about. Thank you!
My question is and this may be incorrect because it is off-the-cuff. Ultimately, cash, bonds, and stocks are all simply held through excess savings of the public sector, therefore, higher P/Es can be caused by changes in what percentage of these savings are held in each asset (as you propose) OR by an imbalance between excess savings and these assets (too much cash chasing too few saving vehicles). Could higher PEs and lower cash be due to the fact that there is just simply too much wealth in the world vs. the savings vehicles they can go in. Too many people who are wealth vs. entrepeneurs who use this wealth to make savings vehicles (bonds and stocks)?
Sir, please keep writing and even hammering this topic. So few understand it well and almost no one explains it as clearly. I wrote way back in the mid 2000's that passive funds were an engine of contagion over time, but mine was an intuitive understanding. Your depth of knowledge led you to understand and explain it far better than I ever could.
Well done Sir!
This religious belief in indexing, along with the efficient markets hypothesis have had an easy time with the demographic trends in the developed world, along with the 40+ year bull market in interest rates and equities both. Demographics are turning that upside down. I have a feeling the 60/40 buy and hold crowd is not going to be happy in the coming 40+ years.
Thank you. I love everything you share. My take away is if 85% of flows are inflows from 401k passive investors then the market should consistently drift up. so the market moves are caused by the 15% active buying and selling, so big moves down are much less than they could be if the passive folks became more active. I was passive for 20 years until the Covid crash. I woke up because I’m now older and starting to worry more about not losing my nest egg more than growing it. With decent rates on long bonds now, seems there is a risk of more older people getting out of stocks, especially since the risks seem elevated. From your data I think you are showing that active cash holding is mainly for redemptions, and even active managers don’t really market time, is that right?
given the % passive vs equity level chart, would it make sense to have a longer term portfolio structured such that most of the funds are yield-seeking via active and the small remainder of funds holds long-dated stupid-far-OTM strangles. If so, is simplify thinking of structuring any ETF offering like that? Or am I misunderstanding you and that the far OTM vol might not be underpriced?
Just wondering if the use of the term ‘passive’ may be too broad because you appear to equate it with its most common algorithmic variant - cap weighted.
The self reinforcing process would not be there for, say, ‘value’’. While I guess you are correct that most ‘passive’ is indexed to cap weighting, I wonder what percentage of ‘passive’ follows non self-reinforcing algorithms?
Or, would you not consider this ‘passive’?
Brilliant, excellent, etc...I don't think you could disappoint even if you tried Mike. My hunch is that none of this active vs. passive/market structure issues will matter much until either unemployment rises beyond some unknown level and/or baby boomers begin to retire in masse and ask for cash beyond some unknown threshold level (ask for cash then sell, give me cash then buy)
This is fascinating. I’d never thought of it this way. Makes sense. Seems like you could make a killing providing liquidity but then again the Vanguard wave reversed would just shut down markets. I started a boglehead and still adhere to many of the low cost principles but I’ve embraced value, momentum, trend, etc. I’m also currently blatantly market timing by keeping in Treasuries.
Vanguard: trusted by millions with their retirements, if you question their expertise you are scoffed at by co-workers and HR.
Great article Michael! I have followed you on RV for years and can’t believe that passive investing has yet to come completely unglued!
Thanks for educating Mike. Love the socrates style.
Please have a TLDR summary at the end of each article. Thank you!
Have you seen this FRED chart? It shows the average investor portfolio allocation to equities. May be helpful in your analysis.
https://fred.stlouisfed.org/graph/?g=qis
Well done Mike, as usual. Similar to another reply here, does the constant supply of deficit state spending and the institutional structure of incentivized savings potentially obviate this concern outside of acute situations? Maybe it's the acute situation that you're worried about? Ie: when passive become net sellers such as briefly during the height of Covid....
Thanks Mike. Wondering if you could elaborate on how one is to square the analysis of John Hussman on the inevitable return to the mean and the constant bid passive? Is a return to the mean even possible between now and the end game for passive?