Succinct Summation of Week’s Events April 22nd 2016 ( + Index Funds & Breaking the Banks)

It's time for the weekly eye-shot again, and this time it's a lengthy list with the positives and negatives just about even, though I'm not sure why the death of Prince makes it into the negative column in the grand scheme of global market economics.  This Sunday's bonuses include Barry Ritholtz's informative Friday column about index funds as they relate to efficient market theory ... AND ... fresh off the presses from today's The Big Picture, a fascinating April 4th paper from the Federal Reserve outlining how all the biggest banks might be broken up.  A longer than average read but, it's not just an intriguing look into a possible future, but also a pretty instructive overview of how banking works.  Hope everyone had a great weekend.

Succinct Summation of Week’s Events April 22nd 2016

April 22, 2016 5:00pm by Barry Ritholtz

Succinct Summations for the week ending April 22nd 2016:

Positives:

1. Initial jobless claims fell to 247k — the lowest level since 1973! The 4-week average is down to 260.5k. Continuing claims fell to the lowest since 2000.

2. Existing home sales (closings) rose 5.1% to an annualized rate of 5.3 million, and are up 4.8% for the first quarter.

3.Philly manufacturing index six month business activity outlook rose 14 pts to the best level since February ’15.

4. Months’ supply of homes for sale rose to 4.5 from 4.4, improved but well below long term average of about 6 months.

5. MBA purchase applications to buy a home are up 17.2% year/over/year. Refi applications were up by 2.6% and higher by 13.4% y/o/y.

6. The average 30 yr mortgage rate at 3.83% is exactly where it was one year ago.

7. April NAHB home builder sentiment index was 58, unchanged; Prospective Buyers Traffic was up by 1 pt to 44 which matches the six month average. NAHB described the new home housing market by saying it “continues to recover at a slow but consistent pace.”

Negatives:

1. US housing starts fell 8.8% in March, to 1.09mm, to an annualized rate of 1.089m, below the 1.167 expected.Housing permits fell 7.7% to an annualized 1.086m rate;

2. First time buyers are still lagging far behind historical trends at 30% of total sales. The median price rose 5.7% y/o/y and at $222,700 is at three month high and the 6th highest print ever.

3. PMI manufacturing flash index fell to 50.8, down from 51.4 previously.

4. Philly Fed survey fell to -1.6, down from 12.4 previously and below the 9 expected; Index is now negative for the 7th month in the past 8.

5. Bloomberg consumer comfort index fell to 42.9, down from 43.6 previously.

6. April Markit US manufacturing PMI fell to 50.8, the weakest level since September ’09 from 51.5.

7. RIP Prince. “So when you call up that shrink in Beverly Hills, you know the one, Dr. Everything’ll be alright. Instead of asking him how much of your time is left, ask him how much of your mind, baby. ‘Cause in this life, things are much harder than in the after world. In this life, you’re on your own. And if the elevator tries to bring you down, Go crazy, punch a higher floor.”

 What Do Overpriced Index Funds Tell Us About Market Efficiency? - The Big Pict

What Do Overpriced Index Funds Tell Us About Market Efficiency?

April 22, 2016 1:30pm by Barry Ritholtz

Many traders and investors acts as if markets are efficient, meaning that asset prices fully reflect all available information. We see this manifest itself in numerous ways — how prices rapidly adjust to new information and how few investors manage to beat the broader indexes by picking stocks or trying to time the market.

At least that’s the gist of the efficient market hypothesis, which won University of Chicago economist Eugene Fama a Nobel Prize. The problem is that in practice, there are lots of information asymmetries and frictions that make markets somewhat less than perfectly efficient. To reflect this, I started referring to Fama’s thesis as the kinda-eventually-sorta-mostly-almost efficient market theory.

That description leads us to today’s discussion about high-priced index funds.

If that sounds sort of contradictory, that’s because it is. One of the key ideas behind index funds is that they have low costs, turnover and taxes. Since most investors can’t beat the markets, why not just match the market in a fund that tracks a major index and keep investment and management expenses to a bare minimum.

But that isn’t always the case. While many index funds have fees that are almost 100 basis points less than actively managed funds, according to the Wall Street Journal, there still are quite a few expensive index funds out there. Michael Johnston of Fund Referencelists 94 funds that track the Standard & Poor’s 500 Index, sorted by expense ratio and minimum investment. Johnston concludes that only three of the funds are worth bothering with.

The most egregious example cited in his list: the $275 million Rydex S&P 500 fund, with annual expenses for the C class shares at a whopping 2.32 percent. Compare that with the Fidelity Spartan 500 Index Advantage fund and Vanguard 500 Index Admiral fund, both of which charge 0.05 percent. The other fund that gets Johnston’s thumbs up is the Schwab S&P 500 Index, with annual charges of 0.09 percent, and a minimum opening investment of just $100.

More to the point, the real test of an investment is what you get for your money. As the chart below shows, the Rydex S&P 500 fund’s high fees lead to underperformance.

Since 2011, the fund has returned an annual 8.5 percent, while the S&P 500 itself has gained 11 percent a year, according to data compiled by Bloomberg.

So how can we explain why people waste so much money on a simple index fund? Shouldn’t the market correct this?

Eventually, the efficient market hypothesis goes, it should. But it seems to take a whole lot longer than the theory would imply. Keep in mind, there are number of significant factors working against the average retail investor: Investing itself can be complex and time-consuming, and many people find it confusing. Note that this is a feature of the industry, not a bug. If everything was simple and understandable and free from jargon, high-fee index funds wouldn’t exist.

Despite this being the age of Google search, individual investors confront a tremendous information asymmetry. The industry knows much more than the consumer; brokers are aware of what things should cost and how much they can get away with charging investors. Let’s be honest: Sales people understand and make money off of impulses and irrational behavior. This goes a long way toward answering why theories that count on rational market actors often fail.

In turn, this might help to explain why expensive index funds stay in business.

Another Nobel Prize winner, Paul Krugman, tried to explain market inefficiencies in a 1997 Fortune article. He identified seven bad habits or attitudes of investors that make markets less efficient:

• Think short term.

• Be greedy.

• Believe in the greater fool.

• Run with the herd.

• Overgeneralize.

• Be trendy.

• Play with other people’s money.

All of this introduces huge amounts of inefficiency to markets. None of these behavioral patterns show any sign of disappearing soon.

As noted before, markets eventually get it more or less correct, but along the way, they can deviate from the true path of efficiency. We just need to wait a decade or three for that efficiency to sort itself out.

Originally: Overpriced Index Funds Won’t Go Away

BONUS #2:
A Size Cap for the Largest U.S. Banks - The Big Picture