Why WSB is now running the entire equity market – Investment Professional here via /r/wallstreetbets

I am someone who has spent over a decade in finance, first in a hedge fund and then in private equity

If you want to understand what it is going on. You have to understand that the largest driving force in the background in which you are operating in is the shift from active managers to passive managers. The vanguard crowd has been winning for more than a decade and now we are at a point where nearly all new money entering the market comes in the form of passive ETFs and index funds.

And here is where the fun begins. millennials and new investors have a extreme preference for passive management while baby boomers largely invested in active managers. So in the past few years, all new money entering the market is passive and all old money leaving the market is active. Hedge fund and mutual fund managers are shedding AUM while the likes of vanguard and ETFs have been gaining AUM.

So why does this matter?

Well, the old operating model of securities analysis was predicated on value judgements. If a stock falls 20%, your money manager tasks a analyst to runs a DCF/comps analysis, and tells you it is undervalued by 10% based on the latest assessment, and that the fund should buy some shares. The old buy low sell high with a dash of analysis added in. That was how things use to run anyways. But in the world of passive investing, price becomes the only judgement as to whether it should be added or subtracted, there is no analysis of valuation metrics, fundamentals of the business or even if it is a fraud or not. There are no analysts digging into the company, calling up suppliers, doing channel checks. It is just pure automation, stock goes up, it gets reweighted high, buy. Stock goes down, it gets reweighted down, sell. The market has become dumber over time. And the people who do the work do not get paid for it, because more and more of the market is passive. So undervalued things remain undervalued, and overvalued things get more overvalued.

There are essentially three players left in this market, of which only two are active investors. You have the passive money, which now drives 90%+ of the market. You have the small remaining active investor base, who have been shedding AUM and are desperate to hold on to their jobs and are forced to actually follow indexes to avoid getting fired, and what their doing which is arbitraging value, no longer pays off. Then you have people like WSB and stocktwits, where people chase momentum in everything from large tech to chinese frauds. What you are seeing today is the two remaining active groups fighting to control the flows of the passive money (who simply follows whichever side has more momentum).

This is why we are in a world where TESLA can go up valuation by 10x despite revenue only increase by 15%. We are in a world where large cap gets larger. We are in a world where a bunch of degenerates gambling on FDs, which then drives gamma covering by market makers will create an escalating feedback loop in which passive money piles in, making it into a self fulfilling prophecy.

So thank the Bogleheads, you have the keys to the Asylum. You are now running the trillion dollar global equity markets. The memes are now real and you are now the captain of Wall Street.

Edit: to all the morons who keep saying I am wrong because passive is not 90% of the market. Yes it’s more like 60-65(passive) 35-40 (active) right now. But what drives price action is the marginal buyer and seller. The total market doesn’t matter worth shit. Grandma with her 20 shares of Ford she plans to gift to Timmy 10 years down the line doesn’t move market price today. 90%+ of the marginal Flow of money today is passive and that sets the price.