Great recap of the 2004 AIMR Conference (bigwig wall street investment show): http://hussmanfunds.com/rsi/aimr1fim.htm Bottom line from the highly respected Peter Bernstein: the dumb money days are over, and mutual funds are going to have to change. No more love of indexing when the benchmark is no longer inexorably rising. No more pedigreed gorillas collecting paychecks for doing next to nothing. No more pollyanna morons getting free passes on CNBC. No more brainless bull market restrictions like long only, single style restrictions. No more pretending benchmark returns are an acceptable alternative to absolute returns. So what are the implications of an equity world in which the dumb money no longer dominates? positives â¢ higher sensitivity to overall risk means fewer asinine market moves that chiefly reward risk-insensitive players â¢ less willingness from the public to blindly fund elephants = less trampling power and less ability to ambush downtrends â¢ more willingness to go long as well as short enables more fluid (and rational) trends in both directions â¢ greater sensitivity to fundamentals and technicals will place a higher premium on skill / less premium on size or marketing â¢ as public recognizes the "dog chasing its own tail" nature of passive indexing, active management could return to fore â¢ return to active management + big shakeout = billions of dollars in investor capital looking for new homes â¢ greater opportunity for skilled managers as absolute returns become a dominant concept â¢ just as natural business equilibrium is tipping away from behemoth corporations in favor of smaller operations, the same could happen for trading funds as technology and competition enables lower operating costs (large scale hedge funds can only absorb so much capital before their reward/risk ratio for further expansion becomes unpalatable) negatives â¢ public response to mutual fund demise could be apathy or, worse, cries for government regulation and bailout â¢ short sighted politicians could restrict active management even further in an effort to preserve the status quo â¢ there could be a large dead spot in the midst of the transition- "market doldrums" where liquidity temporarily dries up Overall, the positive implications are very strong once the transitional waters are ridden out. The mutual funds' strongest hand has always been their ability to siphon funds from a captive and blind audience, allowing them to take ridiculous risks, underperform badly, and yet spin their game as the only way to go. Trading against a mutual fund is a bit like playing poker against an exceedingly obtuse and arrogant opponent with one key advantage: he has an unlimited bank roll of someone else's money. Thus they can play like shit from a tactical perspective and be overly aggressive on every hand. After all, who cares, it's not their money and there's always more coming (or at least that's how it used to be). This risk-insensitivity is a "dumb money edge" that creates temporary distortion (like when a market should rationally decline but doesn't for example), and is used to ill effect against absolute return players who can't afford to burn their capital. With the dumb money edge diminished and the public more awake (or more absent from the field) in the long run, mutual funds will no longer have the risk-insensitivity shield that has protected them for so long. This is assuming, of course, that a significant enough portion of the public (or rather, a significant enough portion of the public's funds) wakes up to reality over time as Bernstein thinks will happen. In the bigger scheme of things, this has to be positive I think, for a few key reasons (some of which are restatements): I. Broader acceptance of absolute returns vs benchmark -and broader willingness to look for smaller managers with alpha rather than gorillas with pedigrees- can only make things easier for aspiring managers with genuine skill rather than old boy network connections. II. The intensified competition among a smaller pool of skilled managers as it becomes an absolute return world could be potentially dwarfed by the available pool of capital to be allocated when the old boy network is taken out of the picture. If large swathes of public money start looking for absolute returns, the elephant herd is going to be mercilessly culled, and that money is going to have to find a new home. III. Greater acceptance of style diversification and a broader willingness to go short as well as long could lead to a more natural acceptance of derivatives (futures and options) by a large contingent of elephants that have previously shunned them purely for reasons of appearance that are intrinsically illogical. It's only a matter of time before the media notices that many supposedly "safe" mutual funds have much higher volatility swings and lower information ratios than many supposedly "risky" futures funds (that is, once the megafunds lose their stranglehold on the media). This recognition that risk is in the hands of the manager and not the underlying instrument, combined with the shift from a long only benchmark world to a long/short absolute return world, could result in an open interest explosion for futures that dwarfs all previous levels. IV. No matter how many aspiring managers there are, no matter how many brilliant MBA's and quants there are, there will never be an excess supply of emotionally balanced individuals. Emotional balance is essential whether you are discretionary or mechanical (mechanical traders still have to allocate capital and make risk management decisions under duress). Emotional balance can't be taught in school, it can't be faked, and the cultural influence of narcissistic modern society makes it even harder to attain. Furthermore, finding someone who is emotionally balanced yet driven to compete at the highest levels of the most competitive game in the world is even tougher- not to mention said person's need to be highly intelligent and deeply talented yet genuinely humble and grounded at the same time. To the degree that a trader's performance pattern is reflected by his quality of life patterns and quality of thought patterns, there will always be a bull market for sound and balanced indviduals who have the contrasting skillsets so hard to find in one person. In otherwords: if you've got the skills, it could be a great 21st century. I definitely expect the mutuals and the "old guard" to fight this change, but it will be akin to the old guard currently fighting the shift from public schools to private school choice- underlying currents are so strong that real change is only a matter of time, even if it takes a while.