ETF Bubble in 2021? What Michael Burry and Warren Buffett Think About Index Funds!

ETF Bubble in 2021? What Michael Burry and Warren Buffett Think About Index Funds!

Did you know that since 2003, the money 
invested in ETFs has gone up by 3,000%!  So much so that money invested in passive funds 
have already overtaken active funds in the US.  That led Michael Burry to 
call this a 2008-like bubble   and he’s warning investors to 
stay away from ETFs at all costs.  Burry is the hedge fund manager that was 
featured in the movie “The Big Short”.  He’s the one that predicted the housing crash 
right before the 2008 Global Financial Crisis.  And on the other side, you have Warren 
Buffett who is also an active investor   but who loves index-based ETFs.
He said on multiple occasions   that the best thing the average investor can do 
is to invest in an ETF that tracks the S&P 500.  So who is right here?
Are ETFs creating the next bubble   or are they the easiest and best way for 
investors to invest in the stock market?  That’s the question that we will 
look at in this video – so let’s go!  What’s up everyone!
This is fu academy – your channel for financial education.
And on this channel, I share lifestyle, investing   style and educational videos – just like this one.
So if you are new here, consider subscribing.  Just very quickly if you 
aren't sure what an ETF is.  An ETF provider like Blackrock, for example, 
sets up a fund with an objective which can be   to track an index like the S&P 500.
So Blackrock goes out and buys   all the stocks of the S&P 500.
And if the S&P 500 goes down 1%,   then the ETF will do exactly the same thing.
As an investor, you can now   buy a share of that ETF.
And each ETF share owns a portion   of all the companies that are in an index.
So instead of going out and buying all the   500 stocks of the S&P 500, you 
can simply buy an S&P 500 ETF.  If you want to learn more about ETFs, their pros and cons,
then check out the video in the link.  Let’s first have a look at Michael 
Burry’s view on index-based ETFs.  In a 2019 Bloomberg interview, he said that index 
funds are dangerous and that they are creating   a massive bubble, similar to subprime 
CDOs in the 2008 Global Financial Crises.  One of his main points for 
this is price discovery.  He said that “passive investing removed 
price discovery from the equity markets”.  But what is price discovery?
Price discovery is the act of   determining the price for a stock, for 
example, by reviewing all information.  It essentially means that the buyer analysed 
a stock and knows the fair value of it.  Then buyer and seller meet, negotiate a 
fair price and complete the transaction.  But index-based ETFs don’t do that.
Their only objective is to   track an index, like the S&P 500.
So the ETF provider goes out and blindly buys   all the stocks that are included in and index.
The ETF doesn’t care if a stock   is over- or undervalued.
The money flows from the ETF buyer   to the companies that are included in an ETF 
and ultimately increase their share prices.  And that goes especially for smaller companies 
that are lucky enough to be included in an ETF and which otherwise wouldn’t 
get all that ETF money.  If you want to know why and how that happens 
and how the pricing of an ETF works,   then check out the video in the link.
And as long as it’s buy-buy-buy for ETFs,   then the share price of companies 
that are in an ETF go up.  And Burry sees a big risk here.
He says that without any price discovery,   market forces will come in at one point and 
correct the prices through a stock market crash.  And he said that “Like most bubbles, the longer 
it goes on, the worse the crash will be."  But is it true that there is no price 
discovery for ETF stocks anymore?  In 2017, Jack Bogle – founder 
of Vanguard and father of index   investing – made a really interesting point here.
He said that the stock market would still have   price discovery even if indexing 
would be 90% of total investing.  Also important to understand is that it’s not 
just capital flow that sets the share price.  It’s more so the trading activity, so the last 
transaction that was done on a certain share.  If you want to know more about how the stock price 
is created, then check out the video in the link.  But how much of the trading 
activity comes from index investing?  According to a Vanguard research paper from 
2018, indexing only had a share of 5% of the   total trading activity in the US.
So not really big!  And even if ETFs would inflate share prices 
of certain stocks, there would be smart, active   investors that would short overvalued stocks 
until the prices go back to a normal level.  On the other side you have Warren Buffett, 
the father of value investing, one of the   greatest active investors of all time.
And he loves index-based ETFs!  Since the 1960s, Buffett has been investing 
through his holding company, Berkshire Hathaway.  And in that time, the performance of Berkshire was 
more than twice as high as the S&P 500 – per year.  If you invested 100 dollars 
into Berkshire in the 1960s,   that money would be worth over a million by now.
And this guy now recommends buying an S&P 500 ETF   before he recommends buying shares of 
Berkshire, his own investment company.  In Berkshire’s last annual shareholder meeting 
in May this year, he said that he “recommends   the S&P 500 index fund to people” and that 
he “never recommended Berkshire to anybody”.  And he said that at a time where S&P 500 
was setting yet another all-time high.  He explains it like this:
He started by showing a recent list of the   20 largest companies in the world by market cap.
On number 1, you will find Apple with a market   cap of over 2 trillion dollars.
And it goes down to number 20   with a market cap of 330 billion dollars.
He then pulled out the same list of the 20   most valuable companies – but from 1989.
And he pointed out 1 very important thing:  “None of the 20 from 30 years ago 
are on the present list.

berkshire hathaway annual meeting 2021

None. Zero.”  He said that “the world can change 
in very, very dramatic ways.”  He also pointed out that the most valuable company 
in 1989 had a market cap of 100 billion dollars.  The largest company today has a 
market cap of over 2 trillion dollars.  So the largest company in the world has increased 
in value from around 100 billion dollars to over   2 trillion dollars in just 30 years – so 20x.
Buffet said that “The main thing to do was to   be aboard that ship” by investing 
in an ETF that tracks that index.  And to get the most out of ETFs, Buffett suggests 
investing regularly over a long period of time –   which is also known as dollar-cost averaging.
He said that "By periodically investing in an   index fund, the know-nothing investor can actually 
out-perform most investment professionals”.  And whoever knows a bit about Buffett knows 
that he doesn’t like overpaying for things.  The same goes for his investment advice.
He said that “I would be very careful about   the costs involved, because all they're 
doing for you is buying that index.”  The main message here is that markets can 
change quickly and companies or industries   that are dominant today are very unlikely 
to stay dominant in a few decades from now.  That’s why it’s so important to diversify your 
investments across industries and sectors.  One easy way to do that is 
through an index-based ETF.  And if you invest in it periodically, as Buffett 
suggests, you also don’t try to time the market.  Staying invested is key here.
In fact, in the last 20 years,   if you would have stayed fully invested without 
trying to time the market, you would have gotten   an annual return of 7.5%.
If you would have done market timing and missed   out on the 10 best trading days in those 20 
years, your return would have gone down to 3%!  And if you would have missed the 20 best trading 
days, your annual return would have been below 1%.  And it turns out: You don’t even 
have to sacrifice on performance   by investing in an index-based ETF.
The average stock market return of the   S&P 500 over the last 100 years was around 8% 
adjusted for inflation and including dividends.  Another advantage of ETFs that 
Buffett points out is that they are cheap.  Because of the high competition in 
the field, costs for ETFs and index   funds are becoming cheaper and cheaper.
The average expense ratio for passive   ETFs or index funds is around 0.2%.
They are also low because there is   no expensive fund manager that you 
need to pay that picks stocks for you.  The only thing they do is to track an index in an automated way.
Ok so who is right here?  On the one hand, you have Burry saying 
that index-based ETFs are dangerous   and that they create a massive bubble.
And on the other side you have Buffett   who recommends ETFs to the average investor.
Why is there such a difference between the 2?  In my opinion, the biggest differentiator is time.
Burry is a hedge fund manager, always looking for   investment opportunities to make 
money over a short time frame.  He has a very strong opinion on where the 
market will move in the next 1 or 2 years.  That’s how he predicted and bet against the 
US real estate market in 2005 – so he was even   a bit too early on that one.
Buffett, on the other side,   is a long-term investor.
He thinks in decades and not in years.  Take Coca Cola for example.
Buffett started investing in   that stock in 1988, so 33 years ago, 
and he still holds Coca Cola today.  He doesn’t just recommend buying ETFs 
now to make a profit in 1 or 2 years.  He suggests buying and holding 
ETFs for decades to come.  History has shown that investing in 
the stock market through an index-based   ETF has been the most successful strategy.
And it comes with some really nice benefits like diversification, low costs and transparency.
But what do you actually think?  Will Burry be right with his prediction that 
the ETF bubble will bring down the stock market?  Or is Buffett right that index-based ETFs are the best 
long-term investment for the average investor?  As always – let me know in the comment section below.
I hope that this video   could bring some value to you.
If you liked what you saw and you want to support   this channel, then please make sure you subscribe.
Thank you very much for doing that – and peace!

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