Are too many people passive investing?

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Jul 7, 2025

Dimitri Vayanos, a Professor of Finance at the London School of Economics, dives into the impacts of passive investing, now dominating 60% of US stock funds. He discusses its role in driving up company valuations and potential market volatility. The conversation contrasts passive and active strategies, emphasizing how individual investors may be swayed by trends. Vayanos also explores the risks of over-reliance on major firms and the need for diversification in today’s financial landscape.

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INSIGHT

Basics of Passive Investing

Passive investing started as holding a fixed portfolio with no frequent trading, usually via indexes like the S&P 500.
It relies on market efficiency, assuming investors cannot consistently beat the index.

INSIGHT

Passive Investing Boosts Mega Firms

The growth of passive investing disproportionately inflates valuations of the largest firms in the index.
Passive funds buy stocks based on market capitalization, pushing up prices of mega firms like Tesla.

INSIGHT

Index Weighting Fuels Price Spirals

The large-cap weighting of popular indexes channels more passive money into mega firms, elevating their prices.
This effect can cause price spirals, making it riskier for active investors to underweight these overvalued stocks.

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As you know, we’re big fans of passive investing — it’s simple, low-cost, and it works. But with passive funds now making up nearly 60% of US stock funds, what has that done to the market? Could it be causing more volatility? Has it pushed company valuations too high? And what happens if everyone becomes a passive investor? Dimitri Vayanos is Professor of Finance at the London School of Economics and co-author of the award-winning paper Passive Investing and the Rise of Mega Firms.

Read Dimitri’s paper here: https://personal.lse.ac.uk/vayanos/Papers/PIRMF_RFSf.pdf

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