The paradox of index investment

August 3, 2020
by Noriyuki Morimoto

The market index is the average price of securities traded on the market. The average price is the aggregate of the results of price fluctuations of individual securities. Index investment is to set the goal at this value, which is merely an aggregate of results, but does it make sense?

There are all kinds of different proficiency tests in the world, in which the average scores are always likely to be calculated, but would anyone taking the test aim for the average score?

Suppose five people run a race. Of the five, the fastest runner can try to run at the average time, but for what kind of social significance? If you are the fastest, you should try as hard as you can and improve the average time.

If all five runners aim for the average time, the meaning of running will be lost: they will just be stuck standing side by side at the starting line.

Achilles running behind the tortoise eventually catches up if he runs normally. But if the outcome of catching up becomes his purpose, theoretically he will become unable to pass the tortoise. If you shoot an arrow at the target, the arrow will eventually hit. However, when reaching the target becomes the purpose, theoretically the arrow does not reach the target. This is a famous paradox in philosophy.

Since everyone runs trying to win the race, everyone’s average time improves. All investors try to pick the best stock, which improves the market average. If all market participants attempt index investment, the securities price will possibly stop fluctuating, as all runners in the race will continue to stand at the starting line aiming for the average time.

 

[Category /Equity Investment]