Stocks only go up.

Josh Brown has another good post today.  He explains that an additional factor in the stock market’s continued rise is more passive money management by brokers and RIAs:

Wells Fargo brokerage account AUM is now 27% fee-based, Morgan Stanley’s is 37% and 44% of Merrill’s Thundering Herd has more than half its assets oriented that way. The nation’s largest traditional advisory firms have accelerated their push toward fee-based management and away from transactional brokerage. This has a huge impact on how the money itself is managed and this in turn greatly affects the behavior of the stock market.

These wirehouses, along with JPMorgan and UBS, have slightly less than half of the wealth management pie in America. Registered Investment Advisories (RIAs) have almost another 25% (the fastest growing channel by far) and they are almost completely fee-based – with the exception of some hybrid brokers-and-advisors. That’s 75% of the wealth business in this country being largely driven toward fee-based strategies and accounts.

In 2005, fee-based accounts directly managed by financial advisors and brokers totaled $198 billion. As of year-end 2013, that figure had soared to over $1.29 trillion – more than a sextupling in under a decade. It is safe to say that, while some of these fee-based accounts are managed actively (brokers picking stocks, selling options and whatnot), the vast majority are not. Most of this money is being run more passively – in the absence of a transactional commission incentive for the advisor to trade, why else would he? Edge? LOL.

Josh argues that this shift from churning accounts to actual long term investing is also leading to lower trading volumes:

For one, the lighter volume on the NYSE in recent years – trades are only taking place at the margin and about half of it is ETF creation-redemption related. Most of what’s invested in the market doesn’t move an inch.

This is really good news for everyone except those still paid by the trade.  It is great for all the investors who are no longer being sold one piece of crap after another.  They are now instead just holding the crap along with the good investments, as part of an index, which is an improvement, because at least you aren’t paying to keep buying and selling the crap.  It is great for mutual funds, who should be able to much more easily find and exploit mispriced assets, which should exist in greater volume, frequency, and duration because of the lower level of scrutiny.  It is also great for momentum and other quant based traders, as those trades will have an even larger impact on the market and tend to reinforce their own effects.

I think that it is likely that there is some equilibrium state to be reached here, where those who can find and exploit inefficiencies and mispricing will be able to do so, and charge a fair price for it, and at the same time the overall market level and movements will also retain the characteristics of EMH to the extent that not all theory will need to be thrown out the window, and just leave trading to the market psychologists.


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