But the "correct" price is the one the investors are willing to buy at, right?
Imagine that 99.98% of all investors are index funds, and there is a company BigCo that is at some point is at the top of the market. So pretty much every index fund invests in it.
Then suppose BigCo makes some move that would traditionally be a mistake. Like it has some scandal, the sales drop off, etc. Say it even has a bad quarter.
How do I, an active investor (among the remaining 0.02%), make profit from the arbitrage? For the stock price of the company to fall, there'd have to be no buyers at the given price. But the index funds will keep investing in it. Why would it drop off even a little?
Even if it doesn't drop off, you can make money by investing into businesses who give you better long-term growth and (related) dividends than the one that everyone else is buying through index funds which you know isn't doing well.
This would require a long-term view similar to how Berkshire Hathaway is acquiring businesses. If active investors' short-term price speculation were reduced in favor of long-term bets, that might be a good thing for businesses and the economy overall.
And of course, if this situation actually becomes commonplace, chances are the market for index funds is going to self-correct since a well-performing stock needs either solid dividends or above-average growth. A market with 100% indexing can not give you above-average growth, and dividends depend on actual business performance.
Imagine that 99.98% of all investors are index funds, and there is a company BigCo that is at some point is at the top of the market. So pretty much every index fund invests in it.
Then suppose BigCo makes some move that would traditionally be a mistake. Like it has some scandal, the sales drop off, etc. Say it even has a bad quarter.
How do I, an active investor (among the remaining 0.02%), make profit from the arbitrage? For the stock price of the company to fall, there'd have to be no buyers at the given price. But the index funds will keep investing in it. Why would it drop off even a little?