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Indexed Funds as P assive I nvestment T ool s

Indexed Funds as P assive I nvestment T ool s. Sergio Lucero V. Quantitative Analyst Larra i nVial. LARRAINVIAL. FIAP Santiago May 2006.

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Indexed Funds as P assive I nvestment T ool s

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  1. Indexed Funds as Passive Investment Tools Sergio Lucero V. Quantitative Analyst LarrainVial LARRAINVIAL FIAP Santiago May 2006

  2. Active funds tend to underperform their benchmarks in the long run, particularly when costs are taken into accountMalkiel (2003) shows results for the US and Euro markets, both in fixed income and equities backing this fact (market efficiency)Our study explores indexation in Chilean equities and fixed income (IPSA, LVACLC, LVACLG) Introduction Market Return

  3. 80% 71% 69% 70% 59% 60% 50% 40% 30% 20% 10% 0% 1 YR 5 YRS 10 YRS Results in Developed Markets European Funds underperforming MSCI Europe

  4. Indexation Model Combinatorial (hard) optimization problem, either linear or quadratic depending on the chosen error function Model considers liquidity and efficiency, since it limits the number of liquid assets present in the approximating portfolio Additional properties of the underlying index can be sought after (duration, sector balance, currencies)

  5. Days traded 2005 Corp Gob MBS 100+ 0 13 1 Between 50 & 100 13 17 22 Between 1 and 50 358 934 5057 TOTAL available instruments 433 1254 13350 Fixed Income Indexation Lack of information solved by the birth of LVA Indices (2005) Low liquidity persists in this rigid market MBS Index too large to handle (yet)

  6. Indexation Results for LVACLC (Corporate Bonds) and LVACLG (Government Bonds)

  7. IPSA (Equities) Indexation Results Following a market cap weighted index is a tougher problem (without constant rebalance) We detect a need to find a better index for the Chilean Equity Market

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