DJ Shaw
2 min read
Exchange-traded funds and other passive investing vehicles have crossed a historic threshold, now commanding more than half of U.S. equity fund assets as investors continue their exodus from active management. But this dominance is creating unintended consequences that could reshape how markets function.
According to a June 2025 Research Affiliates report, passive capitalization-weighted index funds now surpass active management in aggregate investor allocations. The shift has been dramatic: Global ETF net inflows reached nearly $2 trillion in 2024, according to an ETF Global Insights report, while investors withdrew a record $450 billion from actively managed funds, the Financial Times has reported.
Yet this migration toward low-cost, transparent investing is producing structural changes that extend far beyond simple cost savings.
According to the report, the dominance of passive investing is undermining the diversification benefits that made these products attractive in the first place, while potentially amplifying systemic risks as trillions of dollars move in coordinated, momentum-driven patterns that ignore fundamental company values.
The Research Affiliates analysis shows that stocks with high passive ownership display rising correlations with market movements, while actively held stocks have shown declining correlations over time. This divergence reflects what the report calls "coordinated price action rather than informed price discovery."
ETF trade execution amplifies these effects, according to the report. ETFs simultaneously deploy capital across hundreds of stocks during creations and redemptions, exerting indiscriminate price pressure across entire portfolios regardless of individual company fundamentals.
The mechanics of passive investing create what Research Affiliates calls a "single, coordinated trade" as flows increase. When investors allocate money to retirement accounts or ETFs, those funds mechanically purchase stocks based solely on market capitalization weights, not company-specific information.
According to an S&P report cited in the research, only one-third of active U.S. equity managers outperformed their benchmarks over the past 15 years. Combined with Schwab data showing 0.09% asset-weighted average fees for passive funds versus 0.64% for active funds, the performance and cost advantages have driven the structural reallocation.
The report warns that concentrated ownership creates vulnerability to synchronized liquidations. Large institutions systematically avoid buying when index funds are selling, undermining diversification and potentially causing more frequent volatility spikes.
