Why Indexing Generates the "Right" Priceby Tim Bock
Indexing a securities portfolio is the logical outgrowth of a belief in the effectiveness of a free market system. Just as prices for steel, oil or lumber quickly reflect new economic developments, so do prices for financial assets such as stocks and bonds. At any given moment, the price of a stock represents the best estimate of its worth by market participants, and is the collective decision of the "right" price by all buyers, sellers, and owners of the stock. Do some companies have superior prospects due to a trusted brand name, breakthrough technology, unique marketing strategy, or financial strength? Of course, and this optimism is reflected in a higher stock price relative to other companies stock. Stock prices change, sometimes violently, in response to new information, but since news is by definition unpredictable, so are stock prices.