Every earnings season we get the same headline. A big company misses expectations, the share price tanks, and someone blames exchange-traded funds (ETFs) and index funds for the big price move.

The story goes that passive investing has broken price discovery and made markets more volatile. It sounds convincing, but it’s not what’s really going on.

Woolworths shares plunged 14.7 per cent after the retailer cut its final dividend and posted a 17 per cent fall in underlying net profit to $1.4 billion.Credit: Louie Douvis

What’s really happened is that ETFs and indexing have levelled the playing field. Prices now adjust faster and more fairly, which means everyday investors who own the index rather than punting on single stocks are no longer easy prey for professionals who once profited from their slow reactions.

A decade or two ago, active managers could add value by buying after a company reported a strong result, or by selling after a weak one. Regular mum and dad investors were often slow to react. This created what academics call “post-earnings announcement drift”, where prices adjusted gradually over several weeks or months.

Today, with more money........

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