Rob Arnott on the Hidden Costs of Passive Investing and the Real Winners From AI

Arnott argues AI infrastructure leaders are overpriced relative to their customers, who historically capture more value than innovators.

• Revaluation, not fundamentals, drove mega-cap outperformance: Since 2014 the S&P top 500 beat the next 500 by ~4,000 bps even though the smaller group's cash flow grew 3%/yr faster; the top 500's valuation flipped from a 15% discount to an 80% premium.
• Index-addition front-running is a hidden tax: Tesla rose ~50% between its November 2020 announcement and December addition, and ~900% from its March low; Arnott says he'd have bought SpaceX at IPO purely to sell into forced index buying of ~25% of its float.

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