America’s capital markets are the envy of the world but face an existential threat from the meteoric rise of index funds. The problem is a growing erosion of corporate accountability. Last month, President Trump took a first pass at this problem, signing an Executive Order targeting proxy advisers, the firms that advise institutional investors on how to vote their shares. But this focus on proxy advisers addresses only a small part of the problem. The real problem is index funds.
Passively managed index funds undermine the shareholder accountability responsible for the phenomenal wealth creation of U.S. stock markets. In 2025 index funds garnered twice the inflows of actively managed funds. As money pours out of active funds into passive alternatives, a diminishing corps of engaged shareholders is left to do the vital work of holding managers and boards accountable to stockholders. The lackadaisical and often politically motivated voting by index funds undermines the work of more engaged investors. A simple reform called mirror voting, which matches passive funds’ votes to those of engaged shareholders, would fix this problem.[1]
American prosperity and the American way of life depend on the success of the U.S. stock market. Broad stock ownership enables entrepreneurs to raise the capital needed to innovate without government interference or massive concentrations of wealth. Investing in the stock market today often consists of passive index investing. The top asset managers like Blackrock, Fidelity, State Street, and Vanguard dominate the U.S. market, with over $21 trillion in assets under management, $18 trillion of which is invested in passive index funds. Index funds now account for fully 23% of the total capitalization of U.S. stock markets. These passive investors cast roughly a quarter of proxy votes cast across corporate America each year. Stunningly, one of these firms is the largest shareholder in nearly nine out of 10 S&P 500 companies.
Index funds became financial giants for good reasons. Investors now understand that the capital markets are highly efficient, that stock-picking strategies are doomed to failure, and that holding a broadly diversified portfolio dramatically reduces risk. Index funds also are popular because they keep costs extremely low and are tax efficient as well as transparent and straightforward. John Bogle, the founder of Vanguard and creator of the first index mutual fund, rightly described them “the most successful innovation – especially for investors – in modern financial history.”
Index funds posed no problems when they were a tiny fraction of the capital markets, but now their passivity is becoming a gigantic problem that is growing larger each year. The success of the American system of free market capitalism requires incentives and accountability. When companies are poorly managed, market forces must respond. Active shareholders thoughtfully and intentionally evaluate performance, reward success, and punish failure. The assessment and engagement that occurs on U.S. stock markets is what has made those markets the world’s most dynamic engine of innovation and prosperity. It’s why the world’s leading companies list on American exchanges, why international investors pour their capital into U.S. markets, and why American corporations have dominated global business for a century.
Index funds, however, don’t evaluate companies or engage with management. They simply invest in companies on an index regardless of how poorly they are managed. They do not impose the market discipline that ensures results for investors. The rigor supplied by market discipline is what created Nvidia, JPMorgan Chase, and Walmart, along with thousands of innovative, smaller public companies.
Demanding accountability drives performance. This isn’t just a theory taught in business school – it’s how American markets conquered the world. By design, passive index funds do not provide that accountability, because they make no effort to distinguish between well-run and poorly run companies.
The increasing dominance of index funds is undermining the feedback loop that drives American companies toward efficiency and competitiveness. We now have a stock market in which the most important single class of investors – index funds – neither knows nor cares about company-specific performance.
The solution isn’t to downsize index funds, which have democratized market access for millions of American savers. The solution is to require index funds to keep their promise of investing passively. They should stop acting as rubber stamps for management. They should stop undermining the ability of active investors with skin in the game and an understanding of the commercial logic underlying their voting decisions to engage in oversight. They should not claim to be passive while expressing their political beliefs through their votes. For example, the voting decisions of the index funds – not the proxy advisers – are what resulted in the sweeping board change at Exxon in the Engine No. 1 proxy fight several years ago.
The solution to the existential problem caused by index fund voting is “mirror” voting. Under mirror voting, if an index fund investor does not vote themselves, the index fund would vote the shares proportionally to the way that the corporation’s non-indexed shareholders vote. If 75% of non-passive shareholders support a proposal, the index funds would then cast 75% of their votes for it and 25% against. Having passive investors mirror active investors preserves and amplifies the voice of the critical investors who spend the time and expense to analyze and evaluate the companies they own. Mirror voting allows index funds to retain their passive nature. With mirror voting, they simply vote the way that non-passive investors do. In this way, votes are decided as they should be, by engaged investors with an actual point of view about how their company should be run.
Thankfully, change could be on the horizon as the White House contemplates requiring index funds to adopt mirror voting. This would enable index funds to continue to provide Americans with broad access to the public markets while preserving the market discipline and accountability that make our markets the envy of the world. All that is needed is for index funds to vote the same way that they invest: passively.
ENDNOTE
[1] For an excellent early analysis of the “potentially immense” problems of passive shareholder voting and proposing that Congress consider restricting passive funds from voting at shareholder meetings, see Dorothy Lund, “The Case Against Shareholder Voting,” 43 J. CORP. L. 483 (2018).
Jonathan R. Macey is the Sam Harris Professor of Corporate Law, Corporate Finance & Securities Law at Yale Law School.