There are two main ways in which fund managers handle their clients’ investments: active investing, and passive investing. But which is the right approach? It’s a subject that often causes heated debates within the industry: here’s what both involve.
What is active investing?
Active investing is a very hands-on approach to fund management. Active investors are generally looking for short-term profits, and may well look at the performance of their stocks multiple times each day. The aim? To beat the stock market, by attempting to outperform a market index.
While active investing can lead to significant short-term returns, it also comes with a great deal of risk. If you adopt this strategy, you’ll need to spend a great deal of time analysing the market and individual stocks – or work with a fund manager who you trust implicitly to do just this. You may also find that management and performance fees can add up, and minimum investment amounts may apply.
What is passive investing?
Passive investment takes the opposite approach to active investment. Here, rather than trying to beat the market, fund managers will instead aim to match the performance of their chosen market index.
It’s an approach that is far more hands-off than the alternative, with the majority of the portfolio management being automated. While fees are generally lower than in passive investing, it should be remembered that if the index falls, the investment will fall with it.
Which option is better?
The Motley Fool states that if you have no fund manager and have no time to conduct the research and analysis needed for active investment, then passive investing makes more sense. GDIM Investment Director, Tom Sparke, chooses to first ask whether a passive fund could meet a clients needs – and if not, go down the active investing route.
In August last year, passive funds passed actively managed funds for the first time – with even Warren Buffett now recommending passive investing. However, as ThinkAdvisor states, active and passive investing work in a cycle, meaning personal choice is the biggest factor that should come into play when making your decision.
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