Passive Vs Active Investments
There are two main strategies for investment management active or passive. Which one is right for you?
What is active management?
An active fund seeks to outperform the sector of the market they invest in. Active funds vary in investment strategy, some having a very broad brief able to invest in all companies and some are highly specialised. They are run by professional fund managers who have access to extensive research in the sector they specialise in and all aim to outperform their benchmark. A well run actively managed fund offers you the potential for higher returns than the market average.
What is passive management?
Passive funds have been used for many years by pension funds but more recently have become very popular for private investors. Passive funds track the market rather than attempting to outperform it. They will provide you with average returns but at a very low cost compared to active funds.
Surely having the option to outperform the market is best?
So why would you not use active management? Firstly, only about a quarter of actively managed funds will manage to beat the index they are benchmarked against. If you think about it, this is not surprising as the benchmark is an average of all of the investors returns and therefore clearly not everyone can outperform the average.
On top of this, active funds typically make a charge of between 1.5 - 2% per annum for the costs of running the fund whereas a passive fund will have much lower expense ratio typically around 0.25% per annum or less. So on top of beating the index the active managed fund needs to outperform the index by a minimum of 1.5% just to break even.
So, passive is the answer then?
As in most things there are pros and cons of both approaches. There are a number of active managers who have built their reputation over many years and are well worth the fees they charge for their funds. Active management can also be useful in specialised areas such as healthcare, technology and volatile and emerging markets like Brazil, Russia, India, China etc.
What do we recommend?
We take a balanced view and will recommend on occasions one or even both strategies depending on specific circumstances and for different goals. It may be that passive is right for your retirement savings where the chance of outperforming for the long-term is very hard to achieve and the lower costs are hugely beneficial whereas it may be right in your circumstances to take a more active approach with certain elements of your savings in order to achieve higher potential returns. The fact is there is no one answer that suits every situation and this is where we can help you make the right decisions for your specific circumstances.
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