Over the past few decades, there has been an ongoing debate over which investment style works best…active vs. passive management. There are statistics that support both styles. For example, it is believed that passive management may produce better results in a stock market that has more transparency, such as the U.S. stock market vs. the Chinese stock market. Others believe that active managers may produce better results as markets peak and then decline. Costs are obviously a factor, however, there is not as much of a cost difference as there used to be years ago. All that being said, let’s define both investment styles to try to get a better understanding of each.
Passive investing is an investment strategy that aims to maximize returns over the long run by minimizing transactional costs, tax liability, and management expenses. The belief is that the sum of all of these costs in an active portfolio creates a drag on performance. An example of a passive investment is an S&P 500 index fund which only holds the 500 stocks that comprise the S&P 500. Passive investors do not believe in “timing the market”…they believe in “time in” the market.
Active management is the use of an actual person or team who actively manage a fund's portfolio. Active managers rely on analytical research, forecasts, and their own judgment and experience in making investment decisions on what securities to buy, hold and sell. For example, a fund manager may have extensive experience in a specific sector, potentially resulting in the fund beating benchmark returns. Actively managed funds also have the flexibility to make transactions to offset tax liability, possibly resulting in tax efficiency.
Which is the best strategy?
The answer to this question is quite simple - there is no best strategy. It depends on many different factors, tax strategies, statistics, and beliefs. Here at Frisch Financial, we can help determine which investment style makes the most sense for you. Our specialty is to help customize an investment strategy based on your specific goals and needs. Let’s figure it out together.