With all the economic turmoil and scandals seemingly everywhere you turn, in markets all over the world, many people are trusting managers of active investment products. Why pay higher fees for players in a rigged, or at the very least an incredibly tumultuous, game? Passive investment managers charge lower fees whose decisions are dictated by a pre-determined structure and strategy.
“This is a very black and white point of view that will do your investments more harm than good,” says Richard Cayne of Meyer International. Richard advises his clients to carefully consider both strategies – they each have their pros and cons, and they both can be part of a profitable financial plan.
What is active investing?
An active investment manager is actively engaged in deciding what and when to buy and sell. This sounds simple, but it is actually a very complex, involved commitment. The manager must research extensively and be able to quickly absorb and analyse market data to make decisions that will beat the market. Considering all the variables that affect a financial instrument, this is a profound undertaking. This is why active investment managers charge higher fees. But how well do they perform? In recent years, not so well. According to Morningstar’s Active/Passive barometer, active funds have been underperforming passive funds, especially over longer time periods.
So why bother with them? Under certain conditions, active investing can pay off very well. Before you hand your money decisions, do some research. Is the manager an expert in the fund sector or emphasis? If the strategy is too general, this usually does not bode well for active management. Also, success with this strategy often relies on being first in to profit most. In more developed markets, this is difficult since there is literally a wealth of information available. Emerging markets and sectors will often require specialised access and insights that can help active investing thrive. Also, active investing can respond immediately to sudden changes in the financial world, like the recent Brexit vote.
What about passive investing?
While active investing relies on an individual analysis of a specific dataset, passive investing looks to the overall performance of a certain group of equities or debts. Passive investing focusses on a certain index like the S&P500 or the DJIA or a set exemplar from a specific sector or exchange. Then investments are chosen that match that given group. The idea is that while it may be hard to predict a single investment that will beat the market, the market, whatever that may be, will perform consistently and, in times of loss, will eventually correct and profit.
So, while passive investing may not reap huge returns, it offers the possibility of dependable, constant returns that investors may feel they have more control over (since they will know at any time what investments are being made).
Now, what to choose?
So, there are many variables that can affect both strategies, for good and for bad. It would then not be wise to write off one for the other. When making any financial decision, all possible scenarios and options should be weighed, from how much risk you want to take to whether you believe certain sectors or markets are worth special attention.
“You really need to be realistic about what type of returns you’re expecting from your portfolio over a set time period,” Richard Cayne counsels. “Both active and passive investment strategies have their place, you just need to be thoughtful about what their places are for you. A good financial advisor should be able to work with you and help you plan appropriate allocation.”
“Also, a lot of people forget that their investment decisions are not set in stone,” Richard adds. “Markets fluctuate, so should you. There’s no need to make adjustments at every report of a downturn or potential economic hiccup, but you definitely should revisit your portfolio regularly with your advisor to make sure it reflects market trends and your risk appetite.”
For more information on this or any other financial topics, please contact Richard at Meyer International.