Passive funds generally track an index or a basket of securities, and offer cost and tax benefits.
\nActive managers try to beat the market indexes. To pursue such returns, investors are willing to
\npay higher fees to active managers for their level of expertise and market savvy. <\/p>\n
The biggest downside for passive funds is that they don\u2019t even attempt to manage investor risk.<\/p><\/blockquote>\n
When you \u201cbuy the market,\u201d which is what an index does; you are buying its returns \u2013 both good
\nand bad. Although they are more expensive, active funds are dynamic and provide the potential
\nfor benchmark-beating returns. Active management has the potential benefit of being thoughtful
\nabout which security and market risks are warranted and which are not. The index, however,
\nmakes no judgment of good versus bad. A key benefit here is that active funds may reduce the
\nlikelihood of having a portfolio of yesterday\u2019s top performers. Active managers like to \u201cbuy low
\nand sell high.\u201d
\nWhen you buy an index, you may be doing the opposite at certain times. Of
\ncourse, the biggest downside for active management is that at certain times it is tough to beat
\nthe market. <\/quote><\/p>\nBecause both passive and active strategies have advantages, the key is to achieve the
\nappropriate balance between the two and create a durable portfolio: a diversified portfolio that is
\nfocused on risk management and that can withstand short-term market fluctuations. <\/p>\nSo how should investors approach the issue? By taking into account five key points:
\n
First, remember \u201calpha richness.\u201d There is only so much excess return potential available to
\nactive managers at any given time. In 2014, for a recent example, active equity managers
\nlargely underperformed the market. Some market environments are more favorable to active; some are more favorable to passive. Also, some asset classes are more\/less favorable to
\nactive\/passive. That\u2019s why blending both can be effective. <\/p>\nSecond, keep in mind volatility and dispersion. Higher volatility is good for active managers relative to passive managers because they have the ability to manage risk. Dispersion within the market is good for active managers too because it increases the opportunity to find alpha between securities.<\/p>\n
Third, achieve the right active share. Active share measures the percentage of an equity
\nportfolio that differs from its benchmark. Active managers can only beat their benchmark and
\nfees if their positions are sufficiently different from the index \u2013 an active share of 60 percent is
\nadequate, while 80 percent is better and considered high active share. This is what the founders
\nof the active share metric \u2013 Martijn Cremer and Antti Petajisto \u2013 set out to prove. They found
\nthat during the period between 1980 and 2003 (which they updated again through 2009), equity
\nmutual funds with the highest active share outperformed their benchmarks, while those with
\nlower active shares generally underperformed. High active share is a measurement that can
\nmake sure you don\u2019t pay for active and get passive.<\/p>\nFourth, think long-term. Active management requires more time and patience, and it\u2019s important
\nto identify the characteristics that tend to outperform over time. Since actively managed
\nportfolios will endure periods of underperformance, having patience is key. These fluctuations
\nare the price an investor pays for the chance at long-term excess returns.<\/p>\n
Finally, remember that performance isn\u2019t everything. Investments should not be made in
\nisolation; what really matters when selecting a strategy is how it will fit into the overall portfolio.<\/quote><\/p>\nSometimes a simple index fund is the best option. At other times, an investor may want a
\nspecific style or mandate that can\u2019t be replicated in an index. It may also be the case that the
\ninvestor is more comfortable with a specific manager\u2019s approach or method. When building a
\ndurable portfolio, sometimes selecting the \u201cright strategy\u201d is more important than picking the
\nbest-performing strategy. <\/p>\nIn a dynamic global economy the risks and opportunities within the markets are constantly
\nchanging. It\u2019s only common sense that \u201call-or-nothing\u201d solutions (i.e., all active or all passive) will
\nbe sub-optimal. A truly durable portfolio should incorporate the advantages of both active and
\npassive investments.<\/p>\n","protected":false},"excerpt":{"rendered":"Just about everyone from Warren Buffett on down to the casual investor is picking a side or weighing in on the debate over passive vs. active investing. But it\u2019s not really an either\/or proposition. The better approach is to understand how to most effectively incorporate each of these styles into creating a durable portfolio \u2013 because there are advantages to both. <\/p>\n","protected":false},"author":1,"featured_media":42877,"comment_status":"open","ping_status":"open","sticky":false,"template":"","format":"standard","meta":[],"categories":[1483],"tags":[1809,1655,1657,1651,1807,2068,1680],"_links":{"self":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/posts\/42879"}],"collection":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/comments?post=42879"}],"version-history":[{"count":0,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/posts\/42879\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/media\/42877"}],"wp:attachment":[{"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/media?parent=42879"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/categories?post=42879"},{"taxonomy":"post_tag","embeddable":true,"href":"http:\/\/beta.next-finance.net\/en\/wp-json\/wp\/v2\/tags?post=42879"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}