What is active and passive investing, and what works best?

What is active and passive investing, and what works best?

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Investment in this day and age is more of an art than a career. The entrepreneurial landscape is quickly changing, and those that win are those that change with it. The relative nature of the market leaves many investors stranded as they try to navigate their way through the markets and guard their assets by building recession-proof portfolios.

What are active and passive investments?

Active investments are investments based primarily on short term returns. They involve trying to outperform the market. This makes use of a fund manager who actively tracks the market, global trends, and politics and makes investments to obtain short term returns from favorable market conditions.

Passive investments take the long term mentality or the buy and hold approach. Here your fund manager invests long term in indexed funds and ETF’s to cash in on long-term returns mainly from capital appreciation and dividends.

What wins

The argument between passive and active investments is like the Yankees and Red Sox rivalry with loyal diehards on each side. The nature of business has left each team with wins and losses, which we can be used to pitch a case for each.

The case for active investments

Despite the various studies and reports that show a decline of active investment in the last decade together with the surge of the S&P 500, active investments are far from dead. Active investment has been recently outperforming its counterparts with an 8% rate of return compared to the 6% rate of return for passive funds. Many pundits believe that the headwinds active managers have been facing in the last decade could soon become tailwinds and that the recent rise in passive investment is a bubble soon to burst.

Some advantages of active investments are

Provide active management-Active investments give flexibility to your portfolio. Your fund manager can adjust your investments to prevailing market conditions to reduce the impact of uncertainties, such as those in the great recession.

Cash in on short term profits-With active investments, you are better suited to benefit from short term gains the market makes while being shielded from possible declines in the market.

3Suitabiltity-actively managed funds can be tailored to the specific needs of the investor, such as retirement or diversification.

These advantages don’t come free. Active investments come with high fees from the fund managers that may make them costly in the long term. Your investments also suffer from global political instability. Nobody knows Kim Jong Un’s next big plan for the world, but what we know is that it will inevitably affect your active investments. These investments also suffer from the perils of human error; a miscalculation by your manager may cost you and your investments big time.

The case for passive investments

Passive investments have had a home run in this previous decade. Warren Buffet loyals and fans have never been happier. More and more investors are falling for the charms of this down to earth investment strategy, and it shows in the statistics. Over the last 5years, investment in passive management has reached the 3.5 trillion mark.

Some of the advantages of passive investments are

1. 1. Relatively low fees Compared to active investments, passive investments are way cheaper. A passive investment may cost you less than 0.20% a year, while active investments may cost you upwards of 0.80% a year, which is a significant difference.

Low taxes Passive investments provide a sure path to reducing investment-related taxes. As your fund manager buys and holds stocks, capital gains taxes are significantly reduced. Active trading of stocks accrue taxes, which cumulatively may end up taking a big chunk of your returns.

Transparency with passive investments, you will always be in the know of how your investments are performing. It will always be clear which investments are in an index fund or an ETF.

Diversification, the unreliability of markets, has forced several investors down the path of diversification. With passive investments, you can easily spread your eggs over several baskets by investing in a variety of ETFs and inexpensive index funds.

With these advantages also come disadvantages. You are prone to low returns as it is a given that passive investments will never beat the market. You also miss out on the fun due to the limited scope of passive investments and the lack of flexibility to prevailing market conditions.

The main take away

“Only investment in knowledge pays the best interest,” Benjamin Franklin.

Passive and active investments each have their pros and cons and are react differently to various changes in the market. You may end up taking an investment path that is a marriage of both strategies. It is essential to realize that the best investment is not active or passive, but an investment in Knowledge, Knowledge in yourself, your aims and expectations, your business, and the market.

Why Dowling and Yahnke

With us, you get to benefit from a wealth of Knowledge and advice on investment and finance. Building your portfolio has never been this easy. Over the years, we have created an award-winning investment planning juggernaut that manages 4billion dollars in investments. We have an award-winning team dedicated to ensuring that your investment in money is a worthy experience.Having us work for you is having your money work for you.