Would you rather be Active or Passive?

One may wonder the difference between an ‘active’ and ‘passive’ investment fund. It is important to differentiate between the two as one may fit an individual’s investing situation better than the other. Investors can choose from these two main strategies to generate returns and might decide to consider investing in both types as a way of diversifying one’s portfolio.

When investing in an active fund, the money is pooled with that of other investors across a range of investments. The fund manager/management team actively chooses what the fund invests in and aims to make investments which deliver returns that beat the fund’s particular benchmark. Passive funds aim to deliver a return that’s in line with a benchmark, mirroring the movements of the particular index or asset they’re tracking. Passive funds will usually invest in the underlying assets of the index they’re tracking and some sectors, such as commercial property, for example simply cannot be mirrored by a simple tracker fund, as they buy commercial properties and pay returns based on rental income and capital value increases. If investors want to put money into a specialist investment area, they will often have to choose an active fund. Managers of active funds can pick from a wide range of investments to hold within a fund, making careful decisions over where to invest for the best returns. Passive funds are characterised by their lower charges, with access to some of the world’s biggest stock markets whereas investors will typically pay a higher annual fee for the expertise of an active fund manager.

Passive and active funds are not substitutes and should be used to complement each other. When these two are combined the best asset allocators will use active and passive to perform together in the best possible way which will result in benefits for clients. When considering the advantages and disadvantages of active and passive, investors should consider a number of factors such as their investment horizon, fees/charges and the risk versus potential returns.

Investors need to understand the real benefits of active management. The ongoing pre-occupation of clients and the media on the cost of investment has unfortunately underestimated the potential of active management. When volatility increases and interest rates rise, active management becomes more relevant as one may want to have an active manager who is looking into the issues and adjusting portfolios. Another benefit of active management worth noting is managers’ role in corporate governance.

This article was prepared by Jesmond Mizzi Financial Advisors Limited, and is not intended to give investment advice and the contents therein should not be construed as such. The company is licensed to conduct investment services business by the MFSA and is a member of the Malta Stock Exchange and a member of the Atlas Group. The value of the investment may go down as well as up and past performance is not a guarantee of future performance.

For further information contact Jesmond Mizzi Financial Advisors Limited at 67, Level 3, South Street, Valletta, or on Tel: 21224410, or email [email protected].