The Active vs. Passive Debate – Everyone Wins!

Jun 2014

And the debate rages on and on and on….You can’t open a financial magazine or newspaper these days without an article about how most investors should use passively managed index mutual funds to construct their investment portfolios. Famous investors like Jack Bogle and others have turned up the volume on what a mistake it is for investors to use actively managed funds. Even Charles Schwab, who pioneered and championed low-cost discount brokerage and the very first mutual fund supermarket (with thousands of actively managed mutual funds) has gotten into the debate citing how index funds should be the primary investment vehicle for most people.

And then comes all the studies from Standard & Poor and others showing how poorly active funds perform verse indexes. Unfortunately for the naysayers of active management, there are ways to identify skilled managers that add value over an investment cycle or two, but it takes significant time and effort to uncover them. It also takes a lot of patience because most active managers, even the very skilled ones, suffer through weak periods against not only their index, but also peers periodically. The saying, “Patience is a virtue” certainly applies to investing actively managed mutual funds.

One of the issues I have with this debate is it deflects away from the bigger issue: investors not having a sufficiently diversified long-term investment portfolio to meet their objectives. This is a decidedly more important issue than deciding between a passively managed or actively managed mutual fund. Our firm believes that very skilled active managers can be identified and can add value over an investment cycle, and it is the primary reason why we use them instead of index funds. For investors that do not or cannot devote the time to identify those skilled managers, then using index funds for various asset classes is appropriate.

I am also concerned about market declines, which happen from time to time, and how investors respond to them. The fact that investors are using passive index funds may not prevent them from selling when the market is down, and buying again when the market has recovered. Those issues will be with us regardless of whether we are using active or passive mutual funds. This doesn’t get mentioned much in news articles.

Moreover, the amount of time spent by writers and other people in my profession railing against active management is puzzling. More time should be spent writing articles about helping people retire comfortably.

Like everything in the world of investing, discussions about what is right and wrong depend on the investor’s individual situation and goals. While actively managed funds may make perfect since for one investor, another investor with little time to manage their investments may lean towards passively managed or index funds. In the end, if you haven’t met your financial and retirement goals, the last thing you’ll blame it on is the active and/or passive mutual funds you have been using.

Every investor’s situation is unique and you should consider your investment goals, risk tolerance and time horizon before making any investment. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Investing involves risk and investors may incur a profit or a loss. Please consult with your financial advisor about your individual situation.

Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation.

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