As someone who spends a lot of time on the road (albeit virtually over the last year) talking to Financial Planners and Paraplanners, the question that comes up most often when looking at solutions for clients is that of ‘Active vs Passive’ Investment. It’s a massive subject and one where the cost ‘tail’ often wags the outcome ‘dog’.
As an Investment Management firm we are only concerned with the best and most effective way to deliver a client their desired outcome, but to get the low down on the subject, and how we consider the two, I asked Will de Baer from our Investment Team to expand on the finer points…
Active vs Passive
The investment industry has for many decades debated the virtues of active vs passive investment management. In this article we look to address this debate from both sides, provide insight into how we manage the active vs passive investment approach and our outlook for both styles.
What it means to be an active or passive investor…
First it is important to fully appreciate the fundamental characteristics of the two investment approaches. An active investor essentially seeks to outperform a prescribed benchmark over the medium to long term. A passive investment seeks to replicate the performance of an index, such as a FTSE 100 Tracker Fund.
The pros and cons of both approaches…
A key benefit of active investment management is to provide investors the opportunity to outperform their benchmarks. Active managers can utilise their research knowledge and investment skills to allocate investor capital to the best investment opportunities available whether in an index or not, whilst avoiding those investments that they do not believe will perform well. This forms an important part of risk management for an active investor. Whereas a passive investment will invest in all the companies within the index it is tracking regardless of the quality of the underlying investments.
The cost and simplicity of passive investing remain one of the key reasons for investors selecting the passive approach. The fees for active management are higher than passives given the costs of the fund manager expertise and research resources. In addition, passive management has experienced tremendous growth over the last 20 years providing investors broader accessibility to a vast range of markets.
So, which approach has performed the best? The answer to this question is not clear cut as it depends on the market that one invests into. The US market, for example, has seen passive investment outperform most active managers for the best part of the last decade. This has largely been due to the extraordinarily strong performance by the top 20% to 30% of the index, dominated by the technology giants. Growth active managers therefore had a much higher chance of outperforming the broad index than their value and core counterparts, who by default would have had a lower exposure to strong growth names.
What we do at Casterbridge…
The above highlights the nuanced differences between active and passive approaches and the question of which has been the most successful to date. At Casterbridge we are active investment managers investing client capital in line with their individual risk tolerance and objectives over the long term. We believe that an active approach to asset allocation is crucial to successful long term investing for clients, taking advantage of both long term strategic and short-term tactical trends. We have our own research team to deeply analyse active fund managers, as we believe that whilst many active managers do underperform their benchmarks there are a select number of high quality managers that have the skills, strategies and approaches to outperform over the longer term; we look to select the best inbreed active managers through our process.
However, we do also see the virtues of passive investment as part of an actively manged portfolio and will utilise passive funds to express our tactical views on certain markets provided they are liquid and not leveraged.
The Outlook for Active vs Passive:
We do not doubt that the debate will continue to rage between which is the best investment approach. However, in the post Covid-19 world it is likely that the dispersion between strong companies and weak companies has grown; this means that an active manager has a better chance of outperforming their benchmark as they can choose to invest in those stronger companies whilst avoiding the weakest. Here at Casterbridge we will continue to invest on active basis utilising a mix of active and passive funds to provide our clients the best opportunities to meet their investment objectives within their risk tolerance.
This update is for information only and does not constitute advice or a recommendation and you should not make any investment decisions on the basis of it. The views and opinions within this document are those of Casterbridge Wealth at time of writing and may change without notice. They should not be viewed as indicating any guarantee of return from an investment managed by Casterbridge Wealth nor as advice of any nature. Past performance is not a guide to the future. The value of an investment and any income from it may go down as well as up and the investor may not get back the original amount invested.