Why your investment portfolio needs a mixture of both active and passive funds

Funds are collective investments, where your money is pooled together alongside that of other investors and spread across a wide range of underlying investments such as shares, bonds, property, or commodities.

When you invest in a fund, the aim is to generate money from the assets in which you invest.

Funds are divided into two types: active and passive. Both offer a distinct set of risks, costs, and benefits over time. For this reason, for some time there has been a debate amongst professional investors about which type of investment strategy is most preferrable.

Passive investing can be looked upon as more favourable, due to the lower associated costs involved. Compelling historical evidence demonstrates that passive investing has long been the more successful investment approach overall and there are now numerous options to invest in this way as UK investors.

However, the most suitable investment type for your portfolio will always depend on your personal goals, meaning it is important to understand the differences between each strategy, particularly in terms of how and when to utilise them in your investment portfolio.

Ultimately, a blended strategy of passive and active investing may be more beneficial to your investment portfolio. Combining both strategies could allow for a more optimum mix of investment products, helping to diversify your portfolio, therefore spreading, and managing overall risk.

Active investing

In active investing, the aim is to choose the most attractive investment option, with investments selected based on an independent assessment of worth.

For this reason, active investing involves analysis, insight, and knowledge of the stock market, with active investment funds often managed by portfolio managers who have the analytical skills to assess investment options in their efforts to outperform standard benchmarks.

This expert knowledge could help to generate excess returns but comes alongside high fees due to the hiring costs associated with research analysts and portfolio managers, as well as additional costs related to more frequent trading. Active investment funds are often popular during periods of market upheaval where investors are more willing to pay the high fees for professional management of their investments. As such, when the market is volatile or the economy is weakening, active managers may outperform more often than in other market conditions.

As portfolio managers are free to buy any investment they believe will result in high returns, an active investment fund is comparatively more flexible than a passive one.

Of course, this greater flexibility also brings greater risk, as poor investment decisions are more likely to occur.

Passive investing

With passive investing, investors attempt to match the performance of specific market indices rather than trying to outperform them, with investments not assessed on an individual basis.

Passive funds typically target a specific market index or predetermined mix of investments, meaning there is a greater level of transparency when it comes to assets than with active funds.

A benefit that can tip the balance in favour of passive investing is the favourable costs.  As they do not require a portfolio manager to assess and select stocks, the associated fees are much lower.

Less frequent trading means passive funds can be a more cost-effective way to invest for the long-haul, where a buy-and-hold mentality is involved. Investors should limit the amount of buying and selling in a portfolio and resist the temptation to anticipate or react to stock market changes.

Considering a blended strategy: the best approach depends on the investment market
In the active/passive debate, the two approaches are often considered to be at opposite ends of the investing spectrum. However, an either/or approach is unlikely to be the most beneficial when it comes to investing – the best long-term results may instead come from a blended approach matched to the account type such as ISA or Pension.

There is no ideal combination of active and passive funds in a portfolio, meaning it is important to seek expert advice – both in terms of assessing the changing market conditions, as well as determining a strategy that is most appropriate for your individual circumstances.

How we can help

For most people who will be saving for major milestones over their life such as retirement, there is a time and a place for both active and passive investing, where a blended approach will help to create a diversified portfolio that will work well in different market conditions.

Whilst it is important to consider the benefits and disadvantages of both investment approaches, it is equally as important to focus on how your investment approach is helping you to meet your individual investment goals, with the right choice for you depending on this, in addition to cost and risk tolerance.

When it comes to creating a bespoke investment strategy, we are here to help. Our aim is to meet your long-term goals, controlling risk through personal profiling, and maximising returns through the careful implementation of the best investment products that are tailored to meet your individual objectives.

If you would like to arrange an initial discussion, please do not hesitate to get in touch.

Please note: The value of investments and income earned from them can decrease. You may not get back the original amount invested.


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