Investing can often feel overwhelming, particularly when navigating various strategies available to investors. One of the most debated topics within the investment community is the choice between active and passive investing. While passive investing may appear to be a more relaxed approach, it can be surprisingly dynamic in practice.
Our automated investment service exemplifies this blend, utilizing a mix of both strategies. Although it leans more toward the passive side, it remains highly active on trading days, adjusting asset allocations to reflect the changing global market conditions. Each year, we reassess and rebalance our portfolios to ensure alignment with current market trends and long-term forecasts.
The facts
At the core, both active and passive investing involve decision-making about asset allocation, whether by an individual investor or a professional team. The fundamental difference lies in their objectives and associated costs.
Active investing
Active investing aims to outperform a specific benchmark, such as the S&P 500. However, this is no simple feat. Research indicates that fewer than 15% of actively managed funds can consistently beat the S&P 500 over extended periods, such as five years or more. This challenge underscores the importance of evaluating the expertise and performance history of the fund managers behind these investments.
For long-term investors who are risk-averse, opportunities in active investing still exist. Certain markets, particularly those that are less efficient, can yield greater returns if approached correctly. Developing countries and specific bond markets may offer the potential for significant gains with appropriate guidance and insight.
Passive investing
Conversely, passive investing typically involves replicating the performance of a specific index, such as the S&P 500. This method is often perceived as more straightforward and less hands-on. However, it still requires strategic planning and informed decision-making to ensure the portfolio reflects the current market landscape.
An example of a more specialized investment vehicle is the Academy Veteran Bond ETF (VETZ). This fund focuses on loans to both active and retired U.S. service members and their families, making it a prime candidate for active management within a socially responsible investment framework.
The consequences
Many investors prefer to have a say in their investment choices. Surveys indicate that approximately three-quarters of Betterment users incorporate some degree of self-directed investing within their managed portfolios. This hands-on approach can be both fulfilling and educational, allowing investors to engage more deeply with their financial journeys.
The importance of diversification
In building an investment portfolio, balancing active and passive strategies can enhance diversification. Indexes are constructed based on the market capitalization of the companies they include, adapting over time as company values fluctuate. This natural evolution ensures poorly performing stocks gradually lose weight within the index, while successful companies grow in influence.
A hybrid approach known as smart beta combines elements of both strategies. Fund managers may start with a predefined index and then adjust it according to quantitative metrics. For instance, the Goldman Sachs Smart Beta portfolio focuses on firms exhibiting specific desirable characteristics, effectively blending active insights with passive frameworks.
What’s next
Our automated investment service exemplifies this blend, utilizing a mix of both strategies. Although it leans more toward the passive side, it remains highly active on trading days, adjusting asset allocations to reflect the changing global market conditions. Each year, we reassess and rebalance our portfolios to ensure alignment with current market trends and long-term forecasts.0