If you have looked into investment in stocks, chances are high that you have encountered active and passive strategies. Investors will favor either strategy depending on their approach and style. So, what are the two investment strategies all about?
Active investing offers a hands on approach that requires detailed portfolio management. The end goal of this type of investment approach is to take advantage of the short term changes in price. Manages and/or investors will need to have in depth knowledge about every stock, bond or asset and when to pivot into or out of it. There are many qualitative and quantitative factors that will go into any decision made, but confident active investors will figure out when to buy and sell and prove to be successful by getting it right more times than not.
Unlike active investing, passive investing features long term gains and goals. Passive investment features limited portfolio changes, with investors taking up a buy and hold mentality. Like active investing, it relies on intense research and analysis. However, investors will focus more on the growth and potential long term returns of stocks and any assets held. This means investors will look into potential winners early on, buy and hold until the asset achieved satisfactory growth, even where some market shift is experienced.
What investment strategy is better suited for you?
Passive investment will attract ultra low fees because finding stocks for long term performance is easier than calling out quick winners. It is also very easy to find out which stocks are in an index fund and to project their pattern of growth, making it more likely to offer returns. It will attract less capital gains tax than active investment would.
But passive investment may be considered too limited in their options. Most strategies will be focused on specific indices with a predetermined range of investments without any variance. They are also designed to offer market rate returns and will not deliver unexpected larger rewards as active investment strategies could. Without a market boom, your passive investment strategy will not surpass your expectations.
Active investment is flexible, since managers are not tied down to a specific index. This opens up the field for rough gems and other potentially big winners for maximum returns. Managers can also protect their stake by hedging. Through techniques such as shorted sales and put options, they can mitigate the risk taken with a bad stock. On the contrary, passive investment requires holding and taking up risk regardless of the performance of an index even with hindsight. Active investment also offers some tax benefits, although it will attract more capital gains tax.
The high active risk faced under this type of strategy makes it unappealing to investors. It can be costly to be wrong, and it may be very expensive to even take part at all. The active buying and selling adds transaction costs to management fees for much lower returns to investors.