One of the biggest debates among financial professionals, investment advisors, and investors is whether you should invest in only “passive” index funds or use so-called “active” strategies to get the best returns for your portfolio. If you’re wondering which approach Alpha Fiduciary believes in, the answer is, “it depends.”
Passive investing generally involves buying the entire stock or bond market, or a specific sector or category of the market, and just letting it run year after year with minimal intervention. If you choose your fund or ETF vehicle wisely, you’ll probably get average returns at a very low cost. As long as the market does well, you’ll do well. But if the market lags, so will your returns. Some investment advisors believe passive investing works best for stocks, particularly large US stocks with high liquidity and trading. Under this theory, you can’t really out-think or out-trade large institutional managers who have better access to information and trading technologies than you do, so you should just go along for the ride. But the less-strict versions of the passive investing argument leave open the question of whether other markets (e.g., emerging markets, bonds, small companies, etc.) afford superior returns to the astute manager.
Active investing usually involves applying some sort of rules or even ongoing human judgment to the buying and selling process so that you, a professional manager, or investment advisor chooses when to own stocks or bonds, which stocks or bonds to buy or sell, or any of a host of special trading strategies to try to eke out additional returns over what the market has produced. The idea makes sense intuitively. After all, why would you settle for average if you can do better than average by making some smart moves? But the empirical results of active strategies are often disappointing, which means that many managers actually harm their returns by trying to be too smart. While that news tends to discourage people from using active managers in any category, we believe certain types of strategies (like managed futures, hedged equity strategies, and specialized bond categories) not only benefit from but demand active management to produce acceptable returns.
Which is Best For Me?
You may be wondering which type of investing best suits your approach. May we suggest that you can use both? In what practitioners often call “core/satellite” investing, the investment advisors of Alpha Fiduciary build a well-diversified foundation using mainly passive, low-cost investments to ensure that the majority of your portfolio enjoys the general returns many markets offer. The goal is to ensure that you are “keeping up” with the long-term trend of stocks and bonds. However, even within the core, we employ managers who use specialized strategies to, for example, dampen volatility or reduce risk from rising interest rates.
Then our investment committee allocates a smaller portion of your portfolio to unique active managers who invest “off the beaten path” to bring alternate sources of return from places like the managed futures market, short-selling, or even managers who use a timing mechanism to increase or reduce risk as market conditions warrant. While we understand that many “active” strategies are just tracking markets narrowly defined, we feel that a true active manager will depart significantly from what market averages offer to pursue high-conviction ideas without the constraints of an index or “long-only” investing requirements. These are things passive strategies simply cannot do.
Ready to Invest?
While there is never a guarantee of investment results for investing this way, the financial advisors at Alpha Fiduciary believe that a core/satellite approach gives you the combined benefit of market averages, and carefully chosen investment themes offers the potential to have some additional protection or even additional returns over simply buying all core or all active funds. We’d love to talk to you more about our approach. Please call us today!