Active vs. Passive Investing: What’s the Difference?
There are many different types of investment opportunities. However, investments fall into two main categories: active and passive investments. Similarly, there are different types of investors with varying objectives and strategies. Passive and active investors differ in their attitude, tools, and strategies towards investing.
Overview of Passive and Active Investing
Most discussions about passive and active investing usually turn into heated debates. Wealth managers and investors tend to favor certain strategies over others. Among most investors, passive investing is more popular. However, many investment professionals make compelling arguments for the advantages of active investing.
What Is Active Investing?
As the name suggests, active investment involves a hands-on approach. It requires investors to act as portfolio managers. The goal of active investors is to beat the stock market. Passive investors typically track a market index. On the other hand, active investors carefully watch the stock market and make appropriate trades.
What Does Active Investing Involve?
Some active investors choose to hire a professional fund manager to oversee and actively manage their investments. Active investing aims to take full advantage of short-term fluctuations in prices. It is like gazing into a crystal ball to determine when to make a trading move.
This form of investing involves more expertise and a deeper analysis of the market. You need to know when to sell or buy and make the right move often. Active investors need to know when to pivot out or into a stock or any other type of asset.
Essentially, they analyze various quantitative and qualitative factors to determine when and where the price of a certain stock or financial asset will change. This form of investing sounds quite complicated and intimidating. But if you play your cards right, you can make insane amounts of money.
Passive Investing
Passive investors typically invest for the long haul by limiting the number of transactions within their portfolios. This is a more cost-effective way of investing compared to active investing. This investment strategy requires a buy-and-hold strategy and mentality. So as a passive investor, you need to resist the temptation to anticipate or react to every stock market move.
A good example of a passive investment approach is to purchase an index fund that follows major indices. Such indices include the Dow Jones Industrial Average, the S7P 500, and several others. When such indices switch up their constituents, they automatically switch up the index funds that follow them by trading stock.
When a company becomes big enough to feature in one of the major indices, it is a big deal. It means that the company’s stock will be a core holding in numerous major funds. Owning small pieces of hundreds or thousands of stocks can give you returns simply by being a passive investor.
Essentially, over time, you will benefit from the increase of corporate profits through the overall stock market. To be a successful passive investor, you need to ignore sharp downturns or short-term setbacks and keep your eye on the prize.
Key Differences Between Active and Passive Investing
According to investment experts, passive investing has several advantages. These include flexibility and the ability to hedge your bets. You can also tailor your tax management strategies. For example, you can get rid of investments that are losing money to offset the capital gains tax on the big winners.
That said, active investments have some shortcomings. For instance, they are more expensive than passive investments. Also, they involve active risk. Passive investments, on the other hand, involve more transparency, lower fees, and tax efficiency.
To learn more about passive and active investing, visit Calturas Capital at our office in Stockton, California. You can call (925)744-7400 today to schedule an appointment.
