For over 30 years, the industry has debated the merits of active versus passive money management. From my standpoint, it’s all active management! The process of aligning assets with future liabilities is an active process.
The process of reviewing and executing on investment decisions with respect to costs and the effects of inflation is an active one. Even so-called passive index-based ETFs are not strictly passive; human judgment is used to determine methodologies and rebalancing rules.
The rapid rise of ETFs and the popularity of “smart beta” investment strategies have played into this debate and further confused the issue. However, actively managing systematic risk or beta, other than market beta, is clearly an active approach. Yet so many in the industry spend endless hours debating the merits active versus passive when it is merely semantics.
Regardless of the industry jargon, if pursuing a traditionally passive approach, investors should understand what buying the market really means. A market weighted index of securities is a reflection of all investors’ (both informed and uninformed) view of prices. Simply accepting this approach may be counterproductive for an investor striving to meet their own personal financial objective.
Whether implemented using purported passive ETFs or more overtly active ETFs, advisers and clients should embrace an active approach to portfolio management. In my view, such an approach removes the focus from beating the market and places it on something more meaningful – the investor’s long term financial objective. In addition, I believe it leads to better diversified portfolios, which is key during a market downturn.