Active management takes an “apple a day” approach to monitor your portfolio.
The debate rages on about the benefits of active vs. passive investment style. Here’s why:
Key terms for new investors
Active management — An individual manager or team selects investments held in the portfolio based on fundamental research and their own decision making. They monitor these investments daily, with the objective to outperform the relevant index, minus management fees, while keeping the investors’ best interests in mind.
Passive management (Index Fund) — A management style where the portfolio’s investments closely match a relevant index, such as the S&P 500 Index. An Index Fund’s investments are in the same proportion as the relevant index, with nearly matching performance results, minus the manager’s fee.
Vanguard is the largest provider of index funds in the U.S. Passively managed index funds and exchange-traded funds (ETFs) make up the bulk of Vanguard’s $2 trillion-plus in assets, but they also have approximately $350 billion in active equity funds.
Most ironically, according to a January 2013 Vanguard Research Paper*, “Vanguard’s active equity funds have outperformed their respective benchmarks by an average of 0.88% a year, over the past 10 years. Assuming the average index fund has an expense ratio around 0.15% to 0.20%, the active funds’ outperformance jumps closer to a 1% outperformance annualized.”
In addition, if you add a financial advisor middleman fee, which is at least 0.25%, you are underperforming with the passive investment by at least 1.25%.
From 1982–2012, Vanguard offered 34 actively managed funds. In their January 2013 report, Vanguard analyzed the elements that contributed to the success of these actively managed funds. Here is Vanguard’s conclusion:
- Lost cost (manager fees) “continue to be the most effective quantitative filter that has shown with some consistency to increase the odds of success and,
- Rigorous and thoughtful qualitative manager selection process must also be present.
*Source: “The case for Vanguard active management: Solving the Low Cost Top-Talent Paradox?” Vanguard Research, January 2013