Active or Passive Management

Financial PlanningInvestment
Active or Passive Management

Over the last two decades, there has been a marked increase in indexing, or passive management, over active management–where a manager or team of managers (like Ambassador Advisor’s wealth management team) actively manage a client’s portfolio. Many investors have shifted to low-cost mutual and exchange traded funds in an effort to capture better total return (rate of return less fees/expenses). According to investment research site Morningstar, passive funds now account for nearly 40 percent of all U.S. retail fund assets, compared to just eight percent in 1997.

However, a recent study by Martijn Cremers, a professor of finance at the University of Notre Dame, challenges the statement that active management doesn’t create value for investors. The study results maintained that there is more to consider:

Active managers have a variety of skills and tend to make value-added decisions, such that, after accounting for all costs, many actively managed funds appear to generate positive value for investors.

One of the problems with the conventional passive-management viewpoint is that most of the research looks only at U.S. actively managed funds. Cremer argues, “Once you go outside U.S. large caps—you go to small caps, you go to bond funds, you go to hybrid funds, international funds, emerging markets, hedge funds—arguably those environments may be more promising.”

The US equity market is the most transparent and “known” of the markets in the world. There is very little opportunity for specialized research to pay dividends when dealing with big US companies. As Cremer points out, however, the rest of the world economy is ripe for the diligence of active research and the impact that follows.

What is more, it is important to remember especially during an extended domestic bull market, that these other sectors ebb and flow, often in an inversely correlated fashion, to the US markets. Diversification into these areas, and our weighing the correct sectors in an economic cycle, are key attributes that active management can bring to a portfolio.

As always, consider the risks and benefits. But taken with other studies that found advisors bring greater value to investors than those investing without professional guidance[1], Ambassador Advisors’ is proud to have active professional management among our company’s philosophy. Our professional team helps differentiate us and brings value to our clients.

[1] Vanguard, 2014

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