Which is better for your clients-- Index or Active Funds?

Which is better for your clients– Index or Active Funds?

The long-standing debate over actively managed funds, or dirt cheap index-tracking funds, as an investment strategy is not getting any more clarity or any easier. The average active fund manager has enjoyed a slight edge over benchmark bound competition through April of this year, touting a 3.04% gain compared to a 2.80% return on passively managed funds. This small lead has not made any headway in settling the argument amongst investment professionals in the industry.

The six-year long bull market is on its last legs; clients are actively interested in advice whether it’s a good time to start exploring actively managed funds or not. The tide might be turning, but many asset management professionals continue to be partial to index funds. This requires patience spending time with antsy clients—and reminding them that long term trends caution against drastic portfolio changes. Yes, the S&P Indices VS Active gauge recently announced that more than 82% of large-cap fund managers underperformed the S&P 500 index for over a decade with similar outcomes for small-cap managers but the latest list from Financial Times found that active strategies are representative of more than six times more of their client assets that are held in funds than passive strategies.

Financial advisors in this position bristle at the notion (based on generalities) that passive approaches are often better. Gaining average returns while trying to lump several different types of funds and investment segments together doesn’t provide any information. It’s great fodder for water-cooler chatter among Jr. Level investors but advisors rarely are comfortable settling for just any ‘average’ fund.

Unsurprisingly, index fans are quietly downplaying performance results from Q1 2015 comparing the returns from active and passive funds. However, midway through the year, the argument can be made that it’s too close of a race to declare a true winner with a real edge.

Even if active funds keep outperforming index for a bit longer, advocates caution investors worried about short term market moves that research points to passive management strategies for the long term—with this strategy winning out over a lifetime and not just a few short years.

  1. spencer palmer says:

    ETF’s remind me of a mirage. At the end of the day they are only as good as the underlying assets they hold. Since the financial crisis of 2008 banks have steadily pulled back from their traditional role in secondary markets. Instruments like ETF’s give investors the impression they have the same amount daily liquidity as traditional funds. However, it’s impossible for them to be more liquid than the underlying assets they reference. Am I the only person who is concerned over the fact ETF trading volumes eclipsed our total GDP in past twelve months? I thought these so called “passive investments” would lower the cost of ownership for mom and pop investors. ETF’s represent somewhere in the neighborhood of $2 trillion dollars in assets. That’s almost 900 percent in total turnover! So much for lowering the total cost of ownership. What happens when dealers are unwilling to expand their inventories in a sell-off? You don’t want to be in a crowded theatre with a tiny exit when someone yells, “fire.”

    • spencer palmer says:

      I see you guys were referencing active vs. passive funds. When I hear index I automatically think about etf’s. Sorry for any confusion I may have caused. However, I stand by my comments. Active management may or may not be more expensive based strictly on price. When markets go up in a seemingly never ending straight line they should come out on top as a group. However, there
      are serious costs associated with the market risk all passive index funds carry by definition. When the the next bear roars passive will make investors feel like passing out. Active managers may not save your sanity in a bear market but they can save your money.

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