Simplewealth Blog

The benefits of passive investment

There are two big kinds of investment strategy: active and passive. The most common investment strategy today is active investing, which attempts to outperform the market. The majority of investment funds are actively managed, it means that those funds employ teams of researchers and managers to take decisions.

On the other hand, passive strategies are all about sticking to cheaper indice trackers for a long term. They also have managers but their goal is to replicate the performance of an index as closely as possible. Passive managers invest in broad sectors of the market, called asset classes or indexes. The underlying belief, is that consistently outperforming the market for the professional and small investors alike is difficult.

Which is one better at the end of the day? The core of the issue is that active investments use the help of larger teams. Thus they bring higer fees with them... by a few percentage points. This may look small or negligible at first but as time goes, the impact can be significant.

And unfortunately, most fund managers fail to beat the market over a very long period of time.

Warren Buffett, the world famous investor and CEO of Berkshire Hathaway, stated in a letter to shareholders: "low-cost index funds are likely to beat most active fund managers" (ok, to be fair, he meant in the long run and in the US).

He even goes further stating: "Active trading, attempts to “time” market movements, inadequate diversification, the payment of high and unnecessary fees to managers and advisors [...] can destroy the decent returns that a life-long owner of equities would otherwise enjoy".

A debate about the two approaches has been ongoing since the early 1970s. Supporters of the passive management argument include academic researchers and privately funded research centers... while active management is rather favored by larger financial institutions.

At Simplewealth, we believe in long term, passive investments in diversified portfolios are the best way to accumulate capital.