KNOWLEDGE CENTRE Mutual Funds Comparison / What Is The Difference Between Actively And Passively Managed Funds?

What Is The Difference Between Actively And Passively Managed Funds?

Do you wonder about the difference between actively and passively managed funds? It is important to know the difference between the two because both these types are not the same. It is possible that one type may be more suitable than the other.

Both these types of funds have specific pros and cons. However, before understanding these, it will be beneficial to understand the differences. Here are three key differences between actively and passively managed funds:

  1. Active Investment Strategy Vs Passive Investment Strategy
  2. Active Portfolio Management Vs Passive Index Performance Matching
  3. Higher Expense Ratio For Active Management Vs Lower Expense Ratio For Passive Management

Now let’s look at the points in more detail:

1. Active Investment Strategy Vs Passive Investment Strategy

An actively managed mutual fund has an experienced manager and a management team to make investment decisions on the fund corpus. On the other hand, passively managed mutual funds often just follow a market index. The latter does not have a fund manager or a management team to make investment decisions.

2. Active Portfolio Management Vs Passive Index Performance Matching

Actively managed fund managers conduct sector, economic, and company research to develop investments’ strategies to deliver maximum returns. Such funds attempt to beat the market index by timing the investments accurately. In comparison, passive funds replicate a certain index and invest in securities that are included in the same. The primary objective of passively managed funds is to match the performance of the underlying index.

3. Higher Expense Ratio For Active Management Vs Lower Expense Ratio For Passive Management

Although not guaranteed, active funds try to outperform the market index. However, such active management comes at a cost. Compared to passive funds, the expense ratio of active funds is significantly higher. Although the difference in the expense ratio may not seem much, it may reduce your actual earnings significantly, over a longer period.

Which Is The Better Option Between Active And Passive Funds?

The debate between active and passive funds is ancient and misleading. Both these investments styles may co-exist within a comprehensive mutual fund investment strategy. Choosing one or the other will depend on several factors. Alternatively, you may combine both types of funds to maximize your returns.

If you want to achieve growth over the long-term, passively managed funds offer a tried and tested strategy. You may be able to build a comfortable retirement corpus with these types of mutual funds.

Just because passive funds have proved to be dependable for long-term investment returns, this does not mean that active funds do not help in building a retirement corpus. However, if you do not have the time, experience, and expertise to research about actively managed funds, investing in passive funds is a more appropriate option.

Passive funds track a particular market index after considering a certain investment strategy. The positives are almost no tracking mistakes and lower costs. If you make regular investments in passive funds that invest in reliable index stocks, achieving your financial goals is more likely.

Which Fund Type Is A Better Option To Outperform The Market?

Active funds try to outperform market indices. Fund managers and the management team are constantly trying to find shares that would outperform the index. They use various technical and fundamental analysis tools such as charts to conduct an in-depth research.

The risks of investing in active funds are higher when compared to passive funds. However, active funds have the potential to deliver significantly higher returns in comparison to passive funds.

Active funds have higher costs primarily because of two reasons. Firstly, a higher number of trades are executed by the fund manager that increases the transaction costs. In addition, investors like you must assume the burden of the fund manager’s expertise.

It is important that you invest in good performing mutual funds. Investing in funds having a good track record, long tenure of the fund manager, and a sound investment policy is advisable.

You must consider investing in both types of mutual funds after understanding the differences between performance and costs. You must choose a fund that suits your overall mutual fund investment strategy. You may utilize passive funds to build your core portfolio. On the other hand, active funds may be used to invest in high-performance investment products. Based on your risk appetite, financial expertise, and investment tenure, you may dedicate a certain percent of your mutual fund portfolio to active funds.

How To Choose The Best Fund Type Based On Market Conditions?

Active funds may perform well during bear markets because the fund managers make quick buy, hold, or sell decisions. However, passive funds just follow the index and may be more beneficial during bull markets.

Even after understanding about active and passive funds, their pros and cons, and differences, you may find it difficult to make investment decisions. Do not worry because Angel Bee is here to simplify your investment journey with its proprietary technology-driven ARQ investment engine, an integral highlight of Angel Bee’s mobile application.

ARQ uses advanced quants and algorithms to analyze a large number of variables. It studies your risk appetite and investment requirements to offer customized mutual fund recommendations.

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