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Passive Investing

Additional Resources

  1. On The Economic Consequences Of Index-linked Investing [pages.stern.nyu.edu]
  2. Indexed Investing [web.stanford.edu]
  3. Passive Over Active Investing [econ411w14.lsa.umich.edu]
  4. Active Vs. Passive Investing: Which Approach Offers Better Returns? [executiveeducation.wharton.upenn.edu]
  5. Comparing Active And Passive Fund Management In Emerging Markets [econ.berkeley.edu]
  6. Passive Investing: The Role Of Securities Lending [darden.virginia.edu]

Definition

Passive management is an investing strategy that tracks a market-weighted index or portfolio. The idea is to minimize investing fees and to avoid the adverse consequences of failing to correctly anticipate the future. The most popular method is to mimic the performance of an externally specified index. investors typically do this by buying one or more index funds. By tracking an index, an investment portfolio typically gets good diversification, low turnover, and low management fees. With low fees, an investor in such a fund would have higher returns than a similar fund with similar investments but higher management fees and/or turnover/transaction costs.

Passive Investing

Passive investing may be defined as an “investing strategy that tracks a market-weighted index or portfolio”. The core purpose is to keep away from the unfavorable consequences as a result of poor anticipation of the future as well as to keep investing fees at the minimum level.

Refrains from making short term forecasts

The thing to remember about passive investment is that it does not make an attempt to differentiate profitable from comparatively less favorable financial securities. Nor do passive security investors time markets or make predictions about prices. Rather, they invest in large segments of the market that are colloquially referred to as ‘asset classes’ or indexes.

Passive investors, like their active counterparts, invest for the sole purpose of acquiring financial remuneration from their investments. But quite unlike active investors, they don’t seek out the kind of data that active investors do so. Rather, they rely and eventually allocate their money based on historical data accrued over considerable periods of time and prefer their investment baskets to be widely diversified with typically low risk investments.

Little real time buying and selling

Passive investment involves limited real time buying and selling. Passive investors’ portfolios reflect their desires of investing for long-term appreciation as well as low maintenance. They differ from their active investor counterparts since they rarely ever attempt to reap windfalls through short-term price fluctuations.

Instead, they rely on the dividends that listed companies pay to their stock holders for instance, or simply waiting for the prices of their shares to climb gradually till they feel they are in a position to sell them favorably.

There are two broadly defined characteristics of a Passive Investment portfolio:

Transparency: The investor’s portfolio must always be transparent and well structured.

Systematic Implementation: The investor must always implement the strategy for creating his investment portfolio in a systematic manner. The process must be based on pre-determined rules and applied in a disciplined way and the potential investor must avoid being emotionally swayed by the most well performing blue chip stock in the bourse (which would expose a trait that would be more reflective of a gambling nature than a methodical passive investor).

These two key features of passive investment are intended to help investors gain assurance that the results of their investments are both repeatable as well as replicable.