Even as we move into New Year 2019, an eternal debate regarding whether to invest actively to passively has grappled investors.
Even as we move into New Year 2019, an eternal debate regarding whether to invest actively to passively has grappled investors. Active versus Passive investing- this question is quite prevalent in the investor circle these days especially amongst those who have either travelled across the continent or have heard about best investment practices in developed markets. Let’s first understand the difference between the two methods from an average investor perspective:
Passive Investing means investing in an Index like Nifty. If one invests in a Nifty Mutual Fund, the NAV will closely mirror the Nifty performance. For a mutual fund, it is very simple to invest – and hence the management expenses are negligible. It’s a low effort – lesser expense investment.
Active Investing means creating a portfolio under the constant radar of a Fund Manager. He can choose a stock outside Nifty (or other index), in order to generate higher returns. Infact, the core performance evaluation criteria of a Fund Manager is to beat the index. As this process of stock selection & constant monitoring requires high effort and enormous skills – the management expenses are also higher.
Evaluating the approach of Passive Investing vis-à-vis Active Investing from Indian Context:
In developed markets like United States, some published reports suggest that more than two-third of active funds are not able to justify the expenses. That’s the reason, the passive funds are popular there. Exact opposite is the experience in an emerging market like India, where active investing is highly successful and has achieved superior results with more than two-third of active funds outperforming over the long run and justifying the expenses.
We get to hear many times that one company is replacing another within the index. Hence Index is itself active (at a very slow pace) because successful companies replace slow organizations over-time within the index. In a larger listed space, this evolution is witnessed with greater volatility, leaving higher scope for active Fund Management in an emerging market.
Further, in India, market in-efficiencies are higher leaving more opportunity with skilful fund managers to bring the difference. Hence in our country, the potential for active funds to out-perform is higher. Further, with an proactive regulator (SEBI) working in the interest of investors and progressively reducing the expenses, the process of Active Investing is all the more lucrative in India for few years to come (if not decade).
Investors should choose well diversified mutual fund portfolio with consistent high rating. Ratings are available in public domain at a click of Google Search. Whatever be the choice of rating model, one should ensure that fund is rated highly for a period of 3 years of more.
(Ashish Nasa is the Head of Wealth Management, NRI and Relationship Banking at Equitas Small Finance Bank. Views expressed in the article are author’s own)