The raging argument between the merits of active and passive investing always gets us thinking about sports’ spectators investing their time and money in either physically going to the events or watching them from their armchairs. The crowds offer atmosphere – the couch offers comfort. Making the effort to attend demonstrates commitment and dedication, while staying at home smacks of laziness and apathy. But neither position is sacrosanct – individual circumstances most certainly do matter.
So too with financial investing. There is a case for both active and passive investment strategies. However, investors should always understand which approach suits them best.
Passive investing is, as the name implies, akin to the couch potato. It’s a buy and hold strategy with reduced decision-making, reduced activity and reduced costs. Active investing, on the other hand, is a progressive approach where investments are regularly considered, frequently reconsidered and transaction costs mount. On balance, passive investing is more suitable for retail investors; while judicious active investing tends to favour the professional investor.
The investing sub-sets of growth and value are also important constituents. Chasing value suggests a longer time horizon with the presupposition that in the long run value will win out. Whereas, investing in growth stocks indicates a shorter-term approach where, once the expected growth is achieved, the investment is liquidated; and another potential growth spurt is identified elsewhere.
The key word in the preceding paragraphs is “potential”. All investment strategies are founded on the expectation of a positive return. Such positivity cannot always be realised. Certain investments can deplete to zero losing 100% of the investment. The inability to appreciate that this risk applies to all investments is a key failing for retail investors. History is littered with examples of such skeletons.
MMPI’s approach has always been to recognise the naivety of adopting the wrong strategy. Identifying the risk tolerance of investors is key. It is often said that individuals should never place money in the stock markets unless it is money they are prepared to lose. While this adage is pointed, it fails to appreciate that it applies to everybody with any level of savings or any investment in a pension. Plenty of people are invested in the markets – and some of them don’t even know it!
Where individuals are investing on a regular and long-term basis, they have witnessed substantial swings in valuations in good times and in bad. But history consistently points to higher values eventually. Dampening down the expectations of retail investors that returns will always be positive is a fundamental part of MMPI’s work.
So, what should your investment portfolio look like? Trying to provide a specific answer that will suit all investors is foolish. Traditional models talk about diversification between bonds and stocks – but they often fail to acknowledge the contributions of physical assets like commodities and property. Explicitly choosing between being a couch potato and an active investor is not wise. There are too many variables in the equations to allow for a simple choice.