Passive vs. active investing

Deciding how involved to be in your investment portfolio is an important question to ask yourself before embarking on your investing journey. Have a think about your tolerance for risk and whether you’re interested in seeking out and following individual companies, or if you’d prefer to simply commit a monthly amount to a ready-made portfolio.

The passive approach typically outperforms active funds that require a hands-on portfolio manager. Picking stocks yourself is time consuming and requires keeping up with news, earnings reports and market trends – however, it can be extremely rewarding.

What is passive investing?

Passive investing only works with a long-term view. This strategy is a cost-effective way of matching the performance of market indexes rather than trying to outperform them.

The most common passive investing approach is to build a portfolio consisting of index funds or ETFs (exchange traded funds). These follow major stock market indices, such as the S&P 500 (the top 500 largest companies in the US) or the FTSE 100 (the top 100 largest companies listed on the London Stock Exchange), or sector specific funds that track an entire industry.

See here for how you can harness the power of the entire stock market.

Alternatively, for an even more hands-off approach, many people make use of ‘robo-investing’ platforms such as Wealthsimple and Nutmeg. These employ clever technology to automate the purchasing of funds based on your risk tolerance and time horizon – all you need to do is commit to contributing a set amount every month (direct debit is recommended to help build the positive habit). Taking the decision-making out of building your portfolio helps with consistency, maintaining the right asset mix and you also benefit from pound cost averaging.

What is active investing?

Active investing simply means taking a more hands-on approach to selecting investment assets and managing your portfolio. The goal is typically to outperform the market’s average returns (usually the S&P 500) and requires time, effort and an interest in seeking out and keeping up with financial news relevant to your holdings.

Diversification is key to reducing your risk. You can make a portfolio diversified by investing in different countries, industries, a range of company growth types and by setting the maximum percentage size you are comfortable each holding reaching.

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