Passive Index Trackers or Actively Managed Funds – which is better for your wealth?
Perhaps you’ve already started to invest and get assets working for you.
Or maybe you haven’t started yet and you know you must but you’re trying to work out how to do it.
Do you really know all your options?
Do you know what asset class to start with?
Do you know what to invest in and know what kind of fund is right for you?
Chances are you don’t.
Broadly speaking, there are two approaches to investing:
- Actively managed funds, where a portfolio manager or a fund management team moves your money around depending on their predictions of where best to invest; or
- Passively managed funds, also known as index tracking, where your money is invested in proportion to the companies listed in a specific index, and is left to grow.
But which is best?
Research consistently shows us that less than 12% of actively-managed funds ever beat the market in any given year and a significantly smaller percentage consistently beat the market.
That is a rather terrifying statistic because it means the supposed experts are losing your money!
It’s not surprising that actively-managed funds underperform the market. Without some kind crystal ball or psychic ability, it’s impossible to predict exactly what’s going to happen in the future – even if actively-managed fund houses like to pretend they do know!
In addition to the underperformance, actively-managed funds come with higher costs. All those “experts” need high salaries, bonuses and incentive trips all paid for with the money invested into the fund. Money that now never gets to work for you because it’s been used up to pay for someone else’s fancy lifestyle.
These costs further reduce your real return, and active management starts to look even more unattractive.
Nevertheless, this kind of guesswork is precisely what many fund managers do –shuffling your money around and putting you at risk for serious loss should their predictions prove false.
Call me weird, but I’d rather not take this kind of risk with something as important as my financial well being and I don’t think you should either.
This is why I love Index trackers and why they make up 70% of my liquid investments.
But don’t just take it from me – have a look at the below comparison to see just how active management and index tracking compare.
Index Funds vs Actively Managed Funds
|Index Tracker Fund||Actively Managed Fund|
|Goal||To track the performance of an index as closely as possible||Try to outperform the index or a specific benchmark of their peers|
|Strategy||Buy the shares of the companies in the index||Use research, market forecasting, a crystal ball and a portfolio manager or fund management team to predict which companies and shares might perform the best|
|Tax||Index funds tend to be more tax efficient as there are typically fewer trades within the fund||Tend to have even more costs due to more frequent trades within the fund also attracting more tax|
|Expenses||Typically lower ongoing charges and fees because less management required||Typically higher fees because more expensive management costs. Cost on average 2% more than their passive counterparts|
|Transparency||Total visibility of what the fund is invested in and the costs||Often very difficult to see what the fund is actually invested in and fees hidden.|
|Performance||Most reliable over the long-term||Less predictable over the long term|
|How they compare to the Index||Mirrors return of index it tracks||
Less than 12% of actively managed funds beat the market
When you put in place a regular investment plan, investing into a simple portfolio of index trackers you are setting yourself up for investment success.
Better still, you are doing your wealth building in the way it should be done – in the way that allows you to live your life fully while you grow your assets.
Investing in index funds minimises the time and energy spent on researching funds and managing the portfolio, which frees you up to go and live your life which is the whole point!
If you’re looking to get your money working for you and want to invest in the stock market (which you should be doing if you want to be financially free) then index tracking is the way to go.
But that doesn’t mean that all index trackers are equal. Remember that the kind of fund you invest in is only one element to consider. For the best results you need to use a diversified portfolio approach with different asset classes included so you maximise your gains and minimise your risks.
Ready to learn how to benefit from index tracking?
Ready to learn how to invest safely and securely?