Understanding Investing

Active Versus Passive Investing

The difference between active and passive investing opportunities.

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Narrator: Your money at work. Insights that can help you build a more secure future. Brought to you by PIMCO.

People invest for many reasons. No matter what your personal financial goals may be, to reach them, you need to make sure your money is working hard and working smart. But with today’s complex global markets and so many investment choices available, it can be hard to decide what's right for you. Understanding a few basic concepts can help you make more informed decisions about investing. This video will help you get started.

Active versus passive investing. There are a number of variables to consider when choosing investments. One important decision is the choice between active and passive management. Passively managed funds are often called index funds because they are usually tied to an established index that represents a particular market. For example, the S&P 500 Index consists of 500 large US company stocks and is commonly considered a proxy for the US stock market. You cannot invest directly in an index, but passively managed index funds are designed to closely track the performance of a particular index by investing in all or a representative portion of the securities in the index.

The performance of actively managed funds, on the other hand, depends heavily on the skills and experience of its manager and research analysts, as well as the investment strategies that are employed. Actively managed funds give the manager varying degrees of control over where and how to invest relative to the index. Depending on the manager’s success, they may provide more or less return than a relevant index. Investors may be drawn to passively managed funds because they generally charge lower fees and provide investors with diversified exposure to key markets, but there are other criteria you may want to consider.

Some investors are willing to pay more for the skill and experience of an active manager and the potential for better returns. Let's look more closely at each option. Passively managed funds are designed to track the performance of an index. That’s a good thing in a strong market when prices are rising, but not so good in a falling market when investors may be exposed to a sudden or prolonged decline.

There may also be concerns over how a fund is constructed. For example, the Barclays Aggregate Bond Index, which is a proxy for the US bond market, contains about 8,200 bonds. It’s not possible for most funds to contain that many securities, so a passive manager must choose which securities to include and which to exclude. The method of selection may impact how closely a passively managed funds tracks an index. Investors may choose actively managed funds because of their potential to deliver better than index returns. Active managers have the flexibility to adapt a fund’s holdings to a changing market environment. Using research and analysis, they can look for opportunities to enhance return potential, and when conditions are challenging, they can also try to manage risk.

Keep in mind that the market may not always behave as the manager expects, and the fund may underperform as a result. That’s why, if you decide to put your money to work with an active manager, it’s important to choose one with the resources and experience to potentially deliver better-than-market returns over time.

Helping your money work harder and smarter while you achieve your fin goals.

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