Why passive management is winning investment cash

During the month of October, Vanguard Group pulled in US$196 billion of new investor cash.


Passive investment winning investment cash
Passive investment winning investment cash

Vanguard is the largest provider of index-tracking investment products and its October figures represents a rise of $33 billion from a year earlier. The Pennsylvania based investment giant’s growth is an indication of the growing preference of investors’ for index-tracking funds over those that rely on stock pickers.

Vanguard’s strong investor growth highlights the changing face of investing and mirrors those of Warren Buffet who has advocated for greater use of index trackers over more traditional active fund investment.

In fact, the growth of Vanguard combined with the consistent strong index-fund performance highlight the dilemma for active fund managers globally who have lower growth track records but higher fee structures.

Devastating impact of fees

Highly managed funds incur higher fees on client accounts. And it is fees that have a devastating impact on long-term fund growth. Analysis conducted by Ablata reveals fees costing 3% – 4% annually can reduce the overall value of client fund balance by 30% or more over the full term of an investment period. So, on a fund valued at $600,000, fees can reduce it by $200,000 or more.

Passive Vs Active investing

Passive management (also called passive investing) is an investing strategy that tracks a market-weighted index or portfolio. The idea is to minimise investing fees and to avoid the adverse consequences of failing to correctly anticipate the future.

Active management (also called active investing) refers to a portfolio management strategy where the manager makes specific investments with the goal of outperforming an investment benchmark. However, this particular strategy requires a lot of guess-work along with buying and selling and amending of fund construction – all of which costs money but which clients ultimately pay for.

A broad dilemma for active investment managers is a long-term lack of ability to truly outperform benchmarks. So, while some active fund managers may outperform an index for a period of time, history shows their capacity to do so on a long-term basis is extremely limited. This is a fact that investors must consider as they evaluate their long term investment strategy.

Consistent growth and low fees

The biggest components of fund growth are driven by the overall rate of fund growth on year-on-year basis in addition to the fees applied to having their investment managed. So far, it is the Vanguard model that offers investors the greatest rate of wealth growth over the long term. And it seems that investors in general are buying into the Vanguard model in increasing numbers.

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