When it comes to mutual fund investments, being “passive” aggressive often pays off; here’s why
“An index fund is the smartest equity investment for general investors. By periodically and consistently investing in an index fund, even a sophisticated investor can outperform a seasoned investment professional.
Take it from investing legend Warren Buffet, who swears by these funds. And for good reasons. A recent study by Kotak Institutional Equities noted that over a three- and five-year period, 60% of funds underperformed their benchmark.
Globally, too, most mutual funds are unable to buck this trend. According to the 2021 S&P Dow Jones Indices SPIVA Annual Report, 80% of all actively managed US mutual funds underperform their benchmark.
Not surprisingly, approximately 40% of all mutual fund assets in the United States are held in passive funds. But why is it important?
Active vs Passive
An actively managed mutual fund has two distinctive elements. The first is a professional, that is, the manager who manages assets dynamically trying to make the most of market conditions. Therefore, its investors are charged a percentage of total assets under management (AUM) to fund these administrative expenses. Usually this is about 0.5-2.5% of the AUM.
Passive funds, on the other hand, do not need regular management. The idea is simply to replicate the benchmark. They are essentially a reflection of the market, right down to the last trade.
For example, the banking and financial sector has a weighting of 31.89% in BSE Sensex. So any index fund that tracks this 30 strong index will also attribute the exact proportion to this sector. As this does not require any particular expertise, the total expenditure, as a percentage of the AUM, generally does not exceed 1%.
Because of their profitability and ease of access, new investors flock to passive funds. According to recent data from the Association of Mutual Funds of India (AMFI), July 2022 saw inflows worth Rs 6,770.23 crore in 95 index systems. Even in the first quarter of 2022, these funds saw investments of around Rs 19,086.27 crore.
According to veteran mutual fund analyst and editor of investment magazine Nivesh Manthan Rajeev Ranjan Jha, “Index funds are the perfect springboard for new investors because index funds do a great job of delivering returns to Any index excludes underperforming stocks and includes only those that will qualify well on certain performance metrics.Add to that the diversification it offers, and index funds should always be a part of the portfolio.
Don’t completely neglect active funds
But be careful! It’s also not financially prudent to completely exclude active funds from your portfolio. The same Kotak research also showed that over a 10-year period, 80% of actively managed AUMs outperform their corresponding benchmarks.
Financial planner Sanjeev Davar advocates for a mixed and balanced approach. “Passive investing has certainly grown in popularity over the past few years, compared to investing in actively managed funds. Easy access to information has attracted more retail investors to this space. »
“A combination of active and passive funds will always be a prudent approach, rather than just active or passive funds. An actively managed fund always helps to avoid mistakes and to steer safely through difficult times,” he concludes.
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