Much controversy has been made in recent years as passive management has really taken a strong foothold in the investment management community. Here at REDROCK WEALTH MANAGEMENT – we are indeed passive investment managers.
The fact is – active management just doesn’t make sense for our clients. Active investment managers attempt to beat a given index or benchmark – whether it be stocks, bonds, commodities etc. They try to pick and choose securities, and even time the markets to gain an advantage and beat their respective benchmark index.
For our clients, this just doesn’t make sense. Passive investment managers do NOT try to beat their respective benchmark index. Rather a passive investment manager will accept market based investment returns for a given asset class, and focus more on portfolio creation and balance (re-balancing).
Investment management – when done properly – is a tool or a process to accomplish a goal. Clients make the mistake of looking at performance and trying to “beat” something, when in fact what they really want is to “accomplish” something.
Most brokers ride the wave of client misperception and simply “feed the beast” by touting performance. The real question isn’t what percent did you make, but rather can you retire, put the kids through college, take care of your parents, buy the vacation home, etc. How is it that we are wired to miss the most simple of observations when it comes to our financial planning?
The reason accepting market – or asset class – investment returns is prudent for our clients is simple. Over any given asset class – stocks, bonds, commodities – or any subset thereof (emerging markets, international mutual funds, technology funds, etc.) active management clearly fails to outperform over various periods of time (take your pick – if you don’t believe me throw me a timeframe and I’ll run the analysis – the results are the same). While there may be periodic outperformance – it simply doesn’t last, and it isn’t predictable.
Look at the statistics. Clearly the case with bond funds is that roughly 2/3 or more active investment fund managers fail to beat their benchmark:
Active Investment Management – Fixed Income Mutual Funds vs. Benchmark Index
And if bond fund managers can’t beat their benchmark index – what about stock fund managers? Can they beat their benchmark index? Clearly not in any consistent manner:
Active Investment Management – Equity Mutual Funds vs. Benchmark Index
I’d contend, that while some managers will indeed outperform over a given period of time – the majority will not in any predictable fashion. The numbers don’t lie.
If active investment management doesn’t consistently beat it’s benchmark – why bother trying? While it’s possible you MAY get lucky, and get the “hot hand mutual fund manager”, chances are clearly stacked against you, and you’re far more likely to end up underperforming a simple benchmark.
We choose to accept asset class returns for our clients through passive investment management mutual funds and ETF’s. There isn’t enough reward, or a great enough chance of success, for us to attempt beating an index. Active management fund fees are higher, their turnover is higher (higher internal trading costs), there is less tax efficiency, and frankly – active managers who try to beat their benchmark usually fail!
There are many other reasons active management fails to beat passive management. I’ll save some for another blog post – but the funny thing is those brokers out there who tout their funds performance. Fact is I have software – as do they – and it’s easy to twist statistics and pick funds based on past performance which will look awesome. Change a time period, switch a benchmark, pick a hot fund – you name it. It’s easy to do. Unfortunately a lot of would-be clients fall for the sales pitch of a slick talking broker.
I haven’t changed my investment management philosophy (meaning passive over active) since I got smart in 2002. I was one of those brokers for a big firm on Wall Street and I bought into the hype early in my career. I thought it was possible to beat a benchmark and deliver award winning returns consistently.
Now I focus on delivering goal achievement, solid planning, and providing world-class service.
Do I always work towards delivering great financial results for our clients? Of course! But great financial results are the add-on to a great plan and planning.
I was quite wet behind the ears for the first half (nearly) of my career… The Wall Street “ivory towers” aren’t quite as shiny on the inside when you really know how the game works.
We’ll accept market returns, and we’ll focus on portfolio construction and management – matching client planning needs with passive investment funds and tools designed to achieve those needs. It’s just the smart thing to do! And at the end of the day, isn’t that what really matters?
