There’s one common mistake many amateur investors make when first embarking on their investment journey: they only focus on the specific assets they feel they should be buying. They take a short-term view, instead of defining an investment philosophy or strategy they understand and are comfortable with.
That’s not to say it doesn’t matter which stock you end up investing into, or that the suburb where you decide to purchase your next investment property isn’t important. But when it comes to investing, there are a lot of variables outside of our control. Some that amateur investors may not have evenconsidered.
This is where a good investment strategy (or philosophy) kicks in. Having a clear strategy in place enables you to remain disciplined in your investing, and roll with the punches, when things don’t go your way.
And when determining your investment strategy, the starting point in every investor’s journey is to decide if you want to take a passive or active approach to your investing.
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Passive investing isn’t just about putting money into a group of sharesand then forgetting about them, it’s much smarter than that.
With today’s technology, we’re able to invest directly into a market index. This means that you can buy a basket of shares in a fund that replicate a sample of the market (covering the biggest 20, 50, 100 stocks, and so on).
It’s called passive investing because you’re not actively making the investment choices.
Passive investing like this can be a clever strategy to spread your investment risk across a range of different stocks, asset classes, and industries. Studies have shown that it’s hard even for professional investors to beat the market consistently for long periods of time. So in doing this,you’re effectively diversifying your investments, which means you’re not reliant on one stock - meaning less risk if things go awry.
As the name suggests, passive investing is much less hands-on, so it doesn’t carry the costs for researching the market and coming up with ideas on how to beat its returns. This makes management fees more cost effective, ultimately helping you to obtaining a better return.
When it comes to active investment management versus passive management, it all depends on the level of control you want to have over your stocks.
Now, when we’re talking about active investing, we typically mean engaging a professional investment manager rather than doing it yourself. This means you’re working with a specialist who will support you in obtaining a better return than the market for a specific asset class, rather than muddling through yourself.
The issue here is that the market is constantly in flux. There are some outstanding investment managers out there, each with a strong track record of achieving returns above market benchmark - but history has proven that it’s hard for these managers to consistently beat the market for long periods of time.
They’re also influenced by organisational changes: changes inmanagement positions, key staff, and other company problems, which can impact their firms in the long run.
Here at Liston Newton Advisory, we can’t tell you which investmen tphilosophy you should follow. When weighing up between active versus passive investing, it’s such a subjective practice; there are so many different variables at play, and personal quirks that come into the decision.
So when it comes to active versus passive investment management, we subscribe to a theory of balance. Of doing a bit of everything, where possible, to help you take advantage of benefits of both.
As such, we recommend looking at these two investment philosophies.
Core satellite approach
Under the core satellite strategy, you benefit from using a passive investment approach to build your core investment portfolio, while using a strong active manager as a satellite. They then invest on your behalf in alignment with your specific goals.
For example, we’ve seen portfolio managers add funds that invest in private debt and real assets, benchmarking unaware strategies as satellites to a traditional stocks and bonds portfolio. Decisions like these may be based on high inflation and fears of a recessionary period presenting hurdles for both equities and bonds public markets.
Strategic versus tactical asset allocation
Whether you choose to use active managers or not, another avenue some people consider is adjusting their portfolio’s asset allocation to adapt to the current economic environment. There are two ways of doing this.
Strategic asset allocation
Strategic asset allocation is when you fix the percentage of risk versus defensive assets in your portfolio, and then stick to it. Here, you’re focusing on the long term.
The percentage someone chooses is typically dictated by your appetite for risk. An investor who’s looking to chase high returns and can tolerate risk might have a portfolio allocation of 90% risk and 10% defensive investments. Conversely, an investor who’s more conservative may look into splitting their portfolio evenly between 50% risk and 50% defensive investments.
Tactical asset allocation
Tactical asset allocation aims to better position the portfolio to the portfolio manager’s short-term views. This approach allows the portfolio manager to adjust with the market.
For example, recently we’ve seen portfolio managers increasing the defensive component of their portfolios. They see little opportunity for risk assets to grow substantially and may feel the current economic climate could benefit defensive investments.
The final word
When looking at active investment management versus passive management, it all comes down to your risk tolerance and the specific goals you’re looking to achieve. This allows you to create an investment strategy that you understand and feel comfortable with. It helps you look beyond the short term, and create a portfolio that has a better chance of weathering the uncertainfuture ahead.