What Is Active Investing?

Active investing is an investment strategy that requires investors or fund managers to continuously monitor as well as actively buy and sell financial products. If the funds are managed by fund managers, then they, along with a team of analysts, look at the qualitative and quantitative factors of the security and try to determine where and when its price will change. The main aim of active investing is to try and outperform the indices as well as the stock market. Here, investors may be able to achieve higher potential returns with comparatively lower risk.

Passive investing, on the other hand, is intended to match the performance of an index. Also, passive investors tend to invest in a security and tend to invest in security for long-term appreciation, whereas active investors are those who seek short-term profits

Benefits and Limitations of Active Investing

Some of the major benefits of active investing are:

Risk Management

By following the active investing strategy, investment managers may adjust the investors’ portfolio according to the prevailing market conditions. Such portfolios can potentially offer better risk-adjusted returns. So, in case of a negative market trend, fund managers may tend to adjust the exposure of an investor’s portfolio to a particular sector to minimize the risk.

Potentially Higher Rewards

An actively managed fund or portfolio may have the potential to beat benchmark indices. Some fund managers may pick individual stocks which they think will outperform the market, while others may focus on investing in sectors or industries that have the capability to generate high potential returns. Most of the active-fund fund managers and their team of analysts conduct extensive market research to help identify favorable investment opportunities for investors.

Short-term Opportunities

With active investing, investors can take advantage of short-term trading opportunities. While buying or selling securities, active investors can use various strategies, such as day trading, position trading, swing trading, etc., to trade market ranges or take advantage of the market momentum. As the prices of the stocks in the stock market vary due to reasons such as company performance, quarterly results, socio-political issues, among others. The fluctuations in stock prices create ample short-term trading opportunities for active traders.

Even though active investing has a wide range of benefits, it has some limitations as well. Some of them are mentioned below:

Fees and Cost

As active investing may require multiple transactions to take place, it can lead to additional costs. Also, when investors are continually buying and selling stocks, they have to pay commissions to the brokers, which may impact their overall return on investment. Moreover, if investors take the help of an active investment manager, they might also have to pay a management fee, irrespective of the performance of the fund. Active money managers might also charge investors a performance fee based on the profit generated. Make sure to check the charges before opting for one.

Minimum Investment Amounts

Some of the active funds might require you to invest a minimum amount.

Active Investing Examples

Some of the common examples of active investing are mentioned below:

• All hedge funds are actively managed.
• A mutual fund that has an objective to outperform a benchmark is an example of an active investment fund
• Active trading can be done by investors who actively manage their own trading or brokerage accounts. They need to actively buy/sell stocks on the stock market.
• Active trading can be done by wealth managers who actively manage bespoke stock portfolios for their clients. They engage in managing their client’s capital by actively investing in stocks that might have the potential to outperform.

Frequently Asked Questions

Does active investing work?

Active investing is aimed at beating or outperforming market benchmarks and is ideal for those who are looking at potential short-term profits. Also, wealth managers who actively manage investors’ portfolios intend to fulfil a specific requirement rather than offer an all-weather solution. However, active investing also comes with its share of limitations, such as excess cost, fees, minimum investment amounts and more, which may hamper the potential returns.

What is the difference between active and passive investing?

Active investing is when an investor or a fund manager is actively involved in the decision-making process of the trade. Investors or fund managers tend to buy and sell stocks or assets that might show a potential for growth. Equity mutual funds, debt mutual funds, hedge funds, hybrid funds, among others are examples of active funds. Whereas, in passive investing, the investor or the fund manager is not actively involved in trading and does not decide the movement of the underlying assets. Exchange-traded Funds (ETFs) are examples of passively managed funds.