The onset of the COVID-19 pandemic saw an economic downturn and public health mayhem worldwide. However, the period also saw a rise in the popularity of passive investing. Passive investments from exchange-traded (ETFs) index funds gained traction due to assets under management (AUM) and increasing investor interest in such funds.
For example, in May 2021 the AUM for index funds and ETFs grew to Rs. 22,904 crore and Rs. 3,16,289 crores, respectively, as compared to Rs. 8,082 crore (Index Funds) and Rs. 1,84,534 crores (ETFs) in January 2020. That is a staggering increase of 183% and 71%, respectively.
This growth was also augmented by many fund houses launching various ETFs and index fund schemes over time. Though Indian investors are still getting used to passive investment strategies, the above trend shows that investors are increasingly warming up to passive investment. Also, technological advancements have brought in online investment app, making passive investment easier.
What makes passive investment so popular? To understand this, you must first understand the terms “active vs passive investing”.
Active and Passive Investment
An active investment strategy strives for frequent trading to beat average index returns. Active fund managers analyse a wide data range of their portfolio investments, from quantitative to qualitative analysis.
Thus, active investing focusing on individual securities requires a lot of market research and analysis. It can be done by the investor or through professionals by way of actively managed mutual funds and active ETFs.
Passive investment centres on buying and holding assets through the various market ups and downs to achieve long-term goals like retirement. The strategy focuses on duplicating its performance, with ETFs and index funds being two popular passive funds.
For instance, investors purchase index funds via a representative benchmark like the S&P 500 index and invest in it from a long-term perspective to maximise returns via minimal buying and selling.
What Makes Passive Investment Attractive?
Passive investment does not require your daily attention as it aims to match market performance to optimise returns over time. So, there are fewer transactions, leading to fewer costs. Investors and fund managers who fund passive investments find passively managed funds attractive for the below crucial reasons.
Passive investment involves fewer transactions than active investing, so it entails lower costs for investors. For instance, they have lower expense ratios than active funds.
Passive investment strategies are more fund-focused compared to the individual security focus strategy of active investing. Therefore, as an investor, you can easily diversify your portfolio across various stocks and bonds, including index funds and ETFs. So, the chances of one bad stock wiping out your significant gains are eliminated through passive investment, leading to low risk.
Passive investments are more transparent compared to active funds. For instance, the index tracked by your fund is not left to only the manager’s discretion or technical tools but will be tracked as part of the namesake index.
Better average returns
If you have a long-term investment horizon, passive investments will give you higher average returns with lower costs than active funds.
Passive investing is thus gaining increasing popularity among investors. However, this does not mean you should not consider active investing as part of your portfolio. An investor’s investing strategy is based on their investment goals, trading style, availability of funds, and commitment. So, based on your investment horizon, choose the best investment strategy to maximise your returns both over the short-term and long-term.
Disclaimer: This blog is not for investment advice. Trading and investing in the securities market carries risk. Please do your due diligence or consult a trained financial professional before investing.