Why the

By John Spence

In the world of investing, the active vs. passive debate has taken on almost religious overtones, and it's impossible to get either side to agree on, well, anything.

We're talking Coke vs. Pepsi here. Microsoft vs. Apple. What condiments are “ correct” to put on one’s hot dog. Or, what happens when you put diehard Star Wars fans and " Trekkies" in the same room.

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However, getting bogged down in the never-ending active vs. passive squabble is counterproductive and can cause investors to lose sight of the big picture. Like dealing with a passive-aggressive person, sometimes the best thing to do is ignore these ideological zealots.

Instead, active and passive strategies can be combined to tap the strengths of each approach. Our Chief Investment Officer, Sanjoy Ghosh, has written about how active and passive investing both hold a place in Covestor's investing philosophy.

Let’s revisit some of the ways that active and passive strategies can actually work together, and why there really might be no such thing as truly “passive” investing.


A PR nightmare?

First, some basic definitions.

Passive investing involves following market benchmarks such as the S&P 500 and is usually associated with index funds and ETFs. The idea is to simply to track or mirror the market.

Active investing typically involves a human portfolio manager using market timing, stock picking or other techniques in an effort to beat or outperform the market.

Passive index investing has surged in popularity in recent years. There are several reasons for this. Investors have focused more on fees, and index investing is associated with very low costs. Also, academic research has documented how difficult it is to beat the market over the long haul.

Active mutual fund managers have been dealt "a public relations thrashing," writes John Rekenthaler, vice president of research at Morningstar.

"Index-fund managers have convinced the marketplace that the critical investment issue is whether to be passive or active," he said. "The triumph of indexing has become a familiar tale … Active management is regarded as a losers’ game. That belief, however, is incomplete."

Rekenthaler, a long-time observer of the mutual-fund industry, notes that costs count more than active or passive. Low-cost investing is good investing, but not all low-cost investing is passive.


Heretics in the index temple

One interesting recent trend is that some asset managers known for their passive index portfolios are getting attention for their active strategies.