The active investing versus passive investing debate has been going around for ages. There are certain economic conditions when either one of them takes precedence over the other.
If the equity markets are doing really well, then active investing comes into focus because of the alpha that such a strategy can generate. If it’s a bear phase, then the slow and steady nature of passive investing comes into the limelight. Some investment experts vouch for active investing, and others will talk about the many benefits of passive investing.
While there’s a case for both active and passive investing, it’s also true that active investing isn’t for everyone because of the inherent risks this strategy comes with. Passive investing, on the other hand, is beneficial for all types of investors. It’s ideal for long-term investors, but even if you are a short-term investor, you would do well by allocating a part of your investments to passive investing.
However, a lot of investors shun passive investing because of some myths that surround it. Let’s debunk these myths and see why passive investing makes sense for you.
Myth 1: Passive investing doesn’t beat the market
Investors believe that passive investing tracks the market and hence can never earn market-beating returns. However, that’s not true, because passive investing can entail investing in more than one instrument. Investing in the Nifty ETF is a type of passive investing. And so is investing in an ETF that tracks the Nifty Smallcap index.
If you invest a part of your portfolio in a Nifty ETF and another part in a Nifty Smallcap ETF, then you can invest passively and your portfolio can beat the broader market, which is considered to be Nifty. The ETF investments ensure that your investments costs are very low, and the diversified exposure allows you to beat the broader market without adopting an active investing strategy.Diversified exposure to low-cost ETFs allows you to beat the markets passively. Click To Tweet
Myth 2: Passive investing means less diversification
The belief that with a passive investing strategy, you can invest only in a concentrated portfolio is untrue. As explained above, you can hold different ETFs in your portfolio to be able to diversify while investing passively.
In fact, you can also diversify across asset classes by investing in different ETFs. For example, the All Weather Investing smallcase is a passive investing strategy that provides diversification across asset classes like equities, gold and fixed income—all through ETFs. The smallcase uses Nifty BeES, Nifty Junior BeES, Liquid BeES and Gold BeES. These holdings ensure that your stock investments are not concentrated and at the same time, you diversify across assets as well.
Myth 3: Passive investing is not flexible
The myth around the lack of flexibility can also be debunked through the two myths debunked above. If you invest in one single ETF, then your passive investment strategy is inflexible. But when you diversify across ETFs, you are able to achieve the required amount of flexibility.
Sure, you may not be able to change the stocks in an ETF, but if you wish to invest in a specific stock, you can just buy it and hold it for the long-term. After all, the essence of passive investing is to hold onto your investments for the long-term without churning your portfolio often. By creating a smallcase of the stocks you want to invest in, you can achieve the mix of passive investing and flexibility.
Myth 4: Passive investing is best only for bear phases
A bull run is a time to generate alpha, passive investing can wait for the bad times. A lot of investors believe this to be true. However, since passive investing is largely for the long-term, it is ideal for all types of economic and market conditions.
As a matter of fact, passive investing is really helpful because it helps you ignore the movements of the markets. When you’re investing for the long-term, let’s say 10 years and more, then the daily, monthly or quarterly movements of the markets shouldn’t bother you. Passive investing allows you to be aloof to these movements and focus on your long-term goals instead.
These are some of the popular myths about passive investing. While active and passive are both useful investment strategies, the benefits of passive investing shouldn’t be ignored. It’s low cost, low churn and low volatile way of building wealth over the long-term.