Active management (also called active investing) refers to a portfolio management strategy where the manager makes specific investments with the goal of outperforming an investment benchmark index. Investors or mutual funds that do not aspire to create a return in excess of a benchmark index will often invest in an index fund that replicates as closely as possible the investment weighting and returns of that index; this is called passive management. Active management is the opposite of passive management, because in passive management the manager does not seek to outperform the benchmark index.
Concept
Ideally, the active manager exploits market inefficiencies by purchasing securities (stocks etc.) that are undervalued or by short selling securities that are overvalued. Either of these methods may be used alone or in combination. Depending on the goals of the specific investment portfolio, hedge fund or mutual fund, active management may also serve to create less volatility (or risk) than the benchmark index. The reduction of risk may be instead of, or in addition to, the goal of creating an investment return greater than the benchmark.
Factors/Strategies used:
- Price/Earnings ratio (P/E)
- Price/Earnings Growth ratio (PEG)
- Sector Investments (anticipate macroeconomic trends)
- Out of favor companies (maybe selling at discount to intrinsic value)
- Merger arbitrage
Advantages of active management
The primary attraction of active management is that it allows selection of a variety of investments instead of investing in the market as a whole. Investors may have a variety of motivations for following such a strategy:
- They may want to manage volatility by investing in less-risky, high-quality companies rather than in the market as a whole, even at the cost of slightly lower returns.
- Conversely, some investors may want to take on additional risk in exchange for the opportunity of obtaining higher-than-market returns.
- Investments that are not highly correlated to the market are useful as a portfolio diversifier and may reduce overall portfolio volatility.
- Some investors may wish to follow a strategy that avoids or underweights certain industries compared to the market as a whole, and may find an actively-managed fund more in line with their particular investment goals.
At StateTrust, our team of experienced investment managers can help you achieve your investment objectives. Our goal is to preserve and grow your wealth.
Links of interest: