Investment Management

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.

* Diversification does not guarantee a profit or ensure against loss.

Passive management (also called passive investing) is a financial strategy in which an investor (or a fund manager) invests in accordance with a pre-determined strategy that doesn't entail any forecasting (e.g., any use of market timing or stock picking would not qualify as passive management). The idea is to minimize investing fees and to avoid the adverse consequences of failing to correctly anticipate the future. The most popular method is to mimic the performance of an externally specified index. Retail investors typically do this by buying one or more "index funds". By tracking an index, an investment portfolio typically gets good diversification*, low turnover (good for keeping down internal transaction costs), and extremely low management fees. With low management fees, an investor in such a fund would have higher returns than a similar fund with similar investments but higher management fees and/or turnover/transaction costs.

Rationale

The concept of passive management is counterintuitive to many investors but it is derived from five concepts of financial economics:

1. In the long term, the average investor will have an average before-costs performance equal to the market average. Therefore the average investor will benefit more from reducing investment costs than from trying to beat the average.
2. The efficient market hypothesis postulates that equilibrium market prices fully reflect all available information, or to the extent there is some information not reflected, there is nothing that can be done to exploit that fact. It is widely interpreted as suggesting that it is impossible to systematically "beat the market" through active investing.
3. The principal-agent problem: an investor (the principal) who allocates money to a portfolio manager (the agent) must properly give incentives to the manager to run the portfolio in accordance with the investor's risk/return profile, and must monitor the manager's performance.
4. The local elasticity of the market, while usually theorized not to be conducive to any particular investment strategy, can in fact be favorable in many cases to a stable strategy, setting passive management apart from its more change-prone counterparts.
5. The capital asset pricing model (CAPM) and related portfolio separation theorems, which imply that, in equilibrium, all investors will hold a mixture of the market portfolio and a riskless asset. That is, under suitable conditions, a fund indexed to "the market" is the only fund investors need.

Implementation

At the simplest, an index fund is implemented by purchasing securities in the same proportion as in the stock/bond market index.  It can also be achieved by sampling (e.g. buying stocks/bonds of each kind and sector in the index but not necessarily some of each individual stock/bond).

Collective investment schemes that employ passive investment strategies to track the performance of a stock market index, are known as index funds. Exchange traded funds (ETFs) are never actively managed and often track a specific market or commodity indices.

At StateTrust, our team of experienced investment managers can help you achieve your investment objectives.  Our goal is to preserve and grow your wealth.

* Diversification does not guarantee a profit or ensure against loss.

Domestic Sector Indexed ETFs (Total Returns Annualized %)

Domestic Index ETFs (Total Returns Annualized %)

International ETFs

International ETFs (Total Returns Annualized %)