Wednesday, November 7

Mutual Funds - Active vs Passive Managed Funds

Mutual Fund investment is common and is often advised as one of the safest options for investments by individuals. But these individuals are loaded with questions given the large number of funds available.
We try and answer some of the questions that investors have.

Should one invest in an Actively Managed fund or a Passively managed Fund

Actively managed funds are more popular among investors, but carry a higher risk than passive index funds. Fund managers often use a benchmark (say Nifty, BSE 200 and so on) to measure their performance. A fund manager trying to beat the benchmark is forced to take positions that would give his fund an edge over the benchmarked index. It is not uncommon that in most cases, they fail to beat the benchmark and the fund - consequently the investors - suffer. So picking the right fund becomes an important decision for the investor. “Past performance is not an indicator for future performance”. So even if you buy consistent outperforming funds, the outperformance of these may not sustain. Higher portfolio turnover (more number of times the portfolio is changed by buying / selling the securities) also results in higher transaction costs which hits the investor directly.

Passive Funds (better known as Index Funds or Index ETFs) usually mirror the benchmark and avoids the possibility of error of judgement by the fund manager. It invests almost exactly as the index and thus, even the returns are far more transparent. The returns are in line with the broader market and management fee is lower (approx. 1.0 – 1.5%) compared to other actively managed funds (approx. 2.0 – 2.3%).

Having said that, higher risk entails higher gains and some of the best performing funds in the market are actually actively managed funds. For those with a higher risk appetite, Actively Managed Funds may be the answer for you.

Accountants' Adda | Mutual Funds - Active vs Passive Managed Funds

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