Informed investors, advisors and investment managers now believe that both active management and passive investing have a place in investors’ portfolios. In volatile markets, active management can outshine and outperform passive investing.
Tough markets are nothing new. But for the large generation who started investing after the Financial Crisis of 2008-2009, volatility and down markets are new things. They are green when it comes to experiencing markets in the red.
Economic issues new to this group include rising unemployment, high (even moderate) interest rates and deflation. And it’s not just the new investors. Many who have been through tough times don’t remember – or choose not to recall – the emotional strain of volatile markets.
Developed equity markets fumbled at the end of 2018, with the big indices dropping 25% or more several times in the fourth quarter. Trade tensions, a tech sector stumbling amid heightened scrutiny, falling oil prices and geopolitical uncertainty came to a head, and investors fled to asset classes they once perceived to be safe havens.
Tough on all investors, this scenario is worse for those with 100% passive portfolios.
Let’s take a look at a passive product such as a market capitalization exchange-traded fund (“ETF”). Regardless of conditions, this product follows a market’s return, up or down – as it is designed to do. Passive investors have no choice but to buckle up and ride out the volatility. Their lower fees and set-it-and-forget-it formula require a stomach of steel. That may be something that this type of investor does not have. Precious few investors do – even experienced ones!
Statement shock is a real threat: passive investors who have not been following events closely may have no idea about what they are going to see. The result? They may try to time the market. But since they have never been active investors, they first have to learn how to time the market. This is trouble in the making, and one of the many reasons Stone stands behind advisors and everything they do for their clients.
Passive investors are along for the ride
Longer-term active management has distinct advantages over passive investing –
whether markets go up or down.
When markets decline, some companies lead the way down.
While passive investors must maintain their allocation to such
companies, active investors can underweight, eliminate or
short them in their portfolios. Being able to sell can have a
dramatic positive impact on both short-term and long-term risk
management and returns.
While alleviating downside risk is a benefit that cannot be overstated, the skill that active managers bring to the table helps them capture opportunities as markets decline. Redeploying assets to better opportunities sets up a portfolio for greater success in the future. In practical terms, that means investors approaching retirement could have more assets to achieve their goals, and those in retirement will have greater assets from which to draw an income.
While passive and active both have a role in building well-diversified portfolios, increasing allocations to active in 2020 not only mitigates the downside, but also captures opportunities in markets that are volatile or trending downward.
Since day one, Stone has supported the advisor-client relationship. We believe that investors are better off with the help, guidance and expertise that advisors provide their clients. In times of heightened market volatility, this is ever more apparent.