The do nothing revolution
By Carmel Fisher, Managing Director
28 October, 2016
Active investors are not the most popular folk these days. Pick up any investment report and you'll read about the biggest trend of recent years — the tsunami of capital flowing out of actively managed funds and into passive index funds.
As a dyed-in-the-wool, passionate active investor, I will never be convinced that passive investing beats my approach.
That's not to say I can't see the merits of passive investment — you'd have to be silly not to appreciate a fund with cheaper fees than an active fund, delivering the same returns as the broad market.
It's just that passive funds are so, well, passive.
I wouldn't choose a passive option for anything in my life. You want a doctor? Well, here's one, not great, not terrible. A lawyer? Here's one who's average, you may or may not like them but they'll get a result smack bang in the middle of results achieved by all lawyers.
No, for me, I'd always prefer to choose a professional who'll get me a result that's better than average, even if it costs me a bit more.
Yes, I'm biased. I know our oldest active fund (it's nearly 20 years old) has beaten the index, after fees, by around 1-2 per cent every year on average, if you look at cumulative performance over the years the fund has been in operation. But not all active funds have done as well.
I'm obviously alone in my passion. Millions of dollars have flowed out of active managed funds and into passive funds in recent years and it seems the trend is gathering steam.
What I find interesting is that passive funds are used in a way that is far from passive. I envisaged ordinary people would put their money in a passive fund in a sort of 'set and forget' strategy — but that's not what happens in practice.
The people who invest the most in passive funds are professional investors — the guys and gals who want to quickly get a position in the US market or in emerging markets like Brazil or China. They buy index funds and trade these positions vigorously, dare I say actively, as their views change.
Meantime, 'Mum and Dad' investors apparently use index funds primarily to get international exposure but, when it comes to investing at home, they are happy to make active bets.
The other interesting aspect of passive investing is virtually every investor I speak to has an opinion, and often a strong one. They might not like companies involved in unethical industries. They might think Auckland Airport shares are expensive or dislike Xero shares as the company's yet to turn a profit.
But they are happy to invest in a passive fund that offers no opportunity whatsoever to reflect their opinions.
In my view, the fact we all have opinions will ultimately curtail the popularity of passive investing.
I suspect a lot of people don't realize that with passive investing, companies get more money invested in them not because they're great but because they're big.
An index is based on the size of a business, not its quality. So a big company might be a horrid business with weak management but, if it's big, index funds will keep investing in it.
If investors want to put some pressure on management and the board to encourage change, well, they're out of luck. Index funds don't do that; active funds do.
The idea of 'do nothing' investing is appealing. But, as in any of life's pursuits, a passive or indifferent approach just doesn't stand up to scrutiny.