Active and Passive: Before you choose, know the facts

Investors should base their decisions on objective facts rather than emotions, and to ignore simplistic conclusions that don't take into account the whole story.

Feb 21, 2017 | Invesco

Five truths about benchmark investing

Many investors have drawn simplistic conclusions about the "active versus passive" debate. When deciding whether to simply invest in a broad market benchmark fund, or to include active managers who seek higher returns and/or lower volatility, many investors accept the idea that "you can’t beat the market," so they don't try. They accept whatever returns — and risk — the market has to offer. We call this "investing in average."

At Invesco, we believe the greatest opportunity for investors to achieve their unique objectives is through high-conviction portfolios that go beyond the limitations of traditional benchmarks. In our view, such a portfolio can include a wide variety of strategies — actively managed funds, factor/smart beta strategies and traditionally passive approaches can all play a role in a well-constructed portfolio (see more about these strategies below). But investors need to base their decisions on facts.

To help investors who are seeking the whole story, we list five simplistic conclusions, or "investment myths," about benchmark investing, and the truth behind each one.

1. Myth: It's always a good time to invest in average. Truth: Passive outperformance and underperformance have historically moved in cycles.

2. Myth: Benchmarks follow sound investment strategies. Truth: Traditional benchmarks buy high and sell low by valuing companies based on how large they are instead of by their fundamentals or investment factors.

3. Myth: Benchmarks offer steady performance and less risk. Truth: Benchmarks have tended to underperform on the downside, and they can't actively avoid risk.

4. Myth: Benchmarks are effective substitutes for high-conviction strategies. Truth: Benchmarks simply provide market exposure, while high-conviction strategies can pursue a variety of goals.

5. Myth: Benchmark strategies always outperform active strategies. Truth: By their very nature, benchmarks cannot outperform the markets they represent (known as "delivering alpha"). They are simply a reflection of all market activity.