October 2, 2019 Olivia Romet

Passive vs Active Investing

Hello Income Solutions society,

Last month’s article I shifted the focus towards investments and specifically investing for the long run. I now want to dig a little bit deeper into which investments have always worked. There have been two investments which fit this category of working over the long term. These are property and business (shares). Let’s begin. Before I get into the nitty gritty detail, I want to make a statement about active versus passive investing firstly.

Passive investing is defined as an investment strategy to maximise returns by minimising costs (Investopedia 2019). This is generally seen as the lazy method of investing and we as humans and human nature in general, are lazy. If there is an easier way to do something, we will find it and do it. By contrast, active investing is continuous buying and selling, monitoring performance and trying to garner a suitable return on investment (Investopedia 2019). Whilst trying to maximise returns, costs are also maximised so in this equation, the average return will be met.

Conversely, passive investing will have above average returns as costs are minimised. But more effort equals more return? Not necessarily. Let me explain. I see property, and specifically investing in property to rent out, as an active investment choice. It is a small business operation where you are the CEO. You must choose which property to purchase, what geographic location you buy in, how many rooms, how big of a backyard, what bank you go to, what loan structure you have, what real estate agency you go through and which tenants live in this property. Whoa, that’s a lot of choices and that takes a lot of time.

Then if anything breaks, who do you get in to fix it and at what cost? But in recent decades, with various tax concessions and low interest rates, property prices have boomed. It has the appropriate investment characteristics discussed last week of hopefully increasing capital value and hopefully increasing income, in the form of rent. What the future holds for property investment, I do not know, and no one does. With an increasing population, property prices could continue to increase. However, interest rates could go up, which would increase interest repayments back to the bank. Interest only loans could be phased out and you would have to pay principle and interest. A lot of speculation can occur.

Property investing involves a lot of decisions and more importantly a lot of time and cost. But it is undeniable that property could make you a profitable return. But I prefer being lazy. Investing in business, which is what the share market allows us to do as investors, by buying a small percentage of a business, can be both an active and passive investment approach. Property on the other hand, I believe, can never be a passive investment. It can only ever be an active investment. I somewhat dismissed active investing in the share market with last weeks article, as the amount of information available is so vast, at such a low cost, thanks to the internet, that the share market is generally efficient.

Efficient meaning that the price of a share in a business is relatively equal to what the business itself is intrinsically worth. Whereas pre 1990, information was limited, due to the internet being limited to non-existent on a mass scale, mispricing was rife in the share market and businesses could be purchased at a low cost, which would increase substantially over time. So, with all this information, passive investing is not buying individual stocks and holding for a long period of time as the future is evolving so fast with technology, artificial intelligence and space travel, that we don’t know what businesses will succeed or fail in the future. We can only guesstimate and speculate, which I don’t like doing. By purchasing individual stocks and only having a handful of these, you increase your firm specific risk, which is the risk that the business could go bankrupt and be non-existent.

I will talk about risk next month as I think it is a grossly misunderstood subject. So passive investing, in my mind, is purchasing low cost, globally diversified market index’s, that encapsulate the top 200-500 businesses in the world. This may be managed funds or exchange traded funds (ETF’s), which I will define the differences in later articles, but the point is that you buy and hold the great businesses of this world for the lowest cost possible and DO NOT SELL. Purchase more of these passive investments each month to take advantage of dollar cost averaging but DO NOT SELL.

Rebalance once a year, but DO NOT SELL in a market correction/decline/bear market. BUY MORE. Businesses are available at bargain/sale fire prices. Back up the truck, if you can and load up to fast track your wealth. I can write pages about this subject, as there is so much information about investing, but let’s not forget, the key determinant of wealth is BEHAVIOUR. Spend less than you earn. Borrow less than you can afford. Save and invest the difference in low cost, passive market index, globally diversified funds and you will succeed. If you do this over years and decades and not just weeks or months, you will create real life, long term wealth. Discipline equals freedom. Until next time, send in any questions or requests in. I look forward to hearing from you.

References: Dotdash (2019). Passive Investing. Investopedia. Retrieved from, accessed 22 September, 2019. Dotdash (2019). Active Investing. Investopedia. Retrieved from , accessed 22 September, 2019. JP Morgan (2019). Guide to the Markets. JP Morgan. Retrieved from , accessed 22 September, 2019.

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