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Passive Management vs Active Management: What's the Difference?

Investors have long debated the merits of active management versus passive management. The debate generally pits those who believe that active managers, through skill and hard work, can outperform the market against those who believe that it is impossible to consistently beat the market.

What is Passive Management?

Passive management, also known as indexing or passive investing, is an investing strategy that seeks to match the performance of a market index. The most common indexes used by passive investors are the S&P 500 in the United States and the FTSE 100 in the United Kingdom. Passive investors do not try to beat the market; they simply seek to match its performance. Index funds are the most common type of passive investment. Index funds are mutual funds or exchange-traded funds that seek to track the performance of a specific market index, such as the S&P 500.

What is Active Management?

Active management is an investing strategy that seeks to beat the market. Active managers believe that they can find stocks that are undervalued by the market and that will outperform the market in the future. Active managers may use a variety of strategies to find these undervalued stocks, such as fundamental analysis, technical analysis, or a combination of both. Active management is the opposite of passive management. While passive managers seek to match the market, active managers seek to beat it.

The Debate

The debate between passive and active management is a long-standing one. Proponents of active management argue that, through skill and hard work, active managers can find stocks that are undervalued by the market and that will outperform the market in the future. They believe that active management is the only way to consistently beat the market. Proponents of passive management argue that it is impossible to consistently beat the market. They believe that, after accounting for fees and expenses, the vast majority of active managers will underperform the market. They believe that the best way to invest is to simply match the performance of the market.

The Evidence

There is a large body of evidence that supports the case for passive management. Studies have shown that, after accounting for fees and expenses, the vast majority of active managers underperform the market. In fact, a study by Standard & Poor's found that, from January 1, 2003, to December 31, 2013, only 24.6% of large-cap actively managed funds outperformed the S&P 500. The evidence is clear: the vast majority of active managers cannot beat the market.

The Verdict

The evidence is clear: the vast majority of active managers cannot beat the market. For the average investor, the best way to invest is to simply match the performance of the market. This can be easily accomplished by investing in index funds. Index funds are the simplest and most efficient way to invest in the market. They offer the best chance of matching the market's performance. And, because they are low-cost and tax-efficient, they offer the best chance of achieving long-term success.

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