Active and Passive Investing

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Passive investing is often used interchangeably with index investing. In this context, passive investing is the practice of following an index, like the S&P 500. The goal of passive investing is to create a portfolio that contains the same funds as an index. Because indices are created to show an overall picture of the market or a section of the market, passive investors who follow indices are trying to get returns that mirror a section of the market or the entire market.

Whereas passive investing generally aims to keep pace with the market, active investing aims to beat the market. Active investing requires more research because active investors must choose their investments rather than using the companies from an index. The most actively managed mutual funds are those that do not remotely attempt to track any index. These funds have goals and philosophies that guide fund managers in deciding which assets to use within the funds.

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Active investing and passive investing are not black-and-white concepts – there is a lot of gray area. A fund can be managed in a more active or more passive way. The more research that is done, the more active the investing style is.

Read this breakdown from Financial Engines for more information on active and passive management