Actively Managed

Actively managed refers to an investment strategy where a professional fund manager, or a team of them, makes ongoing decisions about what securities to buy, hold, or sell in a portfolio. Unlike its counterpart, passive management (or index investing), which simply aims to replicate the performance of a market benchmark like the S&P 500, an actively managed fund strives to outperform it. Think of it as hiring a star chef to create a unique, exquisite meal, rather than just following a standard recipe. The managers use their expertise, research, and judgment to pick winners and avoid losers, hoping to generate returns that beat the market average. This hands-on approach is the hallmark of most traditional mutual funds, though some ETFs (Exchange-Traded Funds) are also actively managed.

The central promise of active management is simple but ambitious: to do better than “average.” If the market goes up 10%, the active manager aims for 12%, 15%, or more. If the market falls 20%, they aim to lose only 10% or 15%. To achieve this, managers employ a variety of strategies that a passive fund, by definition, cannot. These strategies typically involve:

• Stock picking: Conducting deep research to identify specific companies that they believe are undervalued by the market or have superior growth prospects. This is the art of finding hidden gems.
• Market timing: Attempting to predict the market's direction by increasing exposure to stocks when they expect a rally and shifting to more defensive assets like cash or bonds when they anticipate a downturn.
• Asset allocation adjustments: Actively shifting the portfolio's mix between different industries, countries, or types of securities based on changing economic conditions and forecasts.

Active managers rely on rigorous analysis to inform their decisions. Their approach generally falls into one of two camps, though some use a blend of both.

This is the bedrock of most active strategies, and it's the language of value investors. Fundamental analysis involves digging into the details of a business to determine its intrinsic value. Managers will pour over financial statements, assess the quality of a company's leadership, analyze its competitive advantages (its economic moat), and study its industry landscape. The goal is to understand the business so well that you can confidently say whether its current stock price is a bargain or overly expensive. This is the approach championed by legendary investors like Benjamin Graham and Warren Buffett.

A different school of thought, technical analysis ignores a company's fundamentals and focuses instead on patterns in its stock price and trading volume. Practitioners believe that historical price movements can help predict future performance. While some active traders rely heavily on it, this approach is often viewed with skepticism by long-term value investors, who prefer to focus on the underlying quality of the business itself.

The battle between active and passive management is one of the longest-running debates in the investment world. Both sides have compelling arguments.

• Potential for Alpha: The ultimate prize is generating “alpha,” or returns above the market benchmark. A truly skilled manager can deliver significant outperformance over time.
• Downside Protection: During a market crash, a passive fund is forced to ride the market all the way down. An active manager has the flexibility to sell stocks and move to safer assets, potentially softening the blow.
• Efficiency in Niche Markets: In less-trafficked corners of the market, such as small-cap stocks or emerging markets, there may be more mispriced securities for a skilled manager to discover. In these areas, active management has a better track record.

• The Fee Drag: Active management is expensive. The research teams, star managers, and frequent trading all come at a cost, which is passed on to investors through a higher expense ratio. A fund might charge 1% or more per year, while a passive index fund might charge just 0.05%. This means an active fund must outperform its benchmark by a wide margin just to break even with its cheaper passive alternative.
• Manager Risk: Your returns are tied to the skill of a specific person or team. What if the star manager retires? What if their strategy falls out of favor? Past performance is no guarantee of future results.
• The Sobering Statistics: The evidence, championed by passive investing pioneer John C. Bogle, is stark. Over almost any long-term period, the vast majority of actively managed funds fail to beat their benchmark index, especially after their higher fees are taken into account.

At its core, value investing is an active strategy. When you follow the principles of Graham and Buffett, you are not buying the whole market; you are actively researching and selecting individual businesses you believe are trading for less than they are worth. You are, in effect, the active manager of your own portfolio. The challenge for the ordinary investor is that successfully managing a portfolio requires significant time, skill, and emotional discipline. The alternative is to hire a professional by investing in an actively managed fund. While most funds underperform, the goal for a value-oriented investor is to find the rare exception: a fund run by a disciplined, patient manager with a clear, understandable strategy and, crucially, reasonable fees. The principles of active management are sound; the high-cost, index-hugging business of active management is often flawed.