The difference between active and passive investing

Investing money is not a one size fits all kind of scenario. For starters, a lot depends on your goals. Are you looking to cash out the investment in 5-10 years for a down payment on a house? Are you setting up a college fund for your children that will be used in 18 years? Is this an investment for your retirement that will be used 40 years from now? Each investment strategy needs to be tailored to your goals. Within these options there are two main classifications for investments: active and passive.

Active investing involves trying to outperform an index, for example the S&P 500. Your broker will look at what the market is doing, and buy or sell as a reaction to what is happening. This means more activity, so your broker will charge a higher commission fee. With passive investing, your portfolio follows the index and tries to match it. This is more of a “hands-off” strategy, so management fees are lower.

Over the last few years, passive investments have become more popular, as they’ve performed well while many active investment brokers have struggled to produce better returns. Even Warren Buffett advocates a passive investment portfolio, citing its consistency. Still, if you want to take a bit more risk and think you’ve found a broker with the right strategy, an active investment portfolio can certainly pay off. There are also newer funds emerging that combine the best aspects of each strategy.

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