Active or Passive Strategy

You know that Active Investment is kind of market timing strategy while Passive counterpart is buy and hold strategy (some called lazy portfolio ^_^) so which one more suitable for you ? A number of years ago, John Bogle, founder of the Vanguard group of funds, wanted to find out if active management of a mutual fund provided returns greater than the index that they competed against. He discovered a significant underperformance by active managers as compared to their benchmark. He then set out to provide investors with a low-cost alternative to investing in the indices—the same ones that were beating the managers handily.

Vanguard’s mantra of low expense ratios, low turnover, and a passive management style turned the industry on its head. A few years later, Bogle’s mutual fund company grew into one of the largest fund companies employed by individuals and institutional advisors. This was primarily due to a clear understanding that there should be no “hiding” of the fund’s true investment policy and that, above all, it was essential to put the investor first.

Additional, we know historically that stock market will bullish 2/3 of the time and bearish one-third. If you are market timer, you better stay in the market when it bull and move out when it bear but how accurate you are ? A study show that if you miss early bull session, you will miss about 50% of a good return. As a reminder, stock market tend to be bullish about 24-36 months and bearish for 12-18 months on average.

Most famous Passive Fund I know is DFA (Dimension Fund), their total US market fund, which comprise of large, medium and small cap companies (value and growth) but focusing on value companies with average P/B of 0.6, have 23.7% return over past 50 years while at Vanguard, their total market counterpart has only 15.3% return; not because of poor management but because they have different approach in picking companies; with Vanguard the average P/B of value companies is 1.4; higher than DFA. And what we know is lower P/B ratio companies tend to produce better return than higher one in long run.