Review & Outlook

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Rethinking the Active vs. Passive Debate

12 November, 2014 by Ben O'Brien in Commentary

Josh Brown of the Reformed Broker blog linked yesterday to an interesting interview in the Wall Street Journal with mutual fund expert David Snowball who addresses the active versus passive investment debate:

WSJ: Active or passive? Do today’s fund managers face an insurmountable challenge in beating quantitative systems?

MR. SNOWBALL: “Passive” doesn’t exist. The closest we come to it is Voya Corporate Leaders Trust (LEXCX). Otherwise, it’s a fantasy woven by marketers and advisers. Index funds represent portfolios of stocks selected by flawed, conflicted and occasionally dunderheaded human beings. The Dow and S&P 500 are both good examples of portfolio by committee.

I suspect a better dichotomy is this: disciplined, cost-effective portfolios versus undisciplined, cost-maximizing ones. Many but not all passive products fall in the former. Many but not all active products fall in the latter. Those observations underlie our conclusion that 80% of all funds, active and passive, could vanish without any loss to anyone other than their sponsors.

Many so-called passive funds have higher fees than active funds, and many of them slice and dice stocks in ways that involve making a bet on a particular outcome rather than just buying the whole market. At O’Brien Greene our aim is to build portfolios that are disciplined and cost-effective like index funds but with the flexibility, tax-efficiency and emphasis on quality that are only available through active management. Most of the time the “active” and “passive” labels are misleading.