Active vs. Passive Investing

Chart of the Week for June 19 - June 25, 2009

This week’s chart illustrates the differences in returns of active and passive investment styles. Differences in returns are shown for ten asset categories, across three time periods (2009 year-to-date through June 15, 2009, and calendar years 2008 and 2007). A bar above 0 indicates that active investing, on average, outperformed passive investing during that time period for that particular asset category. Active investment return is measured as the average return in the respective Morningstar category for that time period, while passive investment return is measured as the return of the appropriate benchmark index for the asset category.

The debate between active and passive investment styles has been ongoing. Proponents of passive investing (i.e., investing in a mutual fund that seeks solely to track the performance of a given index) believe that markets are efficient and immediately reflect new information in stock prices. Active investing supporters think that markets are not perfectly efficient, which means that there are opportunities for capable investors to discover and exploit valuation discrepancies and potentially achieve a higher return than one would otherwise receive from investing in the index. Active investment strategies are typically more expensive than passive ones, which creates a larger performance hurdle for active managers to exceed in order to beat their benchmark.

Historical return data, such as that presented above, does not appear to conclusively support one strategy over the other. As the chart shows, dramatic differences in the success and failure of active investment strategies occur over even a relatively short three-year time period. For example, in the Small-capitalization Value asset category, active investing underperformed passive by 3.31% in 2008, but is outperforming by 8.15% so far in 2009. It is also interesting to note that sometimes active investing performs in lockstep across asset categories, while at other times results can be more mixed across categories. For instance, the asset categories presented above are split down the middle in terms of excess return so far in 2009 (5 have outperformed, 5 have underperformed). In contrast, in 2007, active investment outperformed in 9 out of 10 asset categories. In 2006, which is not shown above, active investment underperformed in 10 out of 10 categories.

This illustration was compiled by information from outside sources. These companies are not affiliated with ICMA-RC. This information is being provided for educational purposes and is not intended to be construed as or relied upon as investment advice. ICMA-RC does not offer specific tax or legal advice. Individuals are advised to consider any new investment strategies carefully prior to implementing.

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The performance data quoted represents past performance. Past performance is no guarantee of future results. Investment returns and principal value will fluctuate, so that an investor's shares, when redeemed, may be worth more or less than their original cost. Current performance may be lower or higher than the performance data illustrated. For performance data current to the most recent month end, contact ICMA-RC Services, LLC by calling 800-669-7400 or by writing to 777 North Capitol Street, NE, Washington, DC 20002-4240. Para asistencia en Español llame al 800-669-8216. Performance data current to the most recent quarter end is available by visiting www.icmarc.org.