Two important factors to consider when investing in a fund are whether the fund is actively or passively managed, as well as if it’s a growth or value strategy.
1. Passive Or Active Funds
Funds can be divided into two categories: those that are actively managed and those that are passively managed.
The portfolio management team behind an active fund is hand selecting the fund’s investments. Active funds seek to outperform the market, but there is no guarantee that they will achieve this objective.
For the most part, investors will pay more for actively managed funds than passive funds because they pay for investment management skills and experience. High expense ratios could potentially chip away at total returns.
On the other hand, passive funds are designed to closely track the performance of a specific index; there is no active security selection. Therefore, a passive fund’s risk and return profile is specific to that of the index it tracks.
It’s important to note that some passive funds have become more sophisticated in recent years. For example, smart beta exchange-traded funds (ETFs), also known as factor-based ETFs, use rules-based indexes.
Historically, investors generally assumed active management referred to mutual funds, while passive investing meant ETFs. However, active ETFs have been on the rise in recent years and may offer benefits similarr to those of passive ETFs.
Both passive and active ETFs may offer advantages compared to mutual funds. At a high level, ETFs typically offer greater liquidity, transparency, and lower costs.
2. Value and Growth Strategy
While there are various investment approaches, it’s common for investors to follow either a value or growth strategy.
A growth strategy focuses on buying stocks of companies that exhibit signs of an above-average growth rate compared to their peers or the broader market.
Value investing involves selecting stocks that appear to be trading at a discount to their intrinsic value. Value strategies look for stocks that are undervalued by the market, effectively betting that these stocks will generate compelling returns when the market corrects the mispricing.
Value stocks tend to have a very different profile than growth stocks. They are often mature, well-established companies that offer dividends.
The success of growth and value strategies has historically been cyclical. This means there have been periods when growth stocks have outperformed the broader market and periods when value stocks outperformed the broader market.
This is because growth and value strategies tend to perform well in different market conditions. Growth stocks may perform well during periods of economic expansion. However, value stocks may perform better during a market turndown as they have lower valuations and may have more stable free cash flows.
See more: Asset Allocation 101
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