Q

What's a passive fund?

A

It’s an investment vehicle that is not actively managed by an investment advisor.

No, a passive fund is not a slightly annoying fund that will just shrug its shoulders and agree to go to whatever restaurant or movie you choose without offering an opinion. A passive fund is rather an investment vehicle that is not actively managed by an investment advisor.

Whereas active funds employ people in order to plot to outperform the greater market, passive funds seek to mirror a certain financial sector or index — let’s take the FTSE 100 for instance. By investing in a representative array of FTSE stocks that automatically readjust based on how the component stocks perform, a passive fund will directly follow the performance of the footsie — which historically has shown great gains despite occasional drops. Examples of passive funds that you’ve probably heard of include tracker funds and exchange traded funds, or ETFs for short.

The great advantage that passive funds have over active funds is that since there are no humans crunching numbers and tearing their hair out to decide which securities to buy and sell in order to outperform the market, their management fees tend to be considerably lower — an actively traded fund may assess an annual fee of 1 % of your entire investment, whereas it’s not uncommon for a passive fund to have an expense ratio of .2% or less. In the last couple of decades, many individual investors have been won over by the allure of passive funds. The low fees are irresistible in light of the increasing body of research that demonstrates that over the long term, actively managed funds only rarely outperform the greater market.

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