Active management or active investment is the investment process through which the manager of an investment fund searches for and selects financial assets based on his own criteria and analysis, with the aim of achieving higher returns than the market. It is the opposite of passive management .
This type of management requires a manager with great analytical skills, high knowledge of the market and experience. Its main objective is to be able to find investment opportunities that can generate higher returns than the market. This investment process therefore requires more dedication and time than passive management.
Managers of actively managed funds buy and sell assets based on their market expectations, changing when they believe the composition of the portfolio is appropriate . Always with the aim of maximizing your profitability and / or minimizing your risks. Unlike passive management funds , in which managers do not change the shares in which they invest, nor their weight. Unless, of course, the reference index modifies its composition.
Active managers, although they do not try to replicate to an index as in passive management, they do use one to measure their performance and try to exceed it. It is used for both variable income and fixed income.
Advantages of active management
These are the main advantages of active management:
- Alignment of interests: Managers will strive to systematically achieve higher returns than the market to satisfy the interests of their investors . They can minimize losses in times of stock market crash if management is appropriate.
- High monitoring: There is a high control of investments by the manager. Therefore, if any unexpected event arises, the capacity and reaction speed is high.
Disadvantages of active management
These are the main disadvantages of active management:
- Higher commissions: Due to the great demand that has the manager, commissions of such investment vehicles often have higher charges than other more passive management.
- Risk of bad results: It is possible that the manager does not achieve higher returns than the market. In this case we would be paying higher commissions for nothing.
Types of active management
Although there are many types of active management, the best known and most used strategies are:
- Top-down analysis (top-down analysis): The asset selection criterion begins with a macroeconomic analysis. In other words, the manager will consider which countries or economies can grow more or generate better returns. Later, he will try to foresee which sectors of those economies can do better. Within these sectors, active managers will choose those companies that they think will bring the most benefits to the fund. This type of analysis is the one that is most often carried out in practice.
- Bottom-up analysis (from bottom to top): It is just the opposite of the previous case. Active managers will look for those companies which they consider will grow the most in the market, regardless of the sectors or countries, as well as in the economic cycle where they are located, given the great universe of companies that exist in the market, and that are susceptible to Being analyzed by managers, the task increases exponentially in difficulty. That is why this type of analysis is used less in practice than the Top-Down mentioned above.
Active management in practice
When investing in an actively managed investment fund, it must be taken into account that it is possible that the returns obtained will not be higher than those of the market. So before deciding to select a specific fund, it is advisable to carry out a historical analysis. In other words, see how the fund has acted in the past and whether the manager has had the ability to outperform the market. Although this does not assure us that the manager will continue to outperform the market in the future.
Investors who believe in active management do not believe in the efficient market hypothesis. They believe that it is possible to profit in the stock market through strategies that include identifying undervalued securities.
Investment companies and fund investors believe it is possible to exceed market returns, and hire professional investment managers to manage the company’s investment funds. The goal of active management is to show better returns than for index funds where passive management is carried out. For example, the manager of a large-cap equity investment fund aims to exceed the growth of the S&P 500. Unfortunately, for the vast majority of active managers, this task is extremely difficult. This phenomenon is simply a reflection of the fact that regardless of the manager’s professional qualities and abilities, it is really difficult to exceed market profitability.