A passive investment strategy is one that aims to maximise returns over the long-term by keeping the amount of buying and selling to a minimum. The idea is to replicate a benchmark as opposed to beat it as with active investing and keep fees at a minimum.
According to Vanguard, passive managers generally believe it is difficult to out-think the market, so they try to match the performance of the market (or their chosen sector) as a whole.
Bet passive investment strategy: ETF a core product
An ETF is usually a core product within any passive investment strategy.
Even though ETFs are a form of mutual funds, an ETF trades as a common stock on any stock exchange. The price of an ETF also changes intraday and can be bought at any time in the day. In contrast, mutual funds can only be bought at the end of the day when its net asset value (NAV) is calculated.
An ETF is an investment fund traded on stock changes. Most ETFs track an index, such as stock index or bond index. This could be at the FTSE 100 index of the UK’s biggest 100 companies, for example.
For this reason, a passive investment strategy is frequently called an index fund or a tracker fund.
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The low-cost, widely diversified, passive investment strategy (LCWDPA) is based on the idea that a diversified set of common stacks held at the lowest possible cost will easily yield the market average.
The LCWDPA passive investment strategy usually calls for:
- Buying a large collection of good, long-term holdings, balanced across multiple industries, sectors, market capitalisation sizes and even countries
- Never selling these holdings under almost any condition, no matter how distressed they appear
- Regularly buying more, and injecting more cash into a brokerage account
- Keeping costs to a minimum
Cost is another big reason, why several wealth managers and market participants favour a passive investment strategy over active investment strategies. This is because there is no need to research companies or bonds, and transaction costs are reduced because securities are bought and sold significantly less.