If you are new to investing you may come across the terms active and passive investing. These represent two very different approaches to managing a portfolio. But deciding which one is right for you can be very personal. Kim Parlee speaks with Meagan Henriques, a Client Education Instructor with TD Direct Investing, to help explain some of the key differences.
- If you are new to investing, you've probably come across the terms passive investing and active investing. So what do those mean? And more importantly, what do they mean to you?
Meagan Henriques is the client education instructor at TD Direct Investing. She joins us for this week's Ask MoneyTalk. Meagan, great to have you with us. Let's get to the question that came in. Here it is. How do I know if I want to be an active or passive investor? And let's just back up a bit. Start off, what is an active or passive investor?
- So we'll start with the active investor. Typically, they will have a higher time commitment where they're spending more time researching, looking at their screens. They may be placing more trades. But ultimately, their goal is to beat the markets where they believe they could do better themselves. Now, a passive investor will be spending less time researching, placing fewer trades. They may have positions that are longer term where they can benefit from compounding. And here their goal is to have a return that's in line with the performance of the market.
- OK, good definitions. What are the pros and cons if you're really starting to think these through?
- So if we were to start off with the active investor, here they may be using individual or specific stocks where they may have a better control of their portfolios. There is going to be that higher time commitment, and there could also be more risk. A passive investor will be investing in investment funds like mutual funds, exchange-traded funds, which may already be diversified, where there's less of that time commitment. So they'll have a different level of control compared to an active investor. But there are still going to be risks involved.
So if we were to maybe have an example of this, let's say we were to go to an amusement park. An active investor may choose something like a roller coaster where maybe beforehand, they may have predicted, or they thought they predicted, when it was going to go up or when it was going to go down. But ultimately, when they actually strap themselves in, the experience may be a little different, where sometimes their predictions were correct, and other times they weren't.
Now, a passive investor may look at that roller coaster and think, this isn't for me. They may choose something like a merry-go-round where the movements are more predictable than that roller coaster, where you're avoiding those extreme highs as well as lows. But the ride may not be as predictable as you think, that sometimes it's out of the blue going to change directions. So at the end of the day, it's not like one ride is better than the other, but they are different.
- And, sometimes, you might choose, I guess, to even go on both rides.
- Maybe you do a bit of both. So how do I know, then, given all that, which one is best for me? How do I go about evaluating that?
- I think it's going to depend on how you want to spend your time. You might also want to ask yourself, are you confident that you can beat the market? Will you be satisfied if you don't? Regardless of whether you're active or whether you're passive, what is going to be important is to define your goals, your time frame, your risk tolerance. And your strategy will just be assisting you in accomplishing those goals.
- Meagan, thanks so much.
- Thank you.
- Meagan Henriques, she is client education instructor with TD Direct Investing.