The Market Determines
The Market Determines
The decision to go active or passive when investing should be based on the efficiency of the market
An investing strategy that takes into account market efficiency is worth considering if you are investing globally. Here, market efficiency, which basically means how quickly asset prices reflect their true value, determines whether an active or passive investing strategy is employed.
Active investing refers to asset picking and its ancillary activities such as research and monitoring. In contrast, passive investing omits the selection process by acquiring the same assets in the same proportions of a selected index.
Exchange-traded funds (ETFs), such as the Straits Times Index (STI) ETF which tracks the performance of Singapore’s STI index, is well-liked by investors for its low-cost passive investing strategy. Meanwhile, those investors that are willing to pay for active investing believe that opportunities to ‘beat the market’ can be found.
Which is the right strategy to use? An increasing number of professional investors are looking at market efficiency to answer this question. A market, say a stock market or a bond market, can be highly efficient or highly inefficient with varying degrees in between.
This is the premise: use a low-cost passive investing strategy in highly efficient markets such as those in the US, and use an active investing strategy in less efficient markets such as those in Asia.
It is important to note that both investing strategies have limitations and advantages. Both are also affected by the performance of underlying global economies. Perhaps, the drawback to employing both investing strategies is that the right investment for a specific market must be found, and buy-and-sell transactions (which incur costs) must be calculated and controlled to curtail expenses.
A fund that employs both active and passive investing strategies based on market efficiency offers a comprehensive investing approach. Besides its performance, the hallmark of a fund that does this well is its expense ratio. A low expense ratio indicates the fund house is disciplined, professional and aims to keep the cost of investing low while striving to make the best possible returns at the lowest possible risk.
Lion Global Investors Limited (“LGI”) is a company incorporated in Singapore and a member of the OCBC group.
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