What are active and passive funds? Do you know which mutual fund you should invest in? – Active vs. Passive Mutual Funds Performance Returns Fund Flow Fees Comparison

While discussing with a colleague in the office, as soon as the topic of mutual funds came up, he started saying that we also invest our money in mutual funds. Have been doing this for many years, doing separate SIPs in the name of each person in the family. In fact, it is very easy today to invest in mutual funds, open a current account and start investing.

Do you invest in mutual funds too? You might have invested for years and might have earned returns and you might feel good about that. But if you were simply asked which fund you invest in – active or passive? Maybe you wouldn’t have an answer because you don’t know. No problem…most people who invest in mutual funds don’t know that either. Whether their portfolio is worth lakhs or crores of rupees.

So what are active and passive funds and why is it important for the average investor to understand this?

In fact, mutual funds have become increasingly popular in recent years. People choose the path of mutual funds in search of better returns… There are two main ways to invest in mutual funds – active funds and passive funds.

What is an active fund?

First, let’s talk about active funds. As the name suggests…active means active. Active funds are managed by experts, and the experts here are fund managers. The strategy is formulated before investing. The fund manager makes regular decisions related to buying and selling.

If understood from the perspective of investors, active funds are preferred because they are managed by industry experts who know where to invest in which stock and which stock to exit.

Characteristics of active funds

Actually, in active mutual funds, the expected returns are better than the index (i.e. the market). Because the fund is managed by a fund manager. But the fund manager charges investors fees for this, so the expense ratio (cost) of active funds is higher than that of passive funds. Because there is a large team of experts behind this fund.

In short, the goal of active funds is to outperform the market index. However, this is not guaranteed. Active funds may have better risk management than passive funds. This is because the fund managers are able to quickly understand market changes. However, this does not mean that they are risk-free. Equity mutual funds, debt mutual funds, hybrid funds or funds of funds are all actively managed funds.

What are passive funds?

Now let’s talk about passive funds… Investment in passive mutual funds has been increasing over the past few years. Passive funds are also a way of investing in mutual funds that track a market index or a specific market segment. In passive funds, the fund manager does not decide which companies will be included in the fund. Investing in passive funds is easy. Investors in passive funds do not need to research the best performing funds.

Advantages and disadvantages of passive funds

Let us tell you that when an investor wants his returns to be in line with the market, he invests his money in passive funds. These funds are low-cost funds as there is no cost involved in stock picking and research. Investors who are new to the market, especially young people, prefer such funds. The main reason is the good returns of passive funds. Passive funds track a benchmark index and try to mimic its performance.

They are less volatile than active funds. Index funds are considered more suitable for those who do not have the time to track the market properly. Investors in passive funds pay lower expense ratios than those in active funds. For example, some of these passive funds are index funds, exchange-traded funds (ETFs). Apart from this, ETFs and index funds are available in many categories including gold, commodities, banks, healthcare.

Now let us tell you what is the difference between these two funds…
In active funds, the fund manager decides which stocks in which sector to invest the money in. Whereas, passive funds invest in an index in proportion to their weightings, such as 30 companies in Sensex or 50 companies in Nifty. In this case, the role of the fund manager becomes very limited in passive funds. Hence their management fees are also less. In recent years, the number of passive fund investors from small towns (tier 2) has increased significantly.

In this case, if you have no or little knowledge of investing, then investing in mutual funds through passive funds such as ETFs, index funds, etc. is the right choice. Passive funds are suitable for investors who want to take less risk. Also, it saves you the hassle of choosing which fund to invest in.