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Passive Investing Is Anything But... Thumbnail

Passive Investing Is Anything But...

Passive and active investing are two different approaches to investing in common stocks that include varying levels of involvement and decision-making by the investor.  

Passive investing involves buying and holding a diversified portfolio of assets, such as traditional index funds or exchange-traded funds (ETFs) that aim to replicate the performance of a specific market index. 

Active investing involves identifying mispriced securities or market trends and making specific investment decisions in an attempt to outperform a specific market index.

Data Doesn’t Lie

According to the S&P Dow Jones Indices (SPIVA) Persistence Scorecard, 96.73% of actively managed domestic large-cap mutual funds underperformed the S&P 500 Index for the 20-year period ending 2022. This data suggests that while it is possible for active stock fund managers to outperform an index, the chances of identifying a talented stock picker in advance is minuscule, and the price one pays for trying to accomplish this is prohibitively high.  

Active vs. Passive

Despite the long odds of beating a benchmark index over time, many in the financial industry are staunch advocates of the active approach to portfolio selection. Criticism abounds of the “passive” approach to portfolio design as being just too “passive,’ with a negative implication attached to the word “passive.”  

Is it possible to be “active” within a passive approach to portfolio design? Absolutely! 

Passive Portfolio Considerations

We have identified several components of successful financial planning that require attention to detail while maximizing returns with a portfolio of “passively managed” index and mutual funds.  

Asset Allocation: Consistent reviews of one’s asset allocation between stocks and bonds to ensure that your risk tolerance is aligned with your financial goals. This is especially important when confronting “sequence of returns risk,” i.e., a bear market when approaching retirement. 

Tax Efficiency/Asset Location: After your asset allocation has been determined, dividing your investments into the three tax buckets of tax-free, tax-deferred, and taxable, being mindful of the growth opportunities AND tax sensitivities of each investment. Remember, the goal is to maximize your after-tax returns in all buckets throughout retirement. 

Tax Bracket Management: This can significantly impact one’s post-work financial security. Tax bracket management is accomplished by integrating one’s tax planning with analysis of various income streams including Social Security, pensions, required minimum distributions, and investment decisions. By forecasting income over the next 5 to 10 years, you can strategically manage your tax brackets to minimize your tax liability and optimize your income. 

A Winning Strategy 

Wade Phau, in his recent book, “Retirement Planning Guidebook – Navigating the Important Decisions For Retirement Success,” points out that strategic tax management of your portfolio can push out portfolio sustainability by over 5 years. 

At Soundmark, we believe a passive investment approach allows us the opportunity to focus on financial planning matters such as your estate and legacy planning, tax planning, education funding, insurance evaluation, and various other entities we believe will have the greatest impact on sustaining your wealth over time. 

We are committed to our clients leading richer lives through thoughtful planning, sensible investing, and objective advice. If you have any questions about your portfolio or investment strategy, please do not hesitate to reach out.

This report is intended to be used for educational purposes only and does not constitute a solicitation to purchase any security or advisory services. Past performance is no guarantee of future results. An investment in any security involves significant risks and any investment may lose value. Refer to all risk disclosures related to each security product carefully before investing. Soundmark Wealth Management, LLC, its advisors and its affiliates do not provide tax or accounting services. This material has been prepared for informational purposes only and is not intended to provide, and should not be relied on for, tax or accounting advice. Please consult with your tax advisor prior to engaging in any transaction.

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