Investors, most often, fall in one of the following categories: active investors and passive investors.
If you’re a passive investor, you’re likely to have a “buy and hold” strategy. It’s also likely that you will be invested mainly in index-based securities. It’s also likely that your money will be parked in a custom index with proportional securities weighted by their market cap. You will have some large-market-cap stocks in your portfolio and be reasonably diversified by sector and geos. Once you buy these securities, you will hold on to them for a long period of time, until you either need money for other things (so you take it out of your investments) or the market reaches a point where you feel you’ve accumulated reasonable returns.
The safest (and therefore, one with least ROI) bet can be made in instruments like bonds and treasury papers that promise you a certain minimum return. These could be diversified by markets, sectors or geos for slightly better returns and increased safety net.
If you’re an active investor, you will be constantly looking at the markets to identify inefficiencies. For instance, stocks which are not priced high enough for the quality of the underlying companies; or information such as insider trades, company news etc which is not widely known yet. If there are events or analyses or news bytes about certain companies that have not been baked into the stock prices yet, you have a chance to “beat the market”. By following the markets actively, you can also come out of positions faster than others when there are downturns, thereby losing less money, if at all. Because general information asymmetry exists in the market, it’s fair to assume that markets are, by nature, inefficient. So you do have a chance of growing your investments substantially if you are an active investor.
Active investing works better than passive investing in market conditions that make certain stocks and sectors move differently from the rest of the market. When the entire market moves in one direction, passive investing is, perhaps, a better strategy. What’s crucial for active investors is to be able to identify those stocks or sectors that are likely to move differently from market trend.
Ultimately, it comes down to your investing DNA and long/short-term goals with your money. If you want risk-free returns with certain life-targets (like buying a house, paying for your kids’ education etc.) then passive investing a good way to make sure you get there. All you have to worry about is to invest the right amounts of cash so that your returns plus investment equates to your needs. If, however, you are not looking at markets as a savings avenue and want to make substantial gains, active investing is more your game. You have to account for the risks, of course, and make sure you have all the right tools to know everything you need to know about the stocks you like.
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