Active vs. Passive: travelling in the wrong direction?

June 16, 2016 Categories: Markets

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Black cab or Uber? Active or passive investing? Both choices are valid under different circumstances, and savvy investors need to work out how to navigate the different routes.

It’s a predicament many of us have probably faced at least once, what with the recent disruptive growth of the world’s now most popular, app-based taxi service.

If it’s just cost you’re worried about then hands down, an Uber makes most sense – on the surface. Uber drivers rely almost whole-heartedly on computer-driven navigation, which attempts to find the quickest path to destination. Part of the philosophy is that tracking a map is sufficient to navigate the streets of London, and that traffic updates provided real-time can allow drivers to react quickly and efficiently enough. But, there’s a risk that the Uber driver gets it wrong and takes you to a foreign neck of the woods. Or you might even feel yourself zig-zagging aimlessly across town as the GPS tries to find its bearings. Or the traffic updates are behind time. All that can mean your journey ends up being more costly than expected, and you might miss that all-important meeting, dinner or train that you needed to be on time for.

To Uber’s defence, the ride is generally comfortable, quick and more often than not saves you a few pounds in your pocket. However, there are times when a black cab is essential. When you need to get somewhere quickly and hassle-free, you can bet your bottom dollar that the black cab driver will deliver. With three solid years of “knowledge” prepping, they know the most effective routes and have the informational advantage over the Uber driver, and can use GPS as back-up as and when they need to. Plus, there’s little risk you’ll get lost, because you’re with an expert. All this means is that when it really matters, you don’t mind paying a little extra because you’re getting a better, more reliable and faster service. That said, if you were to use a black cab every day, you’ll probably end up paying far over the odds for relatively simple journeys!

Our approach to investing follows a similar philosophy. Navigating through markets can be a tricky game: in some cases, you’re walking a well-trodden path and you’re happy to use a cheaper passive solution because there is less informational advantage and the higher cost of active management isn’t justified. In other cases, you’re venturing into complex and possibly illiquid markets, and you need a manager who knows what they’re doing and can manage the downside risks appropriately. Investing in a passive solution, whilst cheaper upfront, may end up losing you money because the risks are less well quantified and accounted for. It’s hard to say outright that Uber cabs are better than black cabs because there are merits and drawbacks to both options. What really makes the difference is having both levers to hand, and that’s exactly how we operate our funds. We use active managers in cases where we have conviction they have the expertise to deliver better risk-adjusted returns. Conversely, we use passive managers where we feel the added cost of an active manager is not justified. Obviously, picking the right manager (active or passive) is not as easy as hollering down a black cab or opening a phone app, but that’s why you hire a specialist.

Nashtar Suri , Manager, EMEA

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Rikdeep Lit, Manager, Client Strategy and Research

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