There are really only two kinds of investment management: active and passive.

It is a natural human tendency to try to apply intellect to every scenario, so when you hear active vs passive management you almost instinctually feel as though active management makes the most sense.

You imagine some Ivy League egg-head scouring every data point and daftly swapping money from here to there at just the right time in an effort to make you more money.

And passive management sounds like your manager is asleep at the wheel. Like they are just watching your money sink while taking a nap. How boring and lazy.

Obviously, neither of those descriptions really quite capture the essence of the scenario. If you want to learn about the actual difference between active and passive, CLICK HERE to get chapter 5 of my book “UnBrainwashed Investing”.

In reality, as fun as active management sounds and as boring as passive sounds, the unsexy truth is that no concept has been proven more times and with more vigor than the fact that it is impossible for an active money manager to consistently and repeatedly beat their index.

Plus, with active management, you incur a lot more fees because there is a lot more commotion than with passive management.

So, why do active management strategies still exist?

Easy answer- they are profitable to the large investment firms. That’s why they exist. Period

A better question is “Why do investors still believe it can be done?“ A common answer is probably because their advisor says it can.

Why does their advisor say it can be done? THAT is a way more complicated answer, but here are my guesses…

1st possible answer: The advisor believes that if they don’t promise to outperform the market, then they themselves are not earning their own fee, so they have to figure out a way to try to outperform the market and they legitimately believe they have found a way.

2nd possible answer: The advisor believes active management can work. They may have been told this by the investment company wholesaler who shows up with coffee and donuts and takes them to ballgames and shows them back-tested data using exactly the right date ranges in order to prove their strategy works. Importantly, the advisor believes it really works (they are not a scumbag).

3rd possible answer: The advisor and/or their firm have made a business decision to outsource their trading to make their business more efficient and they believe that the outsourced firm will do a better job than they themselves can do (and if you read my email from last week, you’ll remember that when they outsource it costs their clients and extra fee).

My previous firm fell under the 3rd answer, hence the reason I left the large investment firms to start my own firm.

There are obviously many other possibilities, but the reasons don’t matter…the only thing that matters is the truth.

The truth is that in spite of the mountain of evidence against active management, over 50% of all investments remain under active management.

Human tendencies, strong marketing, and large profits, are all great explanations but I don’t think one explanation could be used to explain every scenario.

If you read my book, you would know that I believe that almost every single man and woman in my industry is honest and caring, and conscientious. Starting with that knowledge, it is hard to forge a proper answer as to why so many advisors still tout active management and even allow outside managers to tack a fee onto their client accounts.

I am glad my livelihood does not depend on answering that question eloquently.

If you really want to get further down into the weeds with my summary of how I know active management doesn’t work, CLICK HERE to download Chapter 5 for free.

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