Do Managed Funds Make Sense

To understand the meaning of managed funds, it is necessary to understand what is meant by active portfolio management.

Active management of a portfolio is an attempt to get better returns than would be otherwise possible by investing in an investment benchmark index. In simple language, manager of a managed fund subscribes to the theory that it is possible to outperform an index by rotating investments frequently; buying when the market is declining and selling when it is up. Index funds or passively managed funds, on the other hand, are based on the theory that it is next to impossible to outperform the benchmark market index.

There is also another aspect involved in the debate between managed funds and passive funds. Those in favour of active management profess that market inefficiencies can be exploited by buying undervalued and short selling overvalued securities. The other side of the story is that markets always discount information that is readily available and there is no way that returns more than the average market return can be achieved in the long run. Proponents of passive funds are of the opinion that active management actually lowers returns due to the involvement of commissions for churning portfolios.Managed funds should also be viewed in the backdrop of how active management in defined. Some managers would convert totally to cash or employ hedging techniques in a declining market while others will only make minor adjustments in the portfolio. The performance of a managed fund thus depends largely on the manager’s skills.

The point to be noted is that passive funds comprise of only 20% of all mutual funds. The balance 80% are managed funds having portfolios similar to various indices and rarely outperform the index they resemble.