What is the key difference between "active" and "passive" investment management?

The key difference between "active" and "passive" investment management lies primarily in the approach each strategy takes towards investment selection and trading frequency. Active management involves a hands-on approach where fund managers frequently buy and sell securities in an attempt to outperform the market or a specific benchmark. This strategy relies on research, forecasts, and the market's current conditions to make decisions, which often results in higher trading volume as managers adjust their portfolios.

Conversely, passive management aims to replicate the performance of a market index, such as the S&P 500, with minimal trading activity. This approach reflects a belief that it is challenging to consistently beat the market through active trading. Passive management typically holds a diversified portfolio of assets over the long term, with infrequent buying and selling, thus reducing transaction costs.

Understanding this distinction is essential for investors as it influences the potential costs and risks associated with each strategy. Active management often entails higher expenses due to trading fees and management costs, while passive management tends to be less expensive and more straightforward. Recognizing these differences helps investors choose the investment style that aligns with their goals, risk tolerance, and investment horizon.