The question of whether one should use a passive investment strategy (in which you buy an entire market index) vs. an active strategy (in which you try to figure out which specific securities will outperform and invest in those) is one that can produce passionate responses. Express a strong opinion in favor of one dogma or the other in the midst of a bunch of financial types, and a brawl may ensue.
So it’s interesting to hear that Warren Buffett, who has made his fortune and reputation as an active investor, has publicly opined that index funds can be a good investment. According to Murray Coleman at IndexUniverse.com (who in turn is quoting an account from Jason Zweig), at Berkshire Hathaway’s annual stockholder meeting this past Saturday, Buffet was asked for his best investment idea for an individual in his 30’s, and he recommended a low-cost index fund from a reputable fund family.
To me it seems hard to argue against the notion that if you don’t have time or the inclination to do lots of research, an index fund is a smart idea. I’ll tip my hand here and reveal that I find passive investment appealing, thought I’m not a purist.
Although some of the assumptions behind the pure-passive approach appear obviously wrong to me, it’s simply a fact that most mutual funds with “active” managers fall short of their benchmarks over the long-term (and a few manage to miss them most of the time). Although I do believe that one can sometimes correctly identify undervalued securities, I’m also convinced that even very intelligent people often lack the psychological makeup needed to make money consistently via active investing. Too often investors fall in love with their best ideas and hang onto them even after they’ve ceased to be good ideas.
In the future I hope to explore this question in more detail, and maybe I can manage to keep the virtual fisticuffs to a minimum.
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