There are many investors out there who love the rough and tumble of investing in the share market. Buying, selling, finding your next big investment… these are all things that we investors find absolutely thrilling. But not all investors love the cut and thrust of the markets. Some people choose to invest passively. They want to share in the spoils of investing, but are unable or unwilling to ‘do the work’ of researching stock picks or analysing companies.
Instead, these ‘passive investors’ choose to invest solely in index exchange-traded funds (ETFs), such as the Vanguard Australian Shares Index ETF (ASX: VAS). This is typically done via a dollar-cost averaging (DCA) strategy, where the investor puts their investing on ‘autopilot’ by blindly investing a set amount of capital on a periodic basis (e.g. $100 a week or $1,000 a month).
Some investors choose to invest this way because it takes the ’emotional aspect’ out of the game. Many people (understandably) simply can’t handle the pressure of deciding what price to buy at. Thus, it’s easier to automate the whole process with a consistent approach. But for many investors who try their hand at ‘active investing’, perhaps a passive approach would be better suited.
When is passive investing the best strategy?
We’ve already established that a passive ETF-only strategy is best for those investors who don’t find investing interesting or fun, but still want to benefit from the compounding that the share market brings to the table.
But it might also suit those potential investors whose temperaments aren’t suited to a long-term focused, active approach. The last thing you want to do is put yourself off investing entirely by losing money chasing unrealistic gains. It might look glamorous when one of your friends decided to bet the house on Zip Co Ltd (ASX: Z1P) shares and rakes in a massive gain when Zip goes from $6 to $10 (as is what happened last month). But this isn’t too different from going to the casino and putting it all on red in my eyes. And it is not glamorous in the slightest when the odds cut the other way.
If you’re a thrill-seeker and bring that attitude to the share market, a passive strategy might be a better way to go. The share market isn’t a place for high-octane entertainment, in my opinion. Instead, as legendary investor Warren Buffett once said, it’s instead a place where wealth is transferred from the impatient to the patient. If you’re not ‘the patient investor’ that Buffett speaks of, chances are you’ll end up funding someone else’s retirement.
But if you genuinely want to start a journey as an active share picker who looks for the best businesses to invest in, you can always start with ETFs and work your way up to finding individual companies as your experience grows. Understanding yourself is the first step to becoming a great investor. There’s no shame in going for a passive approach if it suits you best. You’ll still be far better off in the long run that those who don’t invest at all.