Investor Corner/The asset classes/Mutual Fund Core Concepts
2.3.13 Active vs Passive Management
Active management tries to beat a benchmark through security selection and timing. Passive management simply tries to match it. The evidence over long periods shows most active funds underperform their benchmark after fees.
Two philosophies, one shared goal
Both active and passive investing ultimately aim to grow an investor's wealth. Active management pursues that goal by having a manager pick securities and time decisions in an attempt to beat a stated benchmark. Passive management pursues the same goal by accepting whatever the market delivers, at the lowest possible cost, rather than trying to outguess it.
Active management involves a fund manager and research team making deliberate decisions about which securities to buy, sell and hold, in what proportions, and when. The goal is to outperform a benchmark index by exploiting perceived mispricings, sector opportunities or company-specific insights. Passive management involves replicating an index mechanically, with no discretionary decision-making. The goal is to match the benchmark's return as closely as possible, at the lowest possible cost.
Why active management is genuinely hard to do consistently
To beat a benchmark after fees, an active manager must be right often enough, and by enough margin, to overcome the extra cost of running an active strategy compared to a passive one. Data across many markets and long periods consistently shows the majority of active equity funds failing to clear this bar over ten and fifteen year stretches, even though a meaningful minority do succeed in any given period.
The active-vs-passive debate has strong data on both sides, and the answer depends on the market segment. In Indian large-cap equity, the SPIVA India scorecard consistently shows that a majority of actively managed large-cap funds underperform the Nifty 50 TRI over 5-year and 10-year periods after accounting for fees. The large-cap segment is heavily researched and efficiently priced, leaving less room for active managers to find exploitable mispricings. This is the strongest case for indexing in India.
In mid-cap and small-cap segments, the evidence is more nuanced. These segments are less efficiently covered by analysts, and information advantages are more plausible. A skilled active manager in the small-cap space has historically had a better chance of generating alpha than one in large-caps. However, identifying that skilled manager in advance is the challenge, and the dispersion of outcomes among active small-cap funds is very wide: the best active funds significantly outperform the index, while the worst significantly underperform. Choosing poorly is costly.
A reasonable way to combine both
Many investors use a core-satellite approach: a passive, low-cost core for the bulk of the portfolio, paired with a smaller, deliberate allocation to active funds where there is genuine conviction in a specific manager or strategy. This captures most of passive investing's cost advantage while leaving room for selective active bets, rather than treating the choice as strictly either-or.
How PriLytics helps. PriLytics shows you the real, after-cost performance of every fund against its benchmark, so you can judge for yourself whether an active fund is actually earning its fees. Compare against a benchmark.
A pragmatic portfolio might blend both approaches: indexing the large-cap allocation (where active management struggles to add value after fees) and using carefully selected active funds for mid-cap or small-cap exposure (where the opportunity for alpha is greater). This is not a theoretical compromise; it is the approach used by many sophisticated investors and advisors in India. It captures the cost efficiency of indexing where it matters most and preserves the option for active outperformance where the odds are more favourable.