What is passive investing and why does it work?

You’ve probably heard about that Fidelity study. You know, the one with the dead people.

If not, here’s a quick recap. According to lore, Fidelity conducted a study in 2014 of its highest performing accounts. The one common denominator? All the owners were dead.

We should tell you, though: No one can actually prove the study exists.

Real or not, there’s truth in the conclusion (as proven by real, actual, Google-able research): Passive investing is the way to go.

We’ll walk you through why.

What is passive investing?

Passive investors are following what’s essentially the “buy and hold” or “set it and forget it” strategy. Buy something like the S&P 500 Index portfolio, hold onto it, and don’t actively try to beat the market.

What is active investing?

Active investors choose their stocks, try to watch the market, and make trades based on their research (or research they pay someone to do). Basically, they’re trying to perform better than the market.

Wait. Passive investing seems like it has an average return. So how can it beat the market?

Let’s use a golf analogy. Pretend you’re a golfer and shoot par at every hole you play. Par is about average. If you consistently shoot par, you’re at the top 10% of golfers in the world.

The same holds true for investing. And, unlike with golf, you don’t need hours and hours of training.

So I can be in the top 10% of investors worldwide without practice?

Pretty much. (We will note: No one can predict the future, but historically this has proven to be true!)

Didn’t Warren Buffett have something to say about this? Is that fake, too?

Yes he did, and — unlike the dead people study — this one’s definitely 100% real.

Buffett wanted to prove that passive investing with the S&P 500 could beat out hedge funds. So he issued an open challenge. One hedge fund took him up on it. They picked out funds based on previous performance. Buffett stuck with the S&P 500.

This was 2008, a famously not-so-great time for the market. At first, the hedge funds had a lead. But by the end of the bet, Buffett’s index fund had a compounding return rate of 7.1% per year. The hedge funds, on the other hand, returned 2.2%.

Passive investing seems like a great strategy. What’s hard about it?

Passive investing is an act of discipline. Sometimes the markets get scary (sound familiar?). Sometimes you’ll panic and want to sell. Sometimes a stock will look like it’s doing really well, and you’ll want to buy. The strategy of passive investing means you have to take a deep breath, process your emotions, and do nothing.

Want to know more?

Fifr’s got you covered. Schedule your free one-on-one meeting with a Fifr Financial Wellness Expert here.

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