Making the implicit explicit: A framework for the active-passive decision

14 August 2017 | Portfolio construction


The portfolio construction debate around active versus passive investments tends to focus on all-or-nothing views and recommendations. Vanguard believes that both active and passive investments have potential benefits in a portfolio. Passive funds offer low-cost efforts to track benchmarks, leading to a tight range of relative returns. Active funds offer the potential for outperformance, albeit with greater uncertainty (including the possibility of underperformance relative to a benchmark) and typically higher costs.

We created a quantitative framework for how to approach and evaluate a mix of active and passive investments.1 Such a combination could allow for both active's potential for outperformance and passive's low-cost benchmark tracking.

1 Making the implicit explicit: A framework for the active-passive decision. Daniel W. Wallick; Brian R. Wimmer, CFA; Christos Tasopoulos; James Balsamo, CFA; and Joshua M. Hirt, The Vanguard Group, Inc., May 2017.

The active-passive decision framework
Our quantitative model
Applying the framework: A case study

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This document is published by The Vanguard Group, Inc. It is for editorial purposes only and is not a recommendation or solicitation to buy or sell investments. It should be noted that it is written in the context of the US market and contains data and analysis specific to the US.