Passive versus active investing – what’s the difference?

There are two main ways of investing in the market through funds – one is described as active, and the other is known as passive.

An actively managed fund is run by a professional fund manager who hand-selects the stocks or other investments for the portfolio. 

A passive fund, sometimes known as a tracker, simply looks to replicate the performance of an underlying group of investments that’s already packaged together. This could be a stock market index like the FTSE 100 or S&P 500, a basket of bonds or investments related to a specific theme or industry sector. 

Using ETFs for passive exposure

Some people purchase passive funds in the form of exchange-traded funds (ETFs). There are also tracker funds which operate under a more traditional fund structure, but ETFs enjoy the transparency of being traded on a stock market. You can see a full list of their holdings, and, unlike traditional open-ended funds, you know the price you’re trading at instantly.

Cost advantage

A key advantage of passive investing is cost. This category of fund is simply looking to match the return of the market, so fees for tracker funds are traditionally lower than those for actively managed funds.

For example, research by AJ Bell in 2024 found the average passive fund in the global equity category was more than six times cheaper than the equivalent active fund (0.14% annual charge versus 0.9% respectively).

Typically, funds tracking major indices like the FTSE 100 have lower fees than those tracking more niche markets.

Downsides of passive versus active management

The downside of a passive fund is that it will only deliver the return of the market, minus any fees. In comparison, an active fund aims to beat the market. They will regularly review the fund’s portfolio, adjusting as they see fit – for example, buying or selling holdings, and monitoring wider stock market developments.

However, as AJ Bell’s Manager versus Machine report shows, over the last decade only 30% of active managers outperformed a passive alternative.

The picture is beginning to look a little brighter for active managers in the global equity category, where 51% outperformed in the first six months of 2025 (the highest since the report began in 2021).

It is worth remembering this performance is far from guaranteed to continue. Equally, if you’re not satisfied with an underperforming fund, you always have the option of selling it and buying an alternative.

What about active ETFs?

A relatively recent development is the emergence of so-called ‘active’ ETFs. These products invest in stocks, bonds and other asset classes selected by a fund manager but are traded on an exchange like all other ETFs.

Most active ETFs have ‘active’ in their name and using AJ Bell’s ETF screener you can filter using this word. There is a relatively modest universe to choose from for now, but the list is growing.

Combining active and passive

You can choose to invest actively and passively at the same time. You might, for example, want to get broad-based market exposure using an ETF but also invest in some active funds too, perhaps for more niche areas or specific goals like generating an income.

However, if you lack the time or inclination to do lots of research on individual funds, tracker funds offer straightforward exposure to the market.