Speaker 1 00:00:08 What's up, everyone. Welcome to the finance for physicians podcast. I'm your host, Daniel Raimi. Join me as we dig into what it looks like for physicians to begin using their finances as a tool to live better lives. You can learn more about our
[email protected] let's. Jump into today's episode. What's up guys. I'm gonna make this one quick. I wanted to talk about a little bit of investing today and, uh, passive, passive investing. I think that terms thrown out a lot and I wanted to clarify a little bit more about what that is and talk about some of the different flavors of it and how it might affect you and ultimately give you some, hopefully give you some, a little bit more background on it so that you can use that knowledge to your benefit. Okay. So let's jump in. So passive investing, what is passive investing?
Speaker 1 00:00:59 Let's start there. Okay. So passive investing. When I say passive investing the term passive investing basically means we're going to be attempting to own the entire market instead of trying to pick the winners and avoid the losers. So the stock market. So let, let's say there's 10,000 stocks in America, or even let's say 10,000 in the world. So let's say 10,000 stocks you could buy. If you wanted to, that are publicly traded, which means any good. Anybody could buy them. So let's say there's 10,000 stocks out there. Um, you could buy any one of them, you know, relatively easily. And so with passive investing, the idea is that, um, you're gonna, you're gonna just own them all. And in an attempt to diversify, and the idea would be instead of trying to pick the winners and avoid the losers, or in other words, beat the market.
Speaker 1 00:02:09 So passive investing, basically the goal is to have return gains or returns on your investments that are reflective of the market minus expenses. So basically the goal is to own the entire market with as minimal expenses as possible. And so you might be asking, well, does that make, is that better or worse or, you know, what's, why would you want to own the entire market? Um, well, first of all, active investing, so active investing is the opposite. I'll talk a little bit about that before we go any further. So active investing in that strategy, I kind of hinted on earlier, you're attempting to find the winners by them and avoid the losers or sell before they become losers. So you're attempting to beat the market. So same thing, you got 10,000 stocks, you're trying to pick whatever number of them you feel like are going to perform better and, uh, avoid the ones that are not.
Speaker 1 00:03:09 And ultimately that generates returns that are better than the market. So I think the big thing to look at, or the thing that I look at most when starting to explore the two different approach approaches to owning investments is how have they compared. And so there's all kinds of academic research on active investing versus passive investing. You can Google, there's a million different, uh, research articles, studies, graphs, charts, all kinds of stuff on, you know, how do those two different strategies compare? So if you're curious about which that's, that's a really good question. Like how does it, how is it, why should I be passive? How does it compare to active? But if you're interested in that dig into, there's all kinds of research, um, dig into Googling and, you know, read up on kind of, I think it'd be good to scan through those, those sorts of things.
Speaker 1 00:04:08 If you were interested in it. Now, if you go down that path, I think it's important to look at conflicts of interest because our industry is loaded up with conflicts of interests. So who wrote the article or research project and, you know, where's the money coming from? Are there conflicts of interests? And so a lot of times the big investment, uh, wall street kind of companies do their own research or sponsor academic research. So naturally just like in medical research, that's going to cause a big conflict and can often skew the results in favor of one or the other. So historically wall street has been very heavy, very financially, uh, interested in active investing because I mean, it makes sense like, uh, wall street makes money or, uh, wall street. Um, basically they're the ones that get paid to conduct the active strategy. And so they're selling this idea that their expertise and I'm talking about wall street in general, there's all kinds of exceptions, but like in general wall street and financial services sell this idea that they are the expert that can help you select the winners and avoid the losers and beat the market.
Speaker 1 00:05:39 And they charge a fee for that, of course. Um, but they, you know, are gonna lean heavily towards the fee is well worth it because of the performance that they provide because of that. Keep them keep in mind. When you look at research and academic studies, anytime there's big financial services involved, that's kind of going to tend to skew it towards active. So I would always, I would lean towards trying to find more objective research, pure academic, and you'll, you'll tend to get a little bit more objective results. Um, but what's interesting about the research is, I mean, if you look at enough research like this, and maybe you just take my word for it, but like the research is pretty, I mean, it's very similar conclusion wise. I've seen a million of them and it's like, if you look at like short periods of time, like a year, you know, or a couple of years, or, you know, under five-year periods of time, it's kind of like all over the place.
Speaker 1 00:06:44 Like sometimes passive is better. Sometimes active is better, even though it costs more money. So net of expenses active is better sometimes than passive in the short periods of time, but it's, it's just kind of all over the place, but anytime you look longer periods of time or the more longer time horizon, you look at it. So maybe study is looking at 10 year time horizon or 15 or even longer. That's when we start to see it's you more towards, uh, passive strategies, work, passive strategy tends to work better or, you know, have yield better results. Or I I'd say like, it's, it's more of like a coin flip probably that's I wouldn't say passive tends to do better, but I would say it's a coin flip with probably a heavy lean towards passive when we start to look at those long periods of time.
Speaker 1 00:07:38 So, so basically what I'm saying is like, the research tends to say, you know, if we look at a long enough period of time, which we should be, cause you're investing for a long period of time, but if we look at a long enough period of time and we compare active to passive the research objective research research tends to conclude that passive inactive or pretty equal, but it's a little bit better to go passive some of, most of the time. So the way I'm describing it, doesn't sound super convincing. I'm doing an on purpose, but it's not my, my point is that there it's like a little bit better to be passive, uh, historically based on the research. That's what we typically see. But my takeaway from that is, I mean, this is kind of just my, uh, my thought process. Uh, even if it was like completely equal, like even if it wasn't a lean towards passive, um, and it was completely equal.
Speaker 1 00:08:39 I would prefer passive all day long because it's simpler and there's less expenses involved and less people involved and less room for error. And so to me, um, the toss up goes to passive. It's just a simpler approach. It's more diversified, there's less expenses involved. And I think in order for passive to make sense to me, at least, or for funds that are for, you know, when we're working with clients, like I'm not going to advise active, uh, going that direction unless it's very convincing. So to me, the toss up goes to passive. And I think in order to, you know, buy into the active approach, it needs to be pretty compelling that it is a value add above and beyond passive for long periods of time. And I have yet to see solid evidence that says that if you have good stuff you've seen or read about in the past, I'd love, I'm always, you know, I've tried to keep an open mind about this stuff.
Speaker 1 00:09:44 I'm always read about this stuff. And then, you know, like I'd love to see any new things. And I wouldn't be surprised if it kind of goes liens one direction or the other, I have not seen very convincing research that would indicate active is a better approach. And so therefore that's, that's why we are big believers in the passive approach. And I think when in doubt, you should be too, unless you have convincing evidence otherwise. So if passive, um, if we're looking at executing on a passive approach, so the, I think the next question that comes up is how do I make sure I'm passively investing and so passive investments. Um, so let's talk about the basic foundation. Uh, most of you probably have, you know, 401ks or four, three B's or work retirement plans, work retirement plans. If you look, they they're gonna offer like a fund lineup and a, you know, a list of funds that, that they're, um, offering to participants.
Speaker 1 00:10:51 And you can look at that fun lineup. And typically you can tell whether a fund is active or passive. I think the best indicator, if I had to give you like one thing to look at, well, I don't know if I can give you one good thing. I'll give you a few things. So, uh, the, the title of the fund is sometimes important. So you're looking for the word like index. Um, an index fund is typically like going to be using a passive strategy, or it might say passive, but that's less likely. So index funds are typically passive. That would be the word to look for in the titling of the fund and then expense ratios. So if you're looking at the expense ratios, the passive funds are always dramatically less expensive. And this current world we're in now, they've gotten to be more similar over time, but there's still passive funds are still considerably, less expensive than in their act active alternatives.
Speaker 1 00:11:50 So if your 401k has, let's say 20 fund options and you know, you're comparing them all, what it a lot of times will look like is there's, you know, six or seven funds that are like very low costs, like 0.1% or less, something like that. So let's say there's five funds that are 0.1%. So one 10th of a percent. And then let's say maybe the rest of the 15 or funds are maybe 0.5 or higher percent. So that's five times more expensive, which I would say is a huge amount difference. So when you're seeing something like that, that's a pretty good indicator that the five funds that are 0.1, 0% are the passive ones. And the 0.5% ones are the active ones. And so the other thing about work retirement plans, a lot of times they include like, they call them target retirement date funds.
Speaker 1 00:12:49 They're like automatically investing based on timelines till retirement. And so some target retirement date funds are active and some are passive. That's probably a little more difficult to figure out if you're looking at a 401k, I would probably say to get the title of the fund itself, like the formal name of the fund in your plan, and then Google it, and then try to look for some sort of description of what the funds strategy is and look for the word passive, and that's going to be a good indicator. And so when we're talking about retirement plans to work, that's kind of the, a good way to start looking at what, what options you have on the table. Now, if you're talking about investing in retirement plans on your own like IRAs or Roth IRAs, or just investment accounts, those are, you know, much more broad as far as options are concerned.
Speaker 1 00:13:45 And, you know, you can pretty much invest in any sort of thing with those. So there's unlimited options almost. Um, but you can, you can kind of use a general, uh, similar rule, you know, lower expenses tend to mean more passive. And then when they use the word index in the funds, that's a good sign that they're passive. Now, if you're working with an advisor already, well, if you're working with us, it's passive in there. You don't have to, I'll just tell you now, now if you're working with another advisor, you know, you could always ask them, um, if you're not comfortable asking them, you can kind of do a little bit of Googling on the fund and typically, um, you'll see if it's on that lower end. Expense-wise, that's a good sign. It's passive versus higher expenses are more indicative of active approach. Now you can own, you can own a passive fund through a mutual fund or an ETF.
Speaker 1 00:14:45 Um, those are the two most common ways to own them. So going back to the original point, I was talking about when you want to invest passively, the idea is that you own all 10,000 stocks in the example I was giving. So you own all 10,000, but like, realistically, you can't go out and buy, or I guess you could, but like, realistically, it'd be too much of a pain and cost to owning just you could go buy the 10,000 stocks, but that would be a train wreck. So nobody is going to self manage a 10,000 stocks like that. So that's why these funds, uh, work so well is like you can get an ETF or a mutual fund, um, which are very similar for today's conversation for the sake of today. They're very similar, uh, vehicles that are like a basket of those stocks. So you can buy, you can buy theoretically, you buy a like total world index fund, and it's like owns all 10,000 of those stocks within that fund.
Speaker 1 00:15:49 So you buy the fund, which buys the 10,000 stocks there. You have it, you have ownership of all the 10,000 stocks. So when you own those indexes, a lot of people don't realize it, but you own, you know, a ton of different stocks. So I've talked to many people that are like, yeah, I'm buying GameStop or, you know, whatever, uh, stock as an example, but odds are, they already own it. It's just in their index funds that they have, and maybe you haven't peel back the layers on it. So that is, um, you know, a little bit more about how you invest in a passive vehicle is, you know, buy an ETF or buy a mutual fund. Typically your work retirement plan is going to have mutual funds. There's a newer, um, I wanted to hit on this briefly. There's a newer strategy. That is it already exists, but it's, um, it's still a little early in the game on it.
Speaker 1 00:16:42 Uh, but I think in the next few years, it'll become pretty, a lot more mainstream, um, that, uh, we in fact were looking into this as an option for people that work with us and it's called direct indexing. So with direct indexing, it's basically, uh, like a solution that allows you to accomplish the same task is what I was just describing, but without having the EDF slash mutual fund vehicle. So it's essentially cutting out the middleman. Um, and a lot of times it's run by technology. So, you know, it allows you, you know, to buy the 10,000 stocks yourself, so have direct ownership of the 10,000 stocks. And then the technology kind of helps you manage all the 10,000 stocks so that it doesn't become a train wreck and transaction costs for buying and selling. Those sorts of vehicles or investments has gone to basically zero.
Speaker 1 00:17:43 And so that's, you know, lesser, or there are some transaction costs that are hidden, but they're very, very low. Um, so that has become a lesser issue. And so with this direct indexing approach, essentially the technology solution allows you to own these stocks individually. So why that is so much of a big deal. I think the applications for where this can be helpful, mainly the, the big ones are taxes and, uh, socially responsible investing. And so for taxes, when you want to tax loss harvest. So let's say you have a taxable investment account and you want to take tax losses intentionally to try to help your tax taxation. Then typically you're forced to only, you know, you only have the mutual funds or ETFs that you have to sell. And so that's kind of like a limited option of things you can sell for a loss to, to help you on your taxes.
Speaker 1 00:18:48 But with direct indexing, you can pick and choose between all the stocks individually. And it allows you to basically cherry pick the best tax, the, the best tax impact choices to sell and buy right back. So I'm not going to get it. And I'm trying to stay out of the weeds of this one because that's kind of a big topic in itself, but the gist of it is direct indexing allows for a unique tax benefits for people with taxable investments, uh, that you really can't replicate in a normal mutual funder ETF. And so this that's a big deal for people with, uh, like I said, investments that are not tax sheltered or taxable investments, brokerage accounts that are especially the bigger they get. Like if you have over 500,000, like that's, uh, you know, C's, and you're in a top tax bracket, that's where it starts to become a big deal that, you know, direct indexing, you know, would be something to seriously consider.
Speaker 1 00:19:52 Um, and then on top of that, if you're, especially if you're charitably inclined, like direct indexing allows you to basically cherry pick the securities that you want to give. So it's, it's very beneficial to give charitably through your, uh, taxable investments. We've covered that in prior episodes about charitable giving, if you want to learn more about that, but, um, the gist is that's, that's always been there. There's a huge benefit to giving your investments to a charity instead of just giving cash. Now with direct indexing, it's almost like it's on steroids. You can give the specific stock to the charity, um, and pick the one that has the highest growth that has not, you know, essentially avoid being taxed on that, uh, specific security. So that's a huge tax benefit for people that give charitably with direct indexing. So those are the, the big, there's a, there's several other, um, benefits kind of sub benefits with, uh, within that.
Speaker 1 00:21:00 Those are the big ones on the tax side. And then the socially responsible investing side. I mentioned, that's becoming, uh, well, I think this has been a big deal, but I think it's becoming a bigger deal, especially with this type of solution coming out, um, basically with the direct indexing approach they can build in like kind of like levers, you can pull as an individual or through your advisor that allow you to screen out companies based on different, uh, value or social preferences. So let's say you don't want to invest in companies in the tobacco industry or alcohol or companies that are in like adult entertainment or some, you know, let's say those are the screens. So you can flip those screens, you know, essentially, and filter out those, all those companies and like never own them. And so basically you own the 10,000 socks and then the screens, you know, filter out the, say they're 200 stocks that kind of fit those categories.
Speaker 1 00:22:08 You don't want any part of, and then just filters them out. And so you don't own those. So that's a pretty appealing strategy. Um, the part that direct indexing is huge for is it's, um, it's been difficult to personalize it with, with this kind of investing. It's very personal. Like everybody I talked to about it has a different, uh, view or spin on how they see that being appealing. And so this allows you to basically personalize it to each individual preferences, uh, and can be a lot of people have a lot of interest in that. Not everybody does, but you know, that's, uh, that's, uh, kind of the second big benefit of it. So direct indexing, that's a way to go down this passive investing route, um, with some additional, really big potential tax benefits and, um, help you, if you wanted to go down that route of socially responsible investing.
Speaker 1 00:23:06 Okay. So that's, um, that's passive investing. Let me know if you want to dig into any of these topics. I know we get, we got into some, um, stuff that, uh, you know, like tax loss, harvesting, that's, that's a big topic in itself. So, you know, if you ever wanted to dig into those sorts of topics, w we'll get around to covering them in future episodes, but definitely hit me up. If you want to hear about that sooner, I hope you enjoy today's episode and we'll look forward to talking next time as always, thank you so much for joining us today. If you found this valuable, please give us a review on iTunes and share with a friend. Also check out our website at finance, for physicians.co for all of additional content. See you. Next time. Finance for positions is not an investment tax legal or financial advisor. All content included in this podcast is for informational purposes only, and should not be considered financial tax or legal advice. Material presented is believed to be from reliable sources and no representations are made by finance for physicians as to another party's informational accuracy or completeness, all information or ideas provided should be discussed in detail with an advisor accountant or legal counsel prior to implementation. You don't have an advisor or would like a second opinion. Feel free to check out our website for recommended advisors.
