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Active vs. Index Not Always an Either/Or Choice

Index strategies are growing in popularity as an alternative to active plan management, says BlackRock’s Chip Castille — but investors who think of index vs. active as an either/or decision are making a false choice.

In an article posted in NAPA Net’s Participant Outcomes library, Castille analyzes the benefits and trade-offs of both index strategies and alpha management. Indexing, he writes, has long been popular with large- and mega-sized DC plans, but is growing among smaller plans because indices offer lower fees, despite also offering a lower range of outcomes. In addition, index plans are a natural response to the growing regulatory emphasis on disclosure and transparency; it is easier, he writes, for plan sponsors to pick funds that have standardized, detailed disclosure processes.

On the other hand, he notes, active management is more expensive, but provides the opportunity that the active investor will be able to outperform market returns, or to shape distributions.

While the conventional wisdom for smaller plans is to choose either an active or indexed plan, Castille says there is room for both. He writes that a multi-tiered retirement plans can encompass the best of both worlds, by mixing QDIAs (like TDFs or an allocation fund that can be either actively or passively managed) with index funds and specialized exposures.

Mixing both active management and indexing is a “potentially attractive way to go,” he asserts, and says that diversified management allows plan sponsors to choose investors who specialize in certain kinds of investments, while retaining a safety net that will perform in line with long-term market trends.

“It gives you the choice of how to spend your risk capital and where to seek your alpha opportunities,” Castille writes of combining both strategies. “Within the large cap asset class, for example, you can take on active risk by selecting managers within certain style boxes, such as growth, value and so on, add index exposure, and reoptimize the portfolio to potentially achieve greater returns for the same level of risk.”

The Participant Outcomes library is based on content published in the June special issue of NAPA Net the Magazine. It features industry thought leaders including Sheri Fitts, PAi’s Michael Kiley, MFS Investments’ Ryan Mullen, Fiduciary Benchmarks’ Tom Kmak, Rocco DiBruno, Retirement Resources’ Jim Phillips and Patrick McGinn, Tom McKenna and Christopher Leone of Healthview Services, Richard Davies of AB Institutional Investments and execs from Newberger Nerman, American Funds, Pentegra and Transamerica. You can browse content from the library in the “Focus: Participant Outcomes” section, in the Industry Intel tab.

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