Active investing is an investment term that is also referred to as active management. Active investing happens when a manager decides to make a goal of outperforming a benchmark index from the previous year. This is in direct contrast to the portfolio management strategy of passive management. In passive management, the manager will NOT try to outperform the previous benchmarks. In fact, he or she will try to find an index fund that will come as close as possible to replicating the previous returns.
Active investing is done by the manager seeking and exploiting market inefficiencies and will involve purchasing securities that are below value or it will short sell securities that are overvalued. The manager may choose to use one of these strategies or may decide to employ both at the same time. Active management may also create less risk than the benchmark index depending on what the goals are for the certain investment portfolio. Depending on the manager, the goal of the reduction of risk may be in addition to or in place of the goal of gaining a higher return.
Active investment managers will use several different factors and strategies to comprise their portfolios. These can include P/E ratios and PEG ratios, sector investments and purchasing stocks from companies that are currently not-in-favor or are seen as selling below their perceived value. Some other strategies include merger arbitrage, option writing, asset allocation and short positions.
While there is more risk with active investing, the return can be far greater.