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Index funds vs. actively managed

By Jennie L. Phipps ·
Monday, January 14, 2013
Posted: 3 pm ET

When you consider investments for your retirement accounts, you have many funds to choose from that represent different parts of the market. When does it make sense to pick an actively managed fund, and when will a passive index fund suffice?

Paul Jacobs, chief investment officer of the Atlanta division of Palisades Hudson Financial Group, a wealth-management firm, offers these tips.

Buy a large-company stock index fund. Jacobs recommends investing in a Standard & Poor's 500 index fund for U.S. large-cap exposure. He says there's little point in paying someone to actively manage U.S. large-company stocks. "Indexing is perfect for large-company stocks traded in highly efficient markets in the U.S., Europe and Japan."

Choose both an actively managed fund and an index fund for small-cap stocks. Jacobs says this approach gives an investor more flexibility to maximize profits. He says the best active managers provide similar returns as an index fund over the long term, but some years they do better, and some years they do worse. By maintaining both an index and an actively managed fund, an investor can buy investments that have underperformed and sell investments that have outperformed, maximizing the buy low, sell high opportunities, he says.

Use actively managed funds for domestic and international real estate investment trust allocations and for natural-resources stocks. These investments need more attention than index funds provide.

Choose actively managed funds for Latin American and Pacific-region emerging-markets funds. "Emerging markets have less transparency and disclosure, and you need a skilled manager who watches each company in the fund like a hawk," Jacobs says.

Retirement planning is never simple, but Jacobs' analysis makes some basic decision-making easier.

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