The Hidden Gem of Finance: Exploring the Rewards of a Career in Passive Investing

As Vikas & Rashmi sat to have their daily chai near the BSE building in Mumbai, they couldn't get the thought out of their head of building a robust & sound career in finance. "What's going on in your head?".... asked Rashmi, who saw Vikas staring at the 29 storied Phiroze Jeejeebhoy Towers with hopes & charm in his eyes, "I'm just thinking about my future.... I recently failed the final round interview for an Investment Bank" said Vikas with heaviness in his voice.

Rashmi quickly understood her friend's aspirations, "Did you try the passive investment industry though?" asked Rashmi, to which Vikas gave her a confused look. "Passive Industry?....what's that now?.... ohh....you mean the Index funds & ETFs one? Why will I build a career in that boring stuff, nobody cares about them either way".

That's when Rashmi knew that she needed to guide her confused friend to a hidden gem in the field of finance. So, she explained to him about the passive industry & the hidden opportunity lurking in there.

Passive Investing in India

There's this great tale called the "Acres of Diamonds" in which the moral is to look for an opportunity where you stand & not far out in the distance. Investment Banking, Financial Modelling, Risk Management, M&A, all these job profiles get great attention & crowd from our young graduates, but there's one industry that is growing rapidly yet nobody knows about it.

I'm talking about the passive investment industry; in this article I will take you through the following:

1. What is passive investing
2. How it is different from active form of investing
3. How & why to make a career in it
4. And the global trends around it!

What is Passive Investing

The main objective of any fund manager is to beat the broader market index, that is the whole process all about! Beating an Index is the main goal of every Investor/trader in the market!

Now, to beat the market even by a small margin, most people take the help of a fund manager, who works day & night to beat the market & in return charges a small fee, called "Expense Ratio", this entire process of deploying various strategies to beat the market is called "Active Investing".

Now, passive investing is the exact opposite of this, passive investing aims to perform in line with the market. It does not involve active stock picking & portfolio construction from scratch. All it does is mirror a particular index.

Passive Investing aims to follow the returns of a broader market index which it replicates. Let's say if an Index fund is replicating "Nifty 50", then the returns for that index will be in line with that index, the fund cannot & does not intend to outperform any index in any manner, all they do is follow an index & sit quietly.

Now, one may ask, isn't it boring? Yes, it is boring & right investment management is boring only. If you think that investments ought to be fireworks & exciting, then you don't really understand the stock market or personal finance.

Now, let's dive deeper into passive investing & later we will look at how to build a career in it.

Passive Investing products

Index Funds

Let's look at the first product when it comes to passive investing, "Index Funds", as the name suggests, an index fund copies a particular index. It does not create its own portfolio & does not intend to beat any index. All it does is move in line with the market so that you as an investor get the same returns as the index performs.

The benefit of this approach lies in the fact that it does not include any human judgment & the market timing factor also gets excluded. The recent launch of various passive investment products by Indian AMCs is testimony to the growing popularity of Index funds.

Investing in index funds will give you the same returns as the index it follows, there can be some tracking errors on part of the fund house, but the overall return expectation is already in place with the index performance. The benefits of Index funds are as follows

1. Low fees: Usually an active manager charges 2% fees, but index funds usually charge less than 1%
2. Comfort: You as an Investor aren't worried about mistakes by your manager or underperforming
3. No human intervention: You are safe from human misjudgment & bias
4. Invests in survivors: Every few years many companies exit various indexes, the index funds will again replicate the index & you will have survivors in your portfolio
5. Core Investment: Index funds can act as a core investment product for many people, as it is more suitable for their risk & return expectations
6. Buy & Hold: Investing in index funds give you a default buy & hold approach to investment, which is a good thing

The role of a fund manager is to just replicate the index & not to beat it. Now, why does this approach work best for most of us? It's because most mutual fund managers can't beat an index over a period of 5-10 years & even if they beat an index once or twice, the fees they charge aren't worth that much.

So, the lesson for any long-term investor is to be humble enough to not expect any fireworks in his/her portfolio & also not to pick the next hot mutual fund. The effort is not worth the time.

Exchange Traded Funds (ETFs)

The old classic Bollywood superhit movie "Sholay" depicted two brother like friends "Jai & Veeru" who were willing to die for each other, where one was found the other was also there. The Index funds & ETFs are just like "Jai & Veeru" of the passive investing industry. Both are the same yet different.

ETFs stand for Exchange Traded Funds, as the name suggests, these funds are traded on a recognized stock exchange like BSE & NSE. They both are passively managed funds that replicates a broader market index instead of trying to outperform it.

Then how are ETFs different from Index Funds? The main difference comes from the fact that ETFs are traded on exchange & can be traded throughout the day, as they can be bought & sold throughout the day, and their prices fluctuate during trading hours. Index funds prices do not change during the day & they are not listed on an exchange. Their prices are typically determined at the end of the trading day.

Another difference is their fees. ETFs tend to have lower expense ratios than index funds, which can make them more cost-effective for investors. However, ETFs may also incur trading fees or commissions, which can offset some of these cost savings.

They both have a place in a long-term investor's portfolio, the goal is to have the right mix of both depending upon the risk & return profile of the investor.

Careers in Passive Investment Industry

Now, let's talk about how you can make a career in this industry, but before we begin let's look at the trends around this industry:

1. Globally the total assets under management are worth around $100 trillion, out of which only 8% are in passive form & this number is set to increase as more & more investor realize the truth
2. In India, the passive products are around 9% of the total assets under management
3. This number is set to grow to 25% of AUM by 2025

Key Growth Drivers of Passive Investment Industry

1. Innovation in more commodity-based ETFs other than gold ETFs
2. Launch of new set of bond ETFs
3. Government Bonds/Equity ETFs
4. Smart beta ETFs based on factors like value/growth/core etc.

Hiring Potential in India

Currently India has 44 AMCs & about 16 have passive investment products, the growth of hiring potential will depend on the new players & growth of the existing players. Over the next years, we can see the growth of:

1. Fund Managers
2. Product Development for AMCs
3. Capital Markets
4. Sales & support staff for the AMCs

The growth in the mutual fund industry & the capital market will play a crucial role in this industry, the growing awareness about the role of equity as an investment in one's life will be a key factor in the growth of passive industry.

Competencies required

Anly job requires some core competencies to enter into it & here are the skills required to jump into it:

1. Industry Knowledge: If you want to make a career here, then you better be aware about the ins & outs of the industry
2. Soft skills: The candidate should be highly meticulous & must have an eye for detail, it's more about artist vs scientist here.
3. Educational: A CFA, CA, MBA is preferable for a successful career in any finance domain

Responsibilities as a Fund Manager

Every finance enthusiast dream of becoming a fund manager someday, so here are the responsibilities you will have as a passive investment manager:

1. Minimize the tracking error: A passive fund manager wants to track the index as closely as possible
2. Rebalancing: A fund manager better be able to rebalance the portfolio as few companies exit an index
3. Cost Management: Keeping the costs low in managing the index fund
4. Reporting & communication: The fund manager is also responsible for reporting on the performance of the fund to various stakeholders.
5. Others: Market scoping & gaping, product designing, product analytics

The bottom line for any industry to grow comes down to the growth of its end market. And the growth of the Indian Capital markets will play a huge role in this underrated industry.

In closing, I'd just advise my readers to look for an opportunity where they currently are & not in a distance, I hope you loved reading this article!

For more such insightful content follow me Piyush Kumar & SharksquareCapital

And I'll see you next Saturday on Wisdom of Wealth

Bye!