Active

Lesson

Active portfolio management is an investment strategy that involves actively buying and selling securities to outperform a specific benchmark or index. This approach requires ongoing research, market analysis, and decision-making by the portfolio manager, who seeks to capitalize on market inefficiencies and exploit short-term price fluctuations.

Practice Question #1

Which of the following best describes active portfolio management?

A) Replicating the performance of a specific market index

B) Attempting to outperform a specific benchmark or index

C) Holding a diversified portfolio of securities

D) Predicting future market movements

Select an option above to see an explanation here.

A) Replicating the performance of a specific market index is a passive management strategy. B) Active portfolio management involves attempting to outperform a specific benchmark or index by actively buying and selling securities. C) Holding a diversified portfolio of securities is a characteristic of passive management. D) Predicting future market movements is a market timing strategy, a type of active management but not the definition of active portfolio management.

Terms

Active management:: The process of actively buying and selling securities to outperform a specific benchmark or index.
Market inefficiencies:: Situations where the market price of a security does not accurately reflect its true value, creating opportunities for active managers to profit.
Alpha:: A measure of the excess return generated by an active manager relative to a benchmark index.

Practice Question #2

What is a primary goal of active portfolio management?

A) Minimizing risk

B) Generating alpha

C) Replicating the performance of a specific market index

D) Maintaining a constant asset allocation

Select an option above to see an explanation here.

A) Minimizing risk is a goal of all investment strategies but not the primary goal of active management. B) Generating alpha, or excess return relative to a benchmark index, is a primary goal of active portfolio management. C) Replicating the performance of a specific market index is a passive management strategy. D) Maintaining a constant asset allocation is not a primary goal of active management, which seeks to capitalize on market inefficiencies and exploit short-term price fluctuations.

Do Not Confuse With

Passive management:: An investment strategy that seeks to replicate the performance of a specific benchmark or index by holding a diversified portfolio of securities rather than actively buying and selling individual securities.

Practice Question #3

Which of the following is a key characteristic of active portfolio management?

A) Ongoing research and market analysis

B) Holding a diversified portfolio of securities

C) Replicating the performance of a specific market index

D) Avoiding short-term price fluctuations

Select an option above to see an explanation here.

A) Ongoing research and market analysis are key characteristics of active portfolio management, as they help inform the buy and sell decisions made by the portfolio manager. B) Holding a diversified portfolio of securities is a characteristic of passive management. C) Replicating the performance of a specific market index is a passive management strategy. D) Active portfolio management seeks to exploit short-term price fluctuations rather than avoiding them.

Historical Example

In the late 1990s, many active portfolio managers were able to generate significant excess returns by concentrating portfolios in technology stocks during the dot-com boom. However, when the bubble burst in 2000, many of these same managers experienced substantial losses as the market corrected and technology stocks declined.

Practice Question #4

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Example Series 65 Example Practice Question

Real-World Example

An active portfolio manager might notice that a company's stock price has declined significantly due to a temporary negative news event, such as a product recall. Believing that the market has overreacted and that the company's long-term prospects remain strong, the manager might decide to buy shares of the stock at the lower price, expecting the price to rebound once the market has absorbed the negative news.