Passive investment strategies have long been perceived as a safer bet, particularly during periods of market downturns. The expectation has been that these funds, particularly low-volatility ones, would provide investors with a cushion against sharp declines. However, recent market corrections have painted a different picture, with passive funds failing to shield investors as effectively as anticipated.
The NSE benchmark Nifty 50 has witnessed a sustained downturn since reaching an all-time high on September 27, 2024. Investors seeking refuge in low-volatility funds were in for a surprise, as these funds struggled to contain losses.
For instance, from the market peak in September 2024 till February 28, 2025, the Nifty Alpha Low-Volatility 30 Index declined by 24.3%, whereas the Nifty 50 Index fell by 15.6% during the same period. This is contrary to the expectation that a combination of alpha generation and low volatility would provide better downside protection in turbulent times.
Further, other low-volatility indices such as the Nifty Quality Low-Volatility 30 Index and Nifty Alpha Quality Low-Volatility 30 Index also failed to outperform the broader market indices, undermining their premise of offering superior risk-adjusted returns.
Unlike traditional index funds that follow a market-cap-weighted approach (such as the Nifty 50), smart beta funds blend passive and active strategies by using alternative weighting techniques to improve returns, lower risk, or enhance diversification.
However, during the recent correction, many smart beta funds underperformed their market-cap-weighted counterparts. The reason could lie in their construction—these indices rely on back-tested data, meaning they are designed based on historical performance. But past volatility trends do not always translate into future performance, which may explain why their expected resilience did not materialise in real-time market stress.
Despite these setbacks, passive investing continues to gain traction, with assets under management (AUM) of index funds and ETFs touching ₹10.91 lakh crore as of January 2025.
While passive strategies faltered, active funds demonstrated their ability to outperform in certain market segments.
During the recent correction, the active small-cap fund category managed to surpass the Nifty Smallcap 250 Index in terms of average returns. Similarly, some quality-based index funds failed to beat the average returns of actively managed small-cap funds.
In the broader markets, certain flexi-cap and multi-cap funds outperformed the Nifty 500 Index, reinforcing the argument that active management still holds merit in specific market conditions.
That said, long-term performance data suggests that active funds often struggle to consistently beat their benchmarks. According to the SPIVA Global Mid-Year 2024 Scorecard by S&P Dow Jones Indices, 77% of Indian active funds across all categories underperformed their respective benchmarks over a six-month period ending June 2024. This trend has been consistent over the years.
The year 2024 saw a surge in the launch of passive investment products, with more than 50% of new funds introduced as index funds or ETFs.
A range of innovative passive products have emerged, including:
However, the sheer volume of new passive funds entering the market has sparked criticism from industry experts, who argue that many of these funds offer little differentiation and may not necessarily enhance investor outcomes.
The debate between active and passive investing remains ongoing, and the recent correction has reinforced that each strategy has its strengths and weaknesses.
Reports suggest that while the top-performing active funds have managed to outperform passive strategies over the long term, the worst-performing active funds within a category have lagged behind passive alternatives. This underscores the importance of fund selection, as choosing the wrong active fund can lead to disappointing returns.
Investors must weigh the risks and benefits of both active and passive strategies, considering their investment horizon, risk appetite, and fund selection criteria. Market cycles will continue to test these strategies, but the recent downturn has shown that passive funds may not always provide the downside protection that investors expect.
Disclaimer: This blog has been written exclusively for educational purposes. The securities mentioned are only examples and not recommendations. This does not constitute a personal recommendation/investment advice. It does not aim to influence any individual or entity to make investment decisions. Recipients should conduct their own research and assessments to form an independent opinion about investment decisions.
Mutual Fund investments in the securities market are subject to market risks, read all the related documents carefully before investing.
Published on: Mar 4, 2025, 3:10 PM IST
Team Angel One
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