Active Portfolio Management Explained: Strategies, Benefits & Risks

Introduction

The Indian mutual fund landscape has transformed rapidly in recent years. The industry’s AUM has risen from ?26.86 trillion in September 2020 to ?75.61 trillion in September 2025—almost a three-fold jump. With more investors entering the market and competition widening, the real differentiator today is the investment style a fund follows.

In this evolving environment, active portfolio management has gained significant attention. This approach focuses on beating a benchmark through research-driven decisions, quick responses to market shifts, and efficient risk control. As investors look for ways to enhance returns, understanding how active portfolio management works becomes essential.

This article explains the concept, strategies, advantages, limitations, and how it compares with passive investing.

 

What Is Active Portfolio Management?

An actively managed fund is overseen by a professional fund manager who aims to outperform a benchmark index. Active portfolio management involves analysing markets, selecting stocks, adjusting asset allocation, and making timely decisions to generate higher returns.

This investment style uses thorough research, market indicators, and sector trends. Because of the frequent buying and selling, it may involve higher expenses—but also offers potential for superior returns.

 

How Active Portfolio Management Works

Active management requires strong research capabilities, agility, and clear objectives. The process generally includes:

1. Setting Objectives

The fund manager defines investment goals, risk levels, and the investment horizon, often documented in an Investment Policy Statement.

2. Market Research

Extensive study of companies, valuations, economic trends, and industry performance helps identify opportunities and undervalued stocks.

3. Portfolio Construction

Based on analysis, securities are selected considering market conditions, diversification needs, and risk-to-reward dynamics.

4. Continuous Monitoring

The portfolio is regularly reviewed. Managers rebalance or adjust holdings to minimise risks or capture short-term market opportunities.

This structured approach forms the foundation of active portfolio management strategies, which include stock picking, sector rotation, tactical shifts, and timing decisions.

 

Advantages of Active Portfolio Management

Active portfolio management offers several strengths that make it appealing to investors seeking more control and higher return potential. One of the biggest advantages is the opportunity to generate superior returns, or “alpha.” Skilled fund managers closely study market trends, identify undervalued stocks, and act on opportunities that passive funds may overlook. Another key benefit is stronger risk management. During periods of volatility, managers can quickly shift the portfolio toward defensive sectors or more stable assets, helping protect investor capital.

Active management is also highly flexible and personalised. Managers can promptly respond to economic shifts, regulatory changes, or global events, adjusting the portfolio to stay aligned with the investor’s goals. Additionally, this approach gives investors access to a wide range of investment techniques, including in-depth research, technical analysis, and fundamental evaluation. These combined strengths enable fund managers to optimise returns while adapting to changing market conditions.

 

Drawbacks and Key Risks

While active portfolio management offers several advantages, it also comes with certain drawbacks that investors must consider. One of the most notable concerns is the higher cost involved. Continuous research, in-depth analysis, and frequent trading significantly increase management fees and overall expenses. Another major risk is the possibility of underperformance. Despite the expertise of fund managers, not all actively managed portfolios manage to beat their benchmark indices—especially after accounting for fees and market fluctuations.

Returns can also be inconsistent, as performance heavily depends on the manager’s skill, market timing, and decision-making abilities. Even a slight misjudgment can impact the overall outcome. Additionally, active funds tend to be less tax-efficient. Frequent buying and selling often lead to short-term capital gains, which are taxed at higher rates compared to long-term gains. These factors make it important for investors to carefully evaluate whether the benefits outweigh the risks before choosing an active strategy.

 

Active vs Passive: The Key Differences

Understanding active and passive portfolio management helps investors make informed choices.

Here’s a simple comparison:

 

Passive funds focus on long-term consistency, while active funds attempt to outperform—at a higher risk and cost. Both approaches serve different investor needs, which is why many choose a blend of passive investment management and active strategies.

 

Market Trends in 2025

Recent data shows a balanced shift between active and passive investing. In large-cap categories, about 62% of active equity funds lagged the S&P BSE 100, proving how difficult consistent outperformance has become. However, active managers still find opportunities in mid- and small-cap segments where market inefficiencies remain.

Passive funds continue to expand rapidly, with their share rising from 2% in 2015 to 16% in 2024, supported by SEBI’s 2024 regulatory changes and lower costs. Yet, volatility in early 2025 triggered a 57% jump in inflows into active equity funds, as investors sought managers who could navigate uncertainty and identify strong companies.

Overall, the trends point toward a hybrid investing landscape, where both approaches play complementary roles—passive funds for cost efficiency and stability, and active funds for selective value-driven opportunities.

 

Emerging Tools: Active ETFs & Hybrid Models

Active ETFs

These combine professional management with the liquidity of ETFs. They allow managers to take informed decisions while offering transparency and tax advantages.

Hybrid Strategies

Hybrid portfolios use both active equity funds and passive index funds. This approach helps reduce overall costs while still benefiting from active insights.

 

Conclusion

In a fast-moving market, active portfolio management can offer strong opportunities for higher returns—provided investors are comfortable with higher costs and the possibility of underperformance. While it requires expertise, discipline, and timely decisions, it can add significant value during periods of volatility.

However, choosing between active and passive depends on your risk appetite, investment horizon, and long-term goals. Many investors today use a balanced mix of both approaches to capture the strengths of each style.

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Frequently Asked Questions

1. What is active portfolio management?

It is an investment approach where fund managers actively select, buy, and sell securities to outperform a benchmark index.

 

2. How is active management different from passive investing?

Active aims to beat the market through research-driven decisions, while passive simply tracks an index with lower costs.

 

3. Why does active management cost more?

Research, analysis, and frequent trading increase the fund’s management expenses and brokerage charges.

 

4. Can active managers consistently beat the market?

Some skilled managers do, but many struggle after factoring fees and market unpredictability.

 

5. What is an active ETF?

An active ETF is professionally managed with the aim of outperforming an index, unlike passive ETFs that simply replicate it.

 

6. Is active management good for long-term investing?

Yes, but mainly for investors who can handle short-term volatility and higher fees for the chance of superior returns.

 

Disclaimer:  This blog is dedicated exclusively for educational purposes. Please note that the securities and investments mentioned here are provided for informative purposes only and should not be construed as recommendations. Kindly ensure thorough research prior to making any investment decisions. Participation in the securities market carries inherent risks, and it's important to carefully review all associated documents before committing to investments. Please be aware that the attainment of investment objectives is not guaranteed. It's important to note that the past performance of securities and instruments does not reliably predict future performance.