An Introduction to Passive Investing: Building Wealth the Steady Way

Tired of exchanging hours for dollars? 

Do you want to earn money whilst you sleep?

There's a way your money can work for you instead of you just working for money (i.e. through a job where you get paid for the time you work).

Enter passive investing.

Passive investing is where you invest your money in a diversified portfolio of assets to track the performance of a market index such as the S&P 500 or HLAL (for halal¹-conscious investors). 

The idea is that passive investing runs on autopilot in the background, quietly growing your wealth without any active effort from you.

What exactly is Passive Investing?

Passive investing is an investment strategy that involves buying and holding a diversified portfolio of assets to track the performance of a market index or a specific asset class. For example, Wahed enables Muslims to invest in a diversified portfolio that tracks the performance of Shariah-compliant assets.

This strategy is built on the belief that over the long term markets tend to appreciate in value. Your job as an investor is to stay invested to benefit from this appreciation instead of trying to beat the market through frequent trading or stock picking. 

Passive investing is like hopping on a train that's slowly chugging uphill. The idea is you enjoy the ride and watch your money grow over time.

Key Principles of Passive Investing

There are three key principles of passive investing that you want to follow to increase your chances of success when investing passively:

1. Diversification

Diversification is a fundamental principle of passive investing. Diversification is when you spread your investments across various asset classes and sectors to avoid the dangers of over-concentration.

For example, if all of your investments are in property and the property market crashes, your entire portfolio will be in trouble. It would have been safer to spread your money across different areas.

This is why shariah-compliant passive investment providers such as Wahed give their clients access to global and emerging markets stocks, gold and sukuks.

2. Minimized Costs

Passive investors typically choose low-cost investment options, such as index funds or exchange-traded funds (ETFs). These funds aim to replicate the performance of a specific market index, and because they are not actively managed, they come with lower management fees and expenses.

As you’re not constantly trading in and out of investments, you save a lot of money on transaction costs. This is important because every dollar you spend on investing costs is a dollar less you have to grow over time. 

Over the long term, even seemingly small fees can substantially erode returns due to the power of compound returns.

3. Long-term Mindset

Passive investing is a long-term strategy where investors commit to holding their assets for years, if not decades. This approach aligns with the belief that, over time, the market tends to move upwards, even with short-term fluctuations.

The key idea is that you want to stay invested in the market instead of trying to time the market which could lead you to miss out on the best periods of growth. The data backs this up as well as you can see from the below graphic.

If you kept $10,000 invested for the full 20 years, your investment would be worth $64,844, a return of 648%. If you missed the ten best days (the days with the highest return), your return after 20 years would be $29,708, a return of 297%. So the impact of missing out on those 10 days is approximately $35,000! 

The message is clear… stay invested.

Benefits of Passive Investing

A. Lower Costs

One of the primary advantages of passive investing is its cost-effectiveness. Since these strategies involve minimal trading and management, fees and expenses are substantially lower than active strategies. This is better for the investors as it means more of their money goes towards investing rather than the cost of servicing the investments.

B. Predictable Performance 

Passive investments aim to replicate the performance of a specific index or asset class. This means that investors can reasonably predict how their investments will perform over time, as they closely mirror the market's overall movements.

Many passive strategies have demonstrated consistent and competitive performance over the long term. For example, the S&P 500 index, a popular benchmark for U.S. large-cap stocks, has historically shown steady growth.

C. Peace of Mind

Passive investing is less stressful and time-consuming compared to active trading. There is no need for constant monitoring or research, making it an excellent choice for individuals with busy lives or those who prefer a hands-off approach to investing.

Key Considerations

While passive investing has numerous advantages, it's not without its considerations and potential drawbacks:

• Market Risk: Passive investors are exposed to market fluctuations, and they must be prepared for the occasional bear market or downturn. A long-term perspective is crucial to weather such storms.
• Lack of Flexibility: Passive investors have limited control over their investments because they are committed to mirroring a specific index. They can't make quick adjustments to capitalise on emerging trends or opportunities. 
  However, passive investing advocates would argue that this is the point of passive investing anyhow. The idea is to pick a long-term strategy and stick with it instead of trying to catch the next big thing.‍
• Limits your growth as an investor: When you are actively engaged in researching companies, evaluating financials, tracking markets, and deciding when to buy and sell stocks yourself, you build critical knowledge about investing. 
  As a counterpoint, the rationale behind passive investing is often either 1) recognising you don’t have the time or interest to effectively learn how to research and analyse stocks in-depth or 2) acknowledging that developing stock-picking skills that reliably beat the market is very difficult, even for professionals.

How Can Muslims Invest Passively?

You may be thinking that this sounds great but how can you make sure that this is all Shariah-compliant?

All you need to do is make sure that you invest in asset classes that are shariah-compliant only and avoid haram elements like riba (interest). 

For passive investing, diversification is very important so you want to ensure that you invest in a diversified Shariah-compliant fund that only invests in a basket of Shariah-compliant companies and assets. This means avoiding businesses that engage in areas like gambling, adult entertainment, tobacco, and others which are obviously impermissible. 

So, How Can You Get Started?

This is where we come in. 

Wahed allows Muslims to invest their money in a diversified, low-cost and most importantly shariah-compliant way. We do this by investing your money into different investments that are matched to you, and that you feel comfortable with. Just choose your desired risk level and we’ll handle the rest.

All our investments are signed off by our Shari’ah board to ensure that all returns made are halal. That’s just one half of the equation. The other half is making sure your investments are invested in a way that actually grows your wealth and helps you to achieve the things you want in life.

Wahed has already helped 300,000 Muslims across the world to grow their wealth in a way that is in line with their faith and values. Check out the performance of our portfolios and the historical returns we have generated for our clients here. 

To start your journey to halal investing and make your money work for you, sign up here.

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_{1. The term 'Halal' denotes that it is permitted and follows Islamic law}