Active vs. Passive ETFs: What the Research Says

Active and passive ETFs are often framed as rivals, but research discussed here appears to point to a more useful insight: they are different tools designed for different objectives.

In general, passive ETFs are designed to deliver broad market exposure at relatively low cost. Active ETFs are designed to offer investors access to professional portfolio management and more flexible positioning within the same ETF structure.

Key Takeaways

1. Active and passive ETFs broadly share the same ETF structure but differ in how investment decisions are made and the objectives they are designed to achieve.
2. Passive ETFs can provide broad market exposure and lower costs, making them typically a common choice for long-term core portfolio allocations.
3. Active ETFs offer professional management, which can be viewed as having greater flexibility to pursue outperformance, income, risk management, or other investment goals.
4. The research discussed here generally doesn’t identify a clear winner. Findings suggest that active and passive ETFs tend to excel under different market conditions and investment goals.
5. Choosing between active and passive ETFs depends more on an investor’s investment objective than on finding a universally "better" approach.
6. Many investors combine passive ETFs for core exposure with active ETFs for targeted strategies, creating a portfolio that strives to balance cost and flexibility.
   
   

Why This Debate Misses the Point

Our view is that the active-versus-passive conversation often starts with the wrong question: which one is better? In practice, investors are usually better served by asking what they want a specific allocation to do, such as track the market, generate income, manage risk, or pursue a more targeted strategy.

That distinction matters because active and passive ETFs share many structural features, but differ in how investment decisions are made.

Whether an ETF is active or passive, investors typically select the structure for:

• Intraday trading on an exchange
• Transparent pricing tied to the fund’s underlying net asset value
• The potential for tax efficiency through the ETF creation and redemption process

In short, we think that the main difference is not the wrapper itself but how the portfolio inside it is managed.

What Passive ETFs Are Built to Do

Passive ETFs typically follow a rules-based process designed to track a benchmark, such as the S&P 500 or another market index. Their goal is to match the benchmark’s performance and risk profile as closely as possible, not to outperform it.

That structure gives passive ETFs what can be viewed as the following strengths:

• Lower average costs, because they don’t require the same level of ongoing research and trading as active strategies
• Clear and transparent market exposure, since holdings and methodology are tied to a benchmark
• Consistent participation in market returns, both during rallies and drawdowns

For many investors, the above reasons make passive ETFs a natural fit for core portfolio exposure. They can be appealing when the priority is broad diversification (insofar as benchmark indexes are broadly diversified), cost efficiency, and a straightforward benchmark-relative experience.

What Active ETFs Are Built to Do

Active ETFs use the same exchange-traded structure, but their portfolios are managed by investment professionals who make ongoing decisions about security selection, sector exposure, portfolio positioning, and other factors. Typically, rather than tracking an index, active ETFs are designed to pursue a defined investment objective, such as outperformance, capital appreciation, income generation, or risk management.

We think that this flexibility can be valuable in several situations:

• When an investor wants a strategy tailored to a specific outcome rather than broad market exposure
• When a manager believes market conditions justify adjusting holdings or portfolio weights
• When the targeted opportunity set is not well represented by a standard index

With that flexibility comes a different balance of costs, risks, and opportunities. Active ETFs typically have higher fees than passive ETFs, reflecting the added oversight and investment decisions made by portfolio managers. Fund performance, in turn, tends to depend more on the manager’s expertise and execution over time.

What the Research Says

Fees Still Matter

We believe that one of the clearest findings in investment research is that costs can meaningfully affect long-term returns. Passive ETFs generally have lower expense ratios because index tracking is rules-based and less resource-intensive. Active ETFs typically charge more to support research and portfolio management.

(That said, competition and the growth of the ETF market have driven active ETF fees lower in recent years, narrowing the cost gap somewhat.) According to Morningstar, at the close of 2025, the average annual fee remained lower for passive ETFs—about 0.12%—while active ETFs averaged roughly 0.39% across stock and bond strategies.

This suggests investors should be deliberate about where they are paying for active risk and whether the strategy’s objective justifies the additional cost.

The Active-Passive Performance Question Is More Nuanced

Market Efficiency Raises the Bar

Research suggests that active management has historically faced its greatest challenges in large-cap, developed equity markets, where information is incorporated into prices more quickly, and low-cost passive alternatives present a particularly high hurdle.

Results Vary Across Markets

Importantly, however, results have been more varied in less-efficient markets and certain fixed-income categories, where greater dispersion among securities, differences in credit and liquidity, and more complex portfolio-construction decisions can meaningfully impact outcomes. These can include emerging-market securities and small-cap stocks, among others. Here, skilled managers may have additional ways to add value一not only by delivering excess returns, but by creating a portfolio segment with distinct and desirable risk characteristics.

Identifying Repeatable Skill

Of course, identifying a manager with a strong track record after the fact is easy. The harder task is determining whether those results reflect repeatable skill and whether the investment process is durable enough to hold up across market cycles.

Return Pattern Can Matter as Well

Performance is not only about whether a strategy beats a benchmark over a trailing period. It is also about how returns are experienced along the way. Passive ETFs, by design, remain aligned with index rules, so they tend to rise and fall with the benchmark.

Active ETFs can deviate from benchmark weights, hold different sector exposures, or adjust duration and credit risk in fixed-income strategies, as allowed in each fund’s prospectus. Those decisions can improve downside resilience in some environments or create lag in others, especially if markets rebound sharply after a defensive repositioning. For investors, that means the pattern of returns can matter almost as much as the average return itself.

Active ETF Evidence Is Still Developing

Finally, several widely-followed long-term industry analyses often evaluate active mutual funds and ETFs together. Because many active ETFs have relatively short histories, ETF-specific evidence remains preliminary.

Taxes: Structure Benefits + Active Opportunity

The ETF wrapper gives both active and passive strategies similar structural tax advantages. In‑kind creation and redemption can help limit capital‑gains distributions relative to many mutual funds, and ETFs can be used as building blocks in tax‑loss harvesting plans. Investors can sell an ETF at a loss to offset gains and then choose whether to reinvest or change the allocation altogether.

However, active ETFs can have a distinct advantage in how flexibly they can use that structure. Because they are not required to track a specific index, active managers have more freedom to:

• Manage turnover and trading in a tax‑aware way rather than strictly mirroring index changes
• Realize gains and losses opportunistically across the portfolio, incorporating tax considerations into security selection and timing
• Serve as "replacement" holdings in tax‑loss harvesting without the same risk of being considered substantially identical to a benchmark‑tracking fund

How Advisors Often Use Both

In practice, many advisors use both passive and active ETFs, with each serving a different role in portfolio construction.

A common framework often looks like this:

• Passive ETFs for core market exposure, where low costs, transparency, and benchmark consistency are the priority.
• Active ETFs for more selective exposures, where flexibility, specialization, or a specific objective may justify higher fees and greater tracking variation.

This approach treats passive investing as a low-cost foundation and active investing as a targeted tool rather than a default replacement for indexed exposure.

A Side-by-Side Comparison

Frequently Asked Questions

Better Questions for Investors to Ask

We think that a more balanced way to evaluate active and passive ETFs is to replace the "which is better?" framing with more practical questions:

• What is the objective of this allocation: market exposure, income, risk management, or something more specialized?
• Is this a market segment where long-term evidence suggests paying for active risk may be worthwhile, or is low-cost beta likely sufficient?
• How much deviation from the benchmark is acceptable?
• Are the fees, liquidity, and tax characteristics aligned with the intended role in the portfolio?
• If considering an active ETF, is the manager’s process understandable, disciplined, and repeatable?

These questions aim to keep the discussion focused on fit and purpose rather than ideology.

Final Perspective

In our opinion, the evidence presented here does not support a simple winner-take-all conclusion. Passive ETFs have set a high bar in many broad, efficient markets by combining low fees with consistent index exposure. Active ETFs, meanwhile, can play a useful role when investors want flexibility, specialized implementation, or a strategy designed for a specific outcome.

We believe that the most useful takeaway is not that one approach replaces the other. It is that active and passive ETFs can be most effective when used intentionally, with a clear understanding of the role each is meant to play in a portfolio.

Understanding the role active and passive ETFs can play in a portfolio is a great first step. To learn how Hilton Capital Management’s ETF strategies may fit your investment objectives, contact our team today.

Important Disclosures:

Hilton Capital Management, LLC (“HCM”) is a Registered Investment Advisor with the US Securities Exchange Commission. The firm only transacts business in states where it is properly notice-filed or is excluded or exempted from registration requirements. Registration as an investment advisor does not constitute an endorsement of the firm by securities regulators nor does it indicate that the advisor has attained a particular level of skill or ability.

This material is provided for educational and informational purposes only and should not be construed as investment advice, a recommendation, or an offer to buy or sell any security or investment product. The information presented is general in nature and does not take into account any investor’s individual investment objectives, financial situation, risk tolerance, or needs.

Investing involves risk, including the possible loss of principal. Active ETFs are subject to management risk, market risk, trading risk, liquidity risk, and the risk that the fund’s investment strategy will not achieve its objective. Passive ETFs are subject to market risk, trading risk, liquidity risk, tracking error, and the risk that the fund’s underlying index may underperform or fail to reflect changing market conditions. ETF shares may trade at a premium or discount to NAV, and brokerage commissions or other transaction costs may apply. Past performance does not guarantee future results.

Before investing in any ETF, investors should carefully consider the fund’s investment objective, risks, charges, and expenses. This and other information is available in the fund’s prospectus and summary prospectus, which should be read carefully before investing.

All information has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. Sources include: Morningstar, Inc., Nasdaq, Inc., State Street Investment Management, LSEG Lipper, Invesco, and Capital Group. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such.

Additional Important Disclosures may be found in the HCM Form ADV Part 2A, which can be found at https://adviserinfo.sec.gov/firm/summary/116357.