Passive Investment Strategies for the Danish Retailinvestor

Abstract

The primary objective of this master thesis is to determine the most advantageous approach for implementing a passive investment strategy for a Danish retail investor within the context of the global financial market. Assuming the validity of market efficiency, the retail investor should accept the premise that surpassing market returns through active investing is unfeasible. Consequently, the retail investor's aim is to achieve returns equivalent to those of the market portfolio. To address this objective, three alternatives for passive equity index investing are considered: foreign exchange-traded funds (ETFs), Danish mutual funds, and direct stock investments. To ensure an unbiased evaluation of each strategy, a comprehensive market analysis has been conducted to ensure that only comparable data is utilized. This is achieved through various phases of selection for each individual strategy. Furthermore, the assessment of each investment product is based on an average procedure to ensure an impartial conclusion. ETFs and mutual funds must have at least fifteen years of available data to be included in this analysis. The portfolios simulating direct stock investments are constructed using a random selection method to maintain unbiased results. Upon completion of the selection process, an evaluation of the costs and tax treatment associated with each strategy is conducted to identify the key factors for further analysis. Subsequently, an after-cost and tax evaluation are performed for each approach, employing a Monte Carlo simulation methodology. The results indicate that direct stock investments yield the highest net tax return, particularly over the long-term horizon. However, this strategy is the most challenging for individual investors to implement. The ETF strategy, while yielding a lower average return compared to direct stock investments, offers easier implementation. These returns are generated with lower standard deviation over the simulation period, rendering ETFs the most efficient risk-adjusted strategy. A tax disadvantage arises with a 100% ETF investment, as the tax write-off must be utilized in the ongoing investment year and can only offset other positive income from stocks. Danish investment funds present a viable combination of the other two strategies. They are easy to establish, and the taxation process is similar to that of direct stock investments, allowing for a compounding effect on returns in a strong market. However, the higher costs and the double taxation of dividends are notable weaknesses of this strategy. To choose the best alternative, investors must evaluate their preferences, risk tolerance, and level of involvement when executing a passive investment strategy. Combining the strategies can also lead to potential tax optimization. Considering these characteristics, the retail investor can now make an informed decision on how to optimize their investment strategy.