Investing is NEVER Passive
By: Brian Seay, CFA | Capital Stewards
Passive Investing Isn't a Strategy: Why "S&P and Chill" Leaves Money on the Table
You have probably heard the phrase "S&P and chill." Buy the S&P 500 in a low-cost index fund and call it a day. That is all you need to do to be a successful investor.
Or is it?
What if the AI thesis doesn't work the way we hope, and we get a lost decade in U.S. large-cap stocks? Even if you do index, where do you hold those assets — Roth, 401(k), taxable? What about taxes? And what happens when the S&P falls 20% at the exact moment you need to take withdrawals? You don't need a long memory here. Remember 2020. Remember 2022.
I want to be careful about how I make this argument, because I am not here to argue against index funds. I use them. We use them in client portfolios at Capital Stewards. The evidence on cost, and on how hard it is to consistently beat U.S. large-cap benchmarks after fees, is real, and I am not fighting it.
What I am pushing back on is different. It is the idea that once you have decided to be a passive investor, you are done deciding — that the hard part is over, that you made the one big call and now you just avoid touching it for thirty years.
That is not true. The active-versus-passive debate has done investors a disservice, because it convinced a generation that Passive vs. Active was the important question.
It isn't. Not even close.
The 6 Most Important Investment Decisons
Here are the decisions that actually determine what your portfolio does over thirty years. Notice where active-versus-passive falls in the list.
Decision one: What do you own, otherwise known as Asset Allocation
Stocks, bonds, real assets, cash — and in what proportion. Asset allocation is investment-speak for the percentage of a portfolio invested in stocks, bonds, gold, real estate, or any other broad group of assets.
You have probably heard someone say asset allocation explains ninety-plus percent of your returns. That statistic gets mangled constantly, so here is the correct version, which is more useful anyway.
The cleanest work is Ibbotson and Kaplan, published in the Financial Analysts Journal in 2000, with a title that says it all: does asset allocation policy explain 40, 90, or 100 percent of performance? Their answer was all three, depending on the question you ask. Roughly 90 percent of how much your portfolio bounces around over time. About 40 percent of why your portfolio did better or worse than someone else's. And close to 100 percent of your return level.
That middle number is the honest one, and it is the one nobody quotes. Forty percent of the difference between your outcome and your neighbor's comes from allocation. Allocation is not everything — but it is the single largest lever you have, and it is the one "S&P and chill" hands over to a default.
Decision two: Within an asset class, what part of the world, and what size?
For stocks: U.S. or global, large or small, growth or value. The same logic applies everywhere else. Floating-rate bonds have done well over the last five years as rates rose; long-term fixed-rate bonds have not. Trophy office property has held up; suburban cube farms have not. What you own within an asset class matters an awful lot.
Decision three: Index it, or hire a manager?
Now we get to pick an actual investment product — a fund or an ETF — for each of those slices. This is where the active-versus-passive question finally shows up. Do we choose an index fund or an ETF or an actively managed fund, mutual fund or ETF. So the decision we thought was most important is third on a list of six.
Decision four: Where do you hold each asset?
Taxable, traditional IRA, Roth. Asset location is worth real money to a taxable household over the long term.
Decision five: How and when do you rebalance?
Do you rebalance based on the calendar every month or quarter, or based on some threshold of performance. And what does it cost you in taxes when you do?
Decision six: Can you hold on when it's ugly?
This is the one that actually breaks people. The ability to hold on to your portfolio over time is most likely the most significant factor in your personal investment success.
Six decisions. Indexing versus not indexing answers one of them. And here is the part that gets missed: it doesn't merely skip the other five. It makes a bet on decision two — a hundred percent U.S., a hundred percent large-cap, and increasingly a concentrated bet inside that on tech, hyperscalers, and AI.
You didn't opt out of active management. You made a set of concentrated active decisions and then called them passive because you bought them in a cheap wrapper.
What Norway Knows That Most Investors Don't
If you want to know whether that first decision is worth spending time on, look at who spends time on it.
Norway runs the largest sovereign wealth fund in the world — over a trillion dollars of oil money held for future generations. And here's the thing: it is, functionally, an index fund. Thousands of companies. Very tight tracking to its benchmark. Costs low enough to embarrass most American 401(k) plans.
So they have accepted the indexing argument completely. But the allocation — roughly seventy percent equities, thirty percent fixed income, deliberately spread across the entire world outside Norway, with each new asset class debated before it is added — is set by the Ministry of Finance on the advice of expert commissions, revisited on a regular schedule, and argued about in public.
Nobody accuses the Norwegian government of drumming up fees. They index their holdings and they focused their staff and resources on the asset allocation decisions. Same story at large U.S. public pensions: you will not find a major plan sitting at a hundred percent domestic large-cap stocks, but many use an S&P 500 index as part of their portfolio.
The most sophisticated pools of capital on earth put the cheap part on autopilot and the expensive part in a committee room full of smart people. Are you doing the same thing? Are you paying enough attention to all the decisions in the investment process?
What You Actually Own When You Own the S&P 500
Let's open the hood.
The S&P 500 is a float-adjusted, market-cap-weighted index of large U.S. companies. Every word there is a decision somebody made.
Float-adjusted means that the percentage of a stock’s allocation in the index is based on the percentage of its shares that actually trade on the open market. For example, Elon Musk still holds a lot of SpaceX stock in his account and thus it is generally not counted when determining the weight of SpaceX in indicies.
Market-cap weighted means the more a stock goes up, the more of it you own. By construction. It is a momentum strategy with a very good marketing department. That is not a criticism — it is simply what it is, and it has worked spectacularly for fifteen years. But you should know that is the machine you are riding.
Where it stands today: the ten largest companies in the index have accounted for somewhere in the neighborhood of 35 to 40 percent of index weight — a level not seen in the modern history of the index, and roughly double where it sat a decade ago.
Sit with that. A five-hundred-company index where ten names carry roughly four dollars of every ten.
And the United States is somewhere around sixty percent of global stock market capitalization. If you own only the S&P 500, you have zero exposure to roughly forty percent of the world's public companies — plus zero U.S. small- and mid-cap, zero bonds, zero real assets.
The lost-decade problem
Here is my honest concern for anyone within ten years of retirement. Everybody knows the long-run average return number. Almost nobody has internalized that the long run is made of decades, and some of those decades are bad.
An investor who bought the S&P at the start of 2000 waited roughly thirteen years to get back to even in nominal terms — longer in real terms. The mid-1960s through the early 1980s was worse in inflation-adjusted terms. If you're 45, a lost decade is an inconvenience; you're buying the whole way down. If you're 62 and drawing income, it is a different retirement.
Nobody is telling you the S&P is a bad investment. I am telling you that "the S&P has always come back" is a statement about the index, not about you. Indexes have infinite time horizons. You most certainly do not. If you withdraw money during a drawdown, it is mathematically harder to recover even when the index returns to its starting point.
What an S&P-Only Portfolio Leaves Out
Four things.
International
For roughly fifteen years, international exposure was a drag, and investors quit on it. That is how these things work. Then 2025 happened. Developed international and emerging markets both delivered returns well ahead of the S&P for the year, and that relative strength continued into 2026, with international broadly ahead of the U.S. year to date.
Two things are driving it. Earnings growth has been strong abroad, particularly in emerging markets like Taiwan and Korea that are central to producing the chips behind the AI build-out. Foreign stocks have been cheap relative to the U.S. for a long time — deservedly so — but U.S.-like earnings growth on cheaper stocks is an opportunity. And the dollar has been depreciating modestly, which improves returns on foreign assets for U.S. investors.
U.S. small- and mid-cap
An entire segment of the American economy the S&P 500 simply does not include. There are plenty of bad arguments for owning private equity; a good one is as part of a broader allocation to smaller U.S. companies. There are certainly no private companies in the S&P 500.
Real assets, including gold
Gold makes some investors uncomfortable because it has no cash flow, no earnings, nothing to model. Fair. But it does something stocks and bonds can't: it responds to currency debasement, to central bank buying, to geopolitical stress. 2026 has been a live demonstration in both directions — a record high early in the year, then a significant drawdown from that peak. That volatility is real, and I would never argue for a large position. But a modest allocation behaves differently from everything else you own, and that is the entire point.
Real estate belongs here too. For many of our clients in North Alabama, the honest first question isn't "should I add REITs?" It's "do I already have more real estate exposure than I think?" If you own a home and a rental and your employer is tied to the Huntsville economy, you may be plenty long already. If not, real estate can be a smart addition: the best of it reprices rents to cover inflation. But property type matters enormously — real estate at large has not done well over the last five years.
Fixed income
For fifteen years, bonds were something you tolerated. That changed. Yields are at levels where high-quality bonds do their job again: income and ballast. And fixed income is not one asset — duration, credit quality, and geography are three separate decisions, and the gap between short Treasuries and emerging market debt is wider than the gap between most stock funds.
Even Index Investing Requires Active Decisions
Andy Clarke, who spent a couple of decades at Vanguard, says he doesn't even like the word "passive." He prefers "index investing," because passive suggests a do-nothing strategy and doesn't do justice to what goes into building and running these portfolios. Ask what it takes to manage a passive fund and the answer sounds like nothing. Ask what it takes to run an index fund and the honest answer is: quite a lot.
That is the vocabulary problem in a sentence, and it applies to you as the investor, not just to the fund company. Even if you index every single dollar, you still have a dozen decisions to make:
Which index? S&P 500, total U.S. market, equal weight, ex-mega-cap — meaningfully different portfolios with meaningfully different risk. Choosing one is an active decision.
Which vehicle? Two funds tracking the same index can differ on expense, tracking difference, securities lending practices, capital gains distributions, and spreads and liquidity at the size you trade.
Which account? Bonds in the wrong account are a permanent, unforced tax leak.
How do you rebalance? Calendar or threshold — and in a taxable account, what is the tax cost of the trade versus the benefit of getting back to target? A rebalance you can't afford to make isn't a strategy.
What about overlap? I look at a lot of prospect portfolios that hold six funds, and three of them are the same twenty stocks.
What's the plan for a 35% drawdown? Passive investing has a one hundred percent failure rate among people who sell at the bottom.
That last one has data behind it. Morningstar's "Mind the Gap" study measures what investors earned versus what their own funds earned — the cost of buying and selling at the wrong times. The gap is persistent and measured in real percentage points per year. The category with the smallest gap is actively managed allocation funds: the boring, diversified, automatically rebalanced ones, because they make many of these decisions without the investor having to think about it.
None of that is active management in the stock-picking sense. All of it is active decision-making. The index doesn't make those calls for you.
Why Index Funds ARE Important:
Let me argue the other side as well as I can, because the other side has a case.
One: cost and simplicity compound. A single low-cost fund held for thirty years with no tinkering will beat most diversified portfolios that get fiddled with, and complexity gives you more chances to do something dumb.
Two: diversification has genuinely cost investors money for fifteen years. That is not opinion. Anyone who held international from 2010 forward gave up real return for the privilege, and the same goes for value, small-cap, and most real assets.
Three: S&P 500 companies earn a substantial share of revenue overseas, so you have some global economic exposure already.
Four: nobody has to be right about timing. Concentration has been elevated for years while the index kept setting records. "Concentration is high" is a description, not a signal.
All fair. Let me start with the second one, because it sounds most damning and is the most misunderstood.
Yes — diversified allocation funds have lost to the S&P 500 over the last fifteen years. But ask why. Three reasons, and none of them is that somebody did a bad job.
One, they held bonds. Over the fifteen years through 2023, the bond side of a standard 60/40 contributed roughly two-and-a-half to three percent a year while the blend as a whole returned close to ten. Hold forty percent of your money in an asset earning three while stocks earn thirteen, and you lose to stocks. That is not underperformance, that is diversification. And for the record, I do not advocate a plain 60% stock / 40% bond portfolio in today's environment.
Two, they held things other than U.S. large-cap growth — international, value, small-cap, real assets — and U.S. large-cap growth beat all of it.
Three, they rebalanced. This one is subtle and I think it is the most important. Rebalancing pays you when assets take turns leading. When one asset leads for fifteen straight years, rebalancing sells your winner every quarter to buy the thing that just lagged, and the payback never arrives. That is the real cost of the insurance, and I would rather say it out loud than pretend it isn't there.
So the honest scorecard depends entirely on what you measure against. Compare a diversified portfolio to the S&P and you are comparing two different risk assets. The answer was determined by the mix, before anybody made a single decision.
Compare it to a blended benchmark at the same risk level and the picture changes. Morningstar's research measures active funds against investable passive peers in the same category, and the gap there is real but far smaller — and the variable that predicts it most consistently is fees, not judgment.
That is a very different indictment, and it points at what actually matters: what you pay, and whether the mix is right for you.
I am not arguing you will earn more by diversifying. I can't promise that, and neither can anyone else. I am arguing you will be less dependent on one specific outcome. Right now, the S&P 500 is heavily dependent on AI playing out well. Your portfolio should be positioned to capture that growth and hold assets that offset the damage if the future doesn't unfold the way we all hope.
And that fifteen-year comparison is a comparison to a portfolio a lot of people couldn't actually hold. It is easy to say you would have ridden out 2020 and 2022 in a hundred percent equities. Fewer people did.
Diversification is not a return-maximizing strategy. It is a regret-minimizing one. It is the insurance premium you pay for not knowing the future — and the years you resent paying it are the years it is doing its job.
Where I Actually Land on Indexing
I am pro-indexing. The majority of what we own for clients at Capital Stewards is indexed. We use active funds in the corners of the market where active management still creates predictable value, but those are the exception. Indexing your U.S. large-cap exposure is absolutely something I recommend — just don't mistake it for the entire investment process.
Three Questions to Ask This Week
Open your accounts and answer these:
What percentage of my equity sits in the ten largest U.S. companies?
What do I own that is not U.S. large-cap stock?
If we got a repeat of the 1970s or the early 2000s, where large-cap growth went nowhere for a decade, what would happen to me?
If you don't like the answers, that's a conversation worth having.
Ready to look at your own allocation? Start a conversation here.
Frequently Asked Questions
Is passive investing a bad strategy?
No. Index funds are an efficient, low-cost way to own markets, and they make up the majority of client portfolios at our firm. The problem is treating indexing as the whole investment process. Indexing answers how you own an asset class. It does not answer which asset classes you own, in what proportion, in which account type, or how you respond in a drawdown.
What does "S&P and chill" actually mean?
It's shorthand for putting your entire portfolio in a low-cost S&P 500 index fund and leaving it alone. It is simple and cheap, but it is also a concentrated position in U.S. large-cap stocks — with no international exposure, no small- or mid-cap, no bonds, and no real assets.
How concentrated is the S&P 500 right now?
The ten largest companies have recently represented roughly 35 to 40 percent of the index's weight, near the highest level in its modern history and roughly double where it stood a decade ago.
Does asset allocation really explain 90% of returns?
Not exactly. Ibbotson and Kaplan (2000) found that asset allocation policy explains roughly 90 percent of a portfolio's return variability over time, about 40 percent of the difference between one portfolio and another, and close to 100 percent of the level of return. The 40 percent figure is the most relevant one for comparing your results to someone else's.
Should I own international stocks if S&P 500 companies already sell overseas?
Foreign revenue gives you global economic exposure, not global market exposure — you still own U.S.-listed, dollar-denominated companies. Roughly 40 percent of the world's public companies sit outside the U.S., with different earnings growth, valuations, and currency behavior.
What should I do if I'm close to retirement and hold only S&P 500 index funds?
Start with sequence-of-returns risk: what happens if you need withdrawals during a multi-year drawdown? That is not solved by a fund choice. It is addressed through allocation, asset location, a withdrawal strategy, and a reserve sized to your actual spending.