Advanced Diploma of Financial Planning (ADFP) Practice Test

Which investment approach assumes that investors can exploit inefficiencies in the market?

1. Passive investment strategy

2. Active investment strategy

3. Value investment strategy

4. Growth investment strategy

The correct answer is: Active investment strategy

The active investment strategy assumes that investors can exploit inefficiencies in the market by actively selecting stocks and timing trades to outperform the market. This approach relies on research, market analysis, and trading skills to identify undervalued securities or anticipate market trends before they happen. Active investors believe that markets do not always reflect all available information, allowing for opportunities to generate returns beyond the average market performance. In contrast, passive investment strategies involve buying and holding assets over the long term, typically through index funds, with less focus on market inefficiencies. Value and growth investment strategies describe specific types of stock selection—value investing focuses on undervalued stocks, while growth investing targets stocks expected to grow at an above-average rate—but these strategies can be implemented within both active and passive frameworks. The core element that distinguishes an active strategy is the belief in and effort to capitalize on market inefficiencies.