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Transcript of Tactical Asset Allocation: History, Theory & Practice Brian Schreiner Schreiner Capital Management,...
Tactical Asset Allocation:
History, Theory & Practice
Brian SchreinerSchreiner Capital Management, Inc.Exton, PA - www.scminvest.com
June 26, 2014
2
Introduction
Two Types of Investment Strategies:
› Passive Investingor… Buy-and-Holdor… Strategic Asset Allocation
› Active Investingor… Tactical Asset Allocation
3
Agenda
› Background- What is Tactical Asset Allocation (TAA)?- How is TAA different from Strategic Asset Allocation (SAA)?
› History- TAA from the Old Testament to Today- The evolution of TAA
› Theory- Why has TAA become more popular in recent decades?- What are the potential benefits and risks of TAA?
› Practice- What are the different approaches, objectives and benchmarks?- Focus on trend following
› Q & A
4
Background
› Definitions | What is TAA?
“Tactical asset allocation (TAA) broadly refers to active strategies which seek to enhance performance by opportunistically shifting the asset mix of a portfolio in response to the changing patterns of reward available in the capital markets.”- Arnott & Fabozzi, Asset Allocation: A Handbook of Portfolio Policies, Strategies & Tactics, 1998
“Tactical asset allocation (TAA) actively adjusts a portfolio’s strategic asset allocation (SAA) based on short-term market forecasts [or trends]. Its objective is to systematically exploit inefficiencies or temporary imbalances in equilibrium values among different asset or sub-asset classes.”- Vanguard Research, 2010:
5
Background
› How is Tactical Asset Allocation (TAA) different from Strategic Asset Allocation (SAA)?
6
History
In the beginning…there were “Speculators”
1011 BC Diversification: King Solomon
FAST FORWARD 2,645 Years…
1634-1637 Market Trends: Tulip Mania in Holland
1890s Professional Money Management: The Robber Barons
1899-1902 Trend Following: Charles H. Dow
1934 Value Investing: Benjamin Graham “Security Analysis”
1930s, 40s, 50s …and beyond: Published works on many types of investing
7
History
1976 Tactical Asset Allocation: William Fouse of Wells Fargo
1980 The Information Age begins: Business Computers & PCs
1981 US stocks decline 27%
1987 Global stock markets crash
1991 The Internet: A Global Network (data as we know it)
1990s Greatest bull market in US history - TAA underperforms
2000 Tech Bubble peak (March 10)
2007-08 Financial Crisis
8
Theory
› Why use TAA?
1. Return expectations from stocks and bonds are very low over next decade.- Investors are seeking more attractive returns.
2. Stock and bonds are expensive - priced near all-time highs. - Investors want to limit exposure to risky assets.
3. Volatility has been low and will likely increase.- SAA is highly volatile - investors can reduce volatility through TAA
9
Theory
› Who is using TAA?
Everyone… - Institutions- Endowments- Pension Funds- Professionals/Family Offices- Individual Investors
10
Theory
2007 2009 2011 2013
Strategic 50% 48% 65% 65%
Tactical 35% 39% 27% 22%
Other 15% 19% 8% 13%
› Percentage of RIAs who describe their overall investment approach as:
Source: AdvisorBenchmarking.com 2013
11
Theory
12
Theory: Return Expectations are Very Low
Expected return from a 60/40 stock/bond portfolio is 2.3% over the next decade.
13
Theory: Stocks & Bonds Near All-Time Highs
STOCKS
BONDS
14
Theory: Stock Market Volatility May Rise
CBOE Volatility Index (VIX)
15
Theory: Stocks are Expensive by Historical Standards
16Source: CrestmontResearch.com
Theory: Opportunities Exist for Active Investors
17
Theory: Opportunities Exist for Active Investors
Source: Schreiner Capital Management, Inc. & Yahoo! Finance
1950 52 54 56 58 60 62 64 66 68 70 72 74 76 78 80 82 84 86 88 90 92 94 96 982000 02 04 06 08 10
2012-50%
-40%
-30%
-20%
-10%
0%
10%
20%
30%
40%
50%
23%
17%
12%
0%
45%
29%
9%5%
38%
10%
1%
25%
1%
19%
16%
10%
2%
22%
13%
3%2%
15%17%
3% 4%
41%
21%
0%
14%
17%
32%
3%
18%
23%
3%
27%
21%
40%
15%
30%
5%
27%
6%8%
4%
36%
24%
33%
28%
20%
6%5%
3%
26%
9%
5%
15%
11%
0%
25%
13%
9%
17%
30%
0%
-3%-15% -4%-5%-16% -3%-13%-1%-28%-1%0%-5%-22%-1%
-10%-15%-25%-3%-1%-23%-38%
0%0%-16%-9%-1%-13%-19%-17%-2%-11%-2%-4%-11%-3%-1%-17% -6% -6%-2%-7%0%-3%-2%-6%-2%-15%-28%-33%-10%-5%-6%-2%-4%
-50%
-26%-9%-15%
0% 0%
18
Practice
› Benchmark:TAA strategies are usually measured against a passive benchmark.
› Objective:Better-than-benchmark returns and/or Less-than-benchmark risk
› Approach: 1. Subjective
2. Quantitative
3. Combination of the two
19
Practice
› Commonly Used Quantitative TAA Strategies
1. The Fed Model Signals (Fundamental)Compares stock earning yields to bond yields to determine relative strength
2. Macroeconomic or Business-Cycle Signals (Fundamental)Measures variations in market risk premiums and firms’ earnings
3. Fundamental Valuation Signals (Fundamental)Bottom-up (firm-valuation based on dividend yield, book/market ratio, PE ratio) and/or Top-down (dividend discount model) valuation metrics.
4. Trend Following Signals (Technical)Technical analysis of market data (mostly price) to identify momentum
5. Sentiment (Technical)A contrarian approach that looks for signs of extremes (ie: consumer/investor confidence, margin borrowing)
20
Practice
› Primary Types of Trend Following:
1. Trend Line Analysis /Charting
2. Moving Average Systems
3. Relative Strength Indicators
21
Practice
› Trend Following Using Trend Line Analysis/Charting
SupportResistanceChannelsBandsFlagsCandlesticksRates of ChangeOscillatorsCloudsHeadsShoulders
…it’s endless
22
Practice
› Trend Following Using Moving Average Systems
Source: Schreiner Capital Management, Inc. For financial professional use only. This is a hypothetical example for illustration purposes only.
23
Practice
› Trend Following Using Relative Strength Indicators
Relative Strength indicators measures the change and directionof price movements.
Relative Strength = % change Industry Sector Fund
÷ % change in Benchmark
24
Practice
› Trend Following Using Relative Strength Indicators
1 9 17 25 33 41 49 57 65 73 81 89 97 105 113 121 129 137 145 153 161 169 177 185 193 201 209 217 225 233 24120.00
25.00
30.00
35.00
40.00
45.00
25
Practice
› Trend Following Using Relative Strength Indicators
1 9 17 25 33 41 49 57 65 73 81 89 97 105 113 121 129 137 145 153 161 169 177 185 193 201 209 217 225 233 2410.60
0.65
0.70
0.75
0.80
0.85
26
Practice
› Primary Considerations for Investors
Investment Profile- Investment Personality- Investment Goals- Portfolio Profile- Risk Tolerance- Time Horizon
Due Diligence- Investment Manager(s)- Investment Vehicle- Investment Philosophy- Investment Process
Implementation- Execution Costs/Fees- Tax Implications- Opportunity Costs
27
Questions? Tactical Asset Allocation: History, Theory and Practice
Brian SchreinerSchreiner Capital Management, Inc.Exton, PA
28
Sources
Arnott, Robert and Fabozzi. Asset Allocation: A Handbook of Portfolio Policies, Strategies & Tactics. Probus Publishing Co., 1998.
Faber, Mebane T. “A Quantitative Approach to Tactical Asset Allocation.” The Journal of Wealth Management. Spring 2007. Working Paper, Updated February 2009. Electronic copy available at: http://ssrn.com/abstract=962461.
Ivanova, Maya. AdvisorBenchmarking Annual Research Study. AdvisorBenchmarking.com. 2008-10.
Loeb, Gerald M. The Battle for Investment Survival. New York: John Wiley & Sons, Inc., 1935.
MacKay, Charles LL.D. Memoirs of Extraordinary Popular Delusions and the Madness of Crowds. Mansfield Centre, CT: Martino Publishing, 2009. (First published: 1852)
Mallik, Gaurav. “Mitigating Equity Market Correlations Through Stock Selection.” SSgA Capital Insights. August, 2009.
Ostgaard, Stig. “On the Nature and Origins of Trend-Following.” December, 2008. www.lastatlantis.com.
Stockton, Kimberly A. and Shtekham, Anatoly. “A Primer on Tactical Asset Allocation Strategy Evaluation.” Vanguard Research. 2010.
Shiller, Robert J. Irrational Exuberance. Second Edition. Princeton University Press: 2005. www.irrationalexuberance.com
Wai, Lee. “Advanced Theory and Methodology of Tactical Asset Allocation.” Duke University. January 2000.