If this happens, it is likely that central authorities will undo quantitative easing (QE) and governments will remove fiscal stimulus from the economy, ultimately resulting in a resurgence of cross-class volatility. ‘assets.
Multi-asset managers will need to be agile in terms of adjusting their exposures to asset classes; specifically, under/overweight market segments deemed expensive/cheap, while also focusing on sector structuring, taking into account factors such as value, momentum, inflation and political parameters.
When allowed, multi-asset managers are expected to rely more on tactical asset allocation (TAA) to navigate unfamiliar market conditions and position their portfolios to achieve their goals. of investment.
One problem, however, is that in our experience, few managers have demonstrated an ability to consistently add value through TAA. So what is TAA, and when and how can it add value to portfolios?
What is Tactical Asset Allocation (TAA)?
In its simplest form, TAA is described as the process by which investment managers move portfolios away from their strategic asset allocation (SAA), where markets are believed to have moved away from fair value and there is an opportunity to improve portfolio results.
What is the appeal of TAA?
Proponents of the TAA believe it can be used to improve wallet efficiency. In this regard, TAA has a dual objective of improving returns and reducing overall portfolio volatility.
With respect to the former, managers implementing TAA do so with the aim of supplementing (as opposed to underwriting) total portfolio performance.
Consistent with this view, we note that among our rated multi-asset managers, TAA’s targeted contribution typically ranges from 5-20%. With respect to volatility, TAA focuses on preserving capital and minimizing drawdowns in risky environments.
To achieve these goals, multi-asset managers target mispriced asset classes that are expected to return. In effect, they allocate capital away from asset classes deemed expensive or at risk of underperforming, in favor of others deemed undervalued or positioned to outperform.
What are the prerequisites for a successful TAA?
To successfully implement the TAA, portfolio managers must demonstrate their ability to identify mispriced asset classes and a grasp of the timing of market inflection points.
In our view, the multi-asset managers who have succeeded on each of these fronts are those who implement a combination of qualitative and quantitative techniques.
Is TAA suitable for a particular investment horizon?
Currently, there is no universally accepted view on which investment horizon TAA is best suited for. Consistent with this, we observed a wide divergence of opinions expressed among our multi-asset sector participants.
There is a broadly even split between managers who suggest the TAA is a tool best suited for expressing opinions in the short term (i.e. less than a year) and others who think the TAA may have longer lasting benefits (one to three years).
In our view, the TAA should be viewed as a short-term portfolio management tool, consistent with the idea that it seeks to complement portfolio returns. We believe that if TAA positions persist for extended periods, these may best be expressed through strategy selection or refinements to a fund’s SAA.
How does TAA compare to other forms of active asset allocation?
There are several alternative forms of active asset allocation (AAA) strategies implemented by multi-asset managers that have a similar desired outcome as AAT. This includes dynamic asset allocation (DAA), strategic tilting and overlays.
While the common thread running through each of these techniques is the goal of achieving investment results above a fund’s ASA, there are also differences. These largely extend to the stipulated investment horizon.
Is TAA suitable for a particular investment approach?
Conceptually, the TAA is relevant for managers implementing a single-manager or multi-manager approach to portfolio construction. That said, TAA tends to be more of a tool of choice among individual managers, a finding we believe is intuitive.
By definition, a single manager is a manager who gains exposure to an asset class through investment capabilities offered through internal distribution channels. While one of the main advantages is profitability, a disadvantage is that investment choice is often limited, which in turn can lead to less efficient portfolio results. This is particularly relevant for managers who have a relatively small suite of sector strategies from which to select and structure asset class exposures.
To help mitigate this perceived shortcoming, many individual managers have devoted considerable resources to building a TAA platform, a trend that has not been as evident in the multi-manager cohort of multi-asset strategies. Instead, multi-managers have tended to focus their efforts on identifying the best deals and combining complementary strategies to achieve more personalized sector exposures.
What does this mean in the current market environment?
Many TAA managers have faced challenges of late, including the advent of QE which has resulted in reduced volatility between asset classes and an expansion of valuation multiples.
In our view, higher market volatility increases the opportunities to alter portfolio positioning to exploit mispricings.
As such, increased market volatility is likely to benefit TAA managers, who have the flexibility to react to market inefficiencies more quickly than their SA-only counterparts.
It is important to note, however, that the TAA introduces market timing risk and therefore increases the potential range of outcomes for investors relative to their SAA counterparts.
Andrew Yap, Head of Australian Fixed Interest and Multi-Asset, Zenith
Neil is the Associate Editor for Wealth Headlines including ifa and InvestorDaily.
Neil is also the host of the ifa show podcast.