The case for trend following, momentum, or tactical allocations, as they are know, is proving itself to be a valuable component for any portfolio. The research is vast, see here and here, and continues to grow each year. Here at Spectrum QR, we thought we would added our voice to the discussion by continuing to make the case for tactical allocations.
The biggest draw of tactical is the process driven approach by which the portfolio adapts to risk and trends – increasing exposure to high beta in bull markets, and low beta in bear markets – generating alpha by eliminating return drag.
We set out to test a series of common static diversified portfolios against both the SPY (S&P 500 proxy) & SQR’s CORE tactical model to showcase the inherent problem with overly diversified portfolios. What is that? In trying to diversify risk one also creates performance drag – which can lead to all kinds of implications for reaching long term goals and objectives.
First the obvious implication – clients may need to save more. The second – should we push for higher returns? The third – are conversations about returns realistic. For all the returns touted – the true real returns (compound annual growth rate) for the S&P 500 from 1916 – 2016 has been 10.05%. To long? How about the last 16 years 2000 – 2016? Those returns are awful, clocking in at only a 4.47% CAGR – thanks to two massive bear markets. That’s a big shortfall in return vs. expected especially when chasing a big goal like retirement.
Are investors prepared to have hard conversations about the need to save more, because real return, from well diversified portfolios, often delivers less then anticipated? As a professional, arming yourself with research, like we are providing today, allows advisors to pull the abstract into reality thus having more grounded conversations about risk, return, and goals. The additional benefit is the ability to evaluate the impact of allocating to alternative strategies, like Tactical, to generate additional alpha and provide downside risk protection.
The biggest draw of tactical is the process driven approach by which the portfolio adapts to risk and trends – increasing exposure to high beta in bull markets, and low beta in bear markets – generating alpha by eliminating return drag. When done well, a complimentary tactical strategy, like Spectrum CORE, can have a substantial impact on a portfolio.
source Arrow funds.
Yes, I know! The period 1/1/2004 – 12/31/2016 is not a long time. While only 13 years, it does include one of the worst bear markets and financial crises of the last 86 years – and we know the damage those cause. Do not discount the power of this research to start meaningful conversations with clients – while these have been stellar times, for equities, let us not forget the dangers which lurk.
Be well –
At SQR, we provide tactical models, for Investment Professionals (IP’s), that can be implemented for up to 95% less than traditional outsourced channels. Our mission is to provide solutions which address the primary struggles of portfolio management – position, profit, and preservation of capital.
We take a quantitative approach to selecting markets, constructing models and managing risk. SQR’s models are index focused, systematically driven and rooted in a trend following philosophy – adapting to market risks and trends.
Our goal is to eliminate opinion, bias, and emotion from the investment process – to deliver returns which, over cycles, consistently beat the market. Each model is designed for growth of capital in bull markets and preservation of capital in bear markets.