Strategic Allocation, "Buy & Hold" /Tactical Allocation
Over the last 15 years in periods when the capital markets have been down you may have heard:
"You're in the market for the long term, you can't sell at these levels. Over time the markets will come back. After all no one can time the markets."
This type of advice has been typical among Financial Advisors for decades. They advocate "Buy and Hold," meaning you ride the markets up and down, insisting you will be better off over time.
Most of these advisors utilize a methodology called Strategic Allocation. It is based on what is known as "Modern Portfolio Theory" which can trace its roots back to work conducted by American Economist Harry Markowitz in 1952. The theory emphasizes the importance of risk, and correlations between securities as well as diversification. Using this theory Strategic Asset Allocation was developed to determine how much of your portfolio should be invested in various asset classes and capitalization sizes to achieve your long term goals.
The process starts with assessing your risk tolerance, and your investment time frame. Your money is invested in each asset class by looking at the long term expected returns and risk levels of each asset class. Asset Allocation approaches recommend holding your original allocations over long periods of time rather than reacting to what is currently occurring in the capital markets. They may change the closer you reach your goal and become more "conservative." Strategic Asset Allocation has been and continues to be one of the most widely used investment methodologies.
Virtually every financial services firm uses this methodology. Portfolio allocations derived from this methodology can be obtained for free on the internet. The stock market crash of 2008 caused many investors to question the effectiveness of the strategy. Moreover the volatility and investment returns during the "lost decade" (12/31/1999-12/31/2009) further brought into question the effectiveness of strategic asset allocation and the "buy and hold" strategy. Access to asset classes such as commodity and currencies has also raised questions about the strategy.
At Railroad Street Wealth Management, LLC ("Railroad Street") our financial planning platform has the capability of providing strategic based asset allocation models like most other firms. Three out of our 5 models begin with this Strategic Allocation base line. They are our "Tactical Tilt" Models (Conservative Tilt, Moderate Tilt and Aggressive Tilt). These models are reviewed on a monthly basis to provide tactical investment management based on current capital market conditions. If Railroad Street determines supply and demand factors are strong in the capital markets we are on "offense", each tilt model will be structured more aggressively. If Railroad Street determines supply and demand factors are weak and we are on "defense", allocations will be reallocated to a more conservative allocation. The term "Tactical Tilt" is simply used to describe a portfolio construction process that is built around a methodology that is between a "pure strategic" and a "pure tactical" approach. It is a "tactical allocation with strategic boundaries." Railroad Street believes a methodology that incorporates "Offense and Defense" when needed is critical for an asset allocation strategy to succeed over time. We also believe the ability to play offense or defense should be material in nature. The first step in utilizing our "Tilt" models is to establish strategic boundaries for each asset class. The second step would be to determine which asset classes deserve over weighting and which asset class should be under weighted. The mechanism used to determine the "Tactical Tilts" is found in a daily proprietary report received by Railroad Street from Dorsey Wright & Associates called DALI (Dynamic Asset Level Investing). DALI evaluates the supply and demand forces of asset classes, and ranks them from strongest to weakest based on their relative strength scores. If sector rotation is employed utilizing our tilt models sector reallocation may be adjusted on a weekly basis, if not asset allocations are reviewed on a monthly basis.
The remaining two models employed by Railroad Street are purely tactical in nature. The first is called our DALI Flex Model. The daily research the firm receives from Dorsey Wright & Associates contains a ranking of the 6 major asset classes (Domestic Equities, International Equities, Fixed Income, Currencies, Commodities and Cash). These rankings are based upon daily comparisons of components of the 6 asset classes, using Point and Figure strength analysis to determine leadership. The Flex model combines the inclusion of all major asset classes and weights them purely upon trends in leadership, or strength. The Dynamic Asset Level Investing (DALI) report "tally number" is used to determine each asset class' share of an allocation. As an asset class garners more buy signals within the DALI ranking, it garners greater weighting as well. The Flex strategy determines the asset class weightings based upon each groups "tally number" as a percentage of the sum. In other words if there are 100 signals available to be tallied, and U.S. Domestic Equity assets combine to capture 25 of those signals , the recommended weighting for U.S. Equities within the Flex Model would be 25%. Because the available signals represent a zero-sum game, the cumulative recommended weighting for all asset classes will always add up to 100%.
The second purely tactical model offered by Railroad Street is termed the "Three Legged Stool" model. This model allows the composition of the tactical model to change over time. The first two legs of the stool are determined by having exposure to the two strongest asset classes among Domestic Equities, International Equities, Commodities, Foreign Currencies, Fixed Income and Cash Alternatives based on Dorsey Wright DALI. The third leg of the stool is constant managed exposure to the Domestic Equity market. The composition of the tactical portfolio will change over time. Sometimes the tactical portfolio can be very much skewed toward equities and, at other times, may have an emphasis on alternative investment asset classes like commodities or be very under invested or defensive.
Railroad Street can recommend one of our 5 asset allocation models that you are most comfortable with. Each client of our firm will receive an Investment Policy Statement providing details of their model. In addition to your monthly account statement our firm will provide quarterly performance updates on your portfolio performance.