Trusty tactical asset allocation is a boon during market stress
• Returns can be enhanced by adjusting the share mix in response to a changing environment
There is nothing unusual about the concept of tactical asset allocation (TAA). Whether a client uses a single manager or a multimanager, part of the service he or she expects is for the fund manager to sell equities when they are expensive and to buy when they are cheap. Yet in the most recent century TAA was an Australian airline best known for ripping off the public. The prevailing orthodoxy, as expressed by the pioneers of multimanagement such as Frank Russell and SEI, was that stock selection was good, but tampering with asset allocation bad.
It is true that these multimanagers, with their background in pension fund consulting, lacked the skills to manage a TAA programme, but others emerged. The most prominent of these was London-based Prudential M&G. The head of the TAA unit there, Dave Fishwick, had to put up with the kind of abuse from multimanagers that Scientologists get when they leave the church. The worst term of abuse in this somewhat geeky world is to be called a market timer, or a speculator.
I would certainly caution against a speculative approach, but Fishwick has proved to add value the hard way: getting into the detail of different asset classes around the world and establishing the impact of world events.
Johan Botes, chief investment officer of the Sentinel Retirement Fund, the largest fund in the South African mining industry, was an early adopter of TAA. He says it adds 0.3%-0.4% to investment performance, equivalent to the cost of the fund’s total investment fees.
Graham Mason set up the programme for Sentinel when he ran Prudential SA and he now works with Fishwick in the London head office. Mason says investors may have the sense of the right asset mix to achieve their risk and return goals over the very long term. This is the strategic asset allocation, or SAA, not that the airline with the same acronym has had a strategic thought for many a year. The SAA is essential as a framework for an investment policy.
Is a fund with a 65% equity SAA right for you, or one with 40% equity?
Riscura, a Cape-based asset consultant, sees TAA as a searching and fearless fourth step in the process. The first step is to understand and model the goals of the client, then comes SAA. The third step is implementing the strategy through trusted investment managers.
But this does not have to be the end of the process. Mason says returns can be enhanced by adjusting the mix in response to the changing market environment. Avoiding equities at the height of the tech boom would have added substantially to returns. Yet TAA teams remain quite rare — the fixed-asset allocation school is still around and many houses rely on committees of single-asset class managers (equities, bonds and property) to make decisions about asset allocations.
The low point for TAA was the 1990s. There was little to be gained from the exercise as equities and bonds were going up in a straight line.
It was naively believed time was better spent picking securities than “calling” asset classes. In those days the debate of active versus passive approaches to fund management had not yet taken off. Nowadays, of course, it is anything but a given that spending time picking stocks is worthwhile. If anything, looking at asset classes is considered a better use of time. There is no science to picking a fair price for Sappi or Tiger Brands, but it is possible to determine a fair dividend yield for the equity market or property.
Mason remembers the point in the 1990s that TAA was seen as a value-destroying activity.
Many global pension funds were structurally underweight in US equities, which kept becoming more expensive and therefore were continually downweighted. But after the 2001 market crash the pursuit of “alpha” (excess return) in the equity market did not help much as equities as a whole were in decline. TAA has been helpful in a period of market stress, helping to avoid assets delivering sustained losses and looking for areas of the market that can deliver strong returns.
Mason concedes in the past 10 years static strategies have paid off as a mix of globally diversified equities and bonds has delivered equity-like returns with reduced volatility. But TAA keeps coming back. Bonds are unlikely to deliver the same returns they have delivered over the past decade, especially as the benign environment of low inflation and quantitative easing is coming to an end.
Locally, Riscura claims to have the resources to offer TAA, though in many cases it has left the implementation up to Prudential/M&G, which remains the dominant TAA manager.
Certainly the offering has progressed from the early days, when all the TAA manager did was use derivatives to tweak the mix between equities and bonds. Now, says Riscura consultant Prasheen Singh, the asset classes need to be further subdivided: with bonds, inflation linkers and nominal bonds in different roles while in equities and bonds they need to be split between local and rand hedge.
RisCura makes TAA recommendations to clients on the basis of issues such as the debt cycle, liquidity, interest rates, money supply and what it calls “geopolitics”. Riscura founder Jarred Glansbeek takes the impact of geopolitics so seriously he has given up his day job in SA to swan around the world’s capitals full time. It is tough at the top.
IT IS ANYTHING BUT A GIVEN SPENDING TIME PICKING STOCKS IS WORTHWHILE. LOOKING AT ASSET CLASSES IS BETTER