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The End of Buy and Hold?

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Since the market turbulence of the late 2000s shot investors’ faith in more traditional investing, there’s been quite a lot of discussion of Tactical Asset Allocation.

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This form of investing focuses on allocating certain portions of your portfolio to different asset classes, and then ramping up or pulling back on any one of those classes depending on certain factors.

The most common of those factors is valuation: if stocks, for example, start to look very cheap based on historical metrics (like price-to-earnings ratios) you might load up on those. World events might drive some sector rotation as well. Uncertainty in the oil producing regions of the world might convince an investor that there could be an economic slowdown brewing and push them to put more into cash.

Doubts About Tactical Asset Allocation

In a way, it’s a middle ground between trying to pick individual winning stocks and hands-off investing, which focuses on the long term and minimal trading. The problem is, it’s hard to consistently do well.

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Wall Street Journal columnist Jason Zweig is among those who argue the strategy still has a lot to prove. “The frustration of both individual investors and professional investors after the past 10 years of agony, I guess, we should call it, is really, really high. And it’s completely understandable; people have thrown their hands up. They say, buy and hold doesn’t work. The whole ‘stocks-for-the-long-run’ thing isn’t working for me anymore,” he explains. “So I’m going to do something different, and I’m going to take control…[but] common sense would tell you that if you didn’t do so well when you were making a small number of decisions, going to a system in which you’re going to make a large number of decisions and expecting that you’ll be right more often probably isn’t the best way to think about it.”

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Recently, I spoke to Rodney Johnson who runs an actively-managed ETF that aims to tactically invest, AdvisorShares DENT Tactical ETF (DENT). Johnson’s ETF looks to apply the demographic insights pioneered by Harry S. Dent, Jr. to the markets. And even armed with Dent’s considerable insights and Johnson’s own multi-decade career in finance, the ETF’s still-short history shows that Tactical Asset Allocation can be challenging terrain.

Demographic Investing

Harry Dent became famous in the early 1990s when his method of economic forecasting based on changes in demographic trends was made famous in his 1992 bestseller “The Great Boom Ahead.” In the book, Dent accurately predicted the previously unexpected economic boom of the 1990s.

His namesake ETF, launched in September 2009, benefited early from another prescient insight from Dent: his model predicted a big slow down in 2008 due to the fact that most baby boomers would by then be past their prime spending years.

Here’s the pattern Dent’s model focused on:

1. The developed world is driven by consumer demand.

2. Historical U.S. Government statistics produced in the Consumer Expenditure Survey indicated that U.S. consumers are very predictable. We increase our spending up until around age 49 when we are young, raising kids and borrowing to own a home and a car (or three). Then our spending slows and we begin to save. Once the kids are grown, we focus on paying down debt and saving.

3. The number of Americans age 48 peaked and then began to decline in 2008, as the bulk of the baby boom moved past 48.

4. That contraction in the number of peak spenders will continue through about 2023.
Dent was right, history did repeat itself. With their children grown, boomers stopped spending as much, stopped borrowing as much, and instead started paying down debt. Federal Reserve statistics indicate that total U.S. revolving debt dropped from $958 billion at the end of 2008 to $796.5 billion in November 2010.

Johnson says this is part of why the U.S. consumer has been less responsive to low interest rates and other government attempts to get them to spend. “Paying down debt, saving money and socking it away,” is what the boomers are focused on Johnson says. “There’s not a lot the U.S., China, Ben Bernanke or anyone else can do about that.”

Johnson is no cowboy type. He left the bond trading desk at Prudential Securities over a decade ago because it had begun to feel like “poker over the phone.” But without a driving demographic force to push consumption, Johnson has concluded that investing requires more flexibility, the kind of asset rebalancing used in Tactical Asset Allocation. Rather than look at a particular investment’s core attributes, à la Graham and Dodd, today he’s focused on the momentum in different asset classes and their strength relative to one another.

Tackling Tactical Asset Allocation

Johnson acknowledges that this isn’t the simple answer many investors are looking for. “We’re at a point where the largest cohort in our population is very focused on saving for retirement and they’re not prepared,” he says. “There’s nothing people can point them to and say, ‘If you just do this you’ll be good in 12 years,’ but that’s what they want.”

Instead, investors may have to get more comfortable with ongoing uncertainty and change. Just a few months ago, the Dent ETF was 18% in cash and 12% in Chile, but right now oil companies are winning big in his analysis.

Translating long-term trends into frequent trades and shorter-term gains hasn’t been smooth for Johnson. The DENT ETF currently carries a net expense ratio of 1.5%. It is up 5.8% since its September 2009 inception, compared to a 27.9% climb for the S&P 500 during the same period, though it has beaten the benchmark so far this year.

Since the launch, Johnson has tweaked his approach, rebalancing at different times and putting more emphasis on key short-term trading triggers like the unemployment report. Long term, he thinks commodities and precious metals are likely to go down, but he holds some of those anyway because in the short term he thinks they’ll perform. There are a few sectors he won’t touch because they are too potentially hazardous in his estimation, among them commercial real estate, residential real estate and the mortgage-backed securities tied to each.
Clearly, Tactical Asset Allocation isn’t easy.

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