What Is Tactical Asset Allocation?

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When it comes to portfolio management, many experts recommend that you focus on asset allocation. Asset allocation is a strategy that involves building a portfolio around asset classes. You include certain percentages of stocks, bonds, cash, real estate, and other investments, depending on the goals for your portfolio. You don't have to maintain static ratios of asset classes in your portfolio, though.

If you are looking for a way to take advantage of changing asset values, and if you want to keep up with what's happening in the markets, Tactical Asset Allocation is a strategy that can help.

The Basics of Tactical Asset Allocation

Basically, Tactical Asset Allocation (TAA) is a strategy that involves active portfolio management. This isn't about buying specific asset classes in specific quantities and then holding. Instead, you rebalance the percentages of assets held in different categories so that you can take advantage of current market conditions.

For the most part, though, TAA isn't considered completely active. When you create your investment portfolio you decide on your base asset allocation. You set up your desired percentages of each asset class. However, if the market experiences an anomaly, or if conditions change for the short term, the asset allocation is changed. Tactical advantage is used in order to maximize profits, as well as limit losses. Once the desired short-term effect is achieved and the markets settle down a bit, the original asset allocation can be returned to.

TAA is about dynamic portfolio management, and requires that you pay attention to what is happening so that you can change your asset allocation to take advantage of current conditions. For example, if stocks are dropping, and offering a good bargain, it might be worth it to shift to more stocks in order to buy when valuations are low. That way, you get more bang for your buck. Later, as valuations increase, you can shift your asset allocation, selling for profits since you bought while prices were low.

The idea is to switch your asset allocation when conditions indicate that one asset might soon outperform another. Rather than focusing on picking particular investments, the idea is to focus on an entire asset class or sector at one time. TAA works well when you understand how asset classes relate to each other, and how they generally move in response to market stresses. When you have this understanding, you are more effective in shifting your asset allocation to take advantage of the current circumstances.

Bottom Line

If you understand how different asset classes relate to each other, and if you can spot trends in the market, it is possible to use Tactical Asset Allocation to improve your portfolio performance. Realize, though, that TAA works best for those with the skills and knowledge to make it work. And, like all investment strategies, there is no guarantee of success. You can re-balance your portfolio so that it takes advantage of market conditions, and periodically adjust so that you stay on track. TAA is just one more tool that can help you manage your investment portfolio in a way that provides you with higher profits and limited losses.

Miranda Marquit

Miranda is a journalistically trained freelance writer and professional blogger specializing in personal finance. Her work has appeared and been mentioned, in various media, online and off. You can follow Miranda on: Twitter

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  1. Several recent papers provide some additional insight as to why TAA should be considered. Modern Portfolio Theory (MPT), the basis for Strategic Asset Allocation was originally formed as an investment principle in 1952. The world has changed a lot since then! The world has grown smaller – markets are more intertwined…correlations (a key aspect of MPT) have increased meaning that investors no longer receive the benefit of diversification. In 2008-2009, many portfolios using Strategic Asset Allocation lost 40% or more. For some investors who may already be in retirement or close, such a loss is difficult to recover from. One of the key benefits of a well implemented TAA portfolio is the ability to manage downside risk. While many investors focus on return, they often lose site of risk- management. As is sometimes the case…winning is achieved by simply not losing.

    1. Hi Tim, good article. My questions is then what is the alternative and what research has been done on the effectiveness of these alternative investment strategies.

  2. Tactical Asset Allocation is simply a “less severe” form of market timing. While comforting in theory, there is no objective (statistical) evidence to suggest that it works. In fact, the evidence suggests that those who attempt to time the markets most often end up seriously harming their portfolios (and their odds of a successful investment experience). Beyond rebalancing, there’s simply no need to worry about any active strategies (be they TAA or stock picking). Active strategies simply add uncompensated risk to investors’ portfolios.

  3. I have used rebalancing and made asset allocation shifts probably once per year. I understand the fundamentals you have laid out here and this seems like an interesting strategy. It would have been slightly more compelling to see an example portfolio or some numbers to compare.

  4. A tactical asset allocation strategy using valuation as the determining factor of exposure to equities in a risk adverse strategy that limits portfolio drawdowns and preserves capital for investment when bargains are available. The Arbor Asset Allocation Model Portfolio (AAAMP) uses a tactical asset allocation for 100% of its portfolio and has a great long term track record with a fraction of the volatility of the market. Here is is explanation of the strategy:

  5. I think that tactical asset allocation can be an interesting approach when applied to only a portion of your total portfolio, with the majority portion going to a strategic asset allocation where you maintain static ratios of asset classes that align with your long term goals. This approach can help you scratch that urge to invest based on your expectations of trends in the market, while minimizing the risk those hunches can subject your portfolio to. We wrote a blog post about this two-pronged approach that I think fits well with your explanation of tactical asset allocation.

  6. I understand TAA but I just don’t know if all the work it requires is worth it, and there is a decent amount of work. I like to base my investing strategy off theory and proven principles, but I haven’t seen too much concrete evidence that TAA is very effective, have you?

    1. I haven’t seen any research papers on the subject, and would be curious of any results. I had Miranda write this post to get an open discussion going. I’m certainly not married to the method by any means.

      Logically it makes sense. Though you question (rightly) at how much work. The other question also is at how much risk?

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