IPA Blog

Tactical Versus Strategic Investment Strategies

Tuesday, November 24, 2020
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Will Thorpe, Chief Marketing and Development Officer, Mason Companies

Mason Investment Advisory Services (Mason) was founded in 1982 and today they manage investments for private clients and institutions nationwide. Mason works with 18 nonprofit organizations in Indiana, 16 of which are community foundations. The company was hired by its first nonprofit client in 1998 and their first in Indiana in 2006. Today, Mason works with over 80 institutional clients nationally and manages over $4.4 billion in assets for these clients and over $8 billion as a firm. 

In this blog, Mason addresses one of the primary questions they receive in prospective client meetings and proposal requests—when to use tactical versus strategic investment strategies.

Do you pursue a tactical or a strategic approach to asset allocation and investment management?

To answer this question, we must define each approach. First, let us define tactical. 

Consultants who pursue tactical asset allocation strategies actively shift allocations across their clients’ portfolios in a material manner on a month-to-month and or quarter-to-quarter basis. Consultants will likely utilize a long-term allocation with frequent portfolio adjustments based upon a near-term forecast. Tactical strategies may include only a few asset classes in a broad allocation such as 50% to 70% in equities. Other tactical portfolios may use a target and a range such as 60% in equities with a range of 50% to 70%, and the rest of their portfolio in other asset classes such as fixed income and cash. 

Regardless of long-term allocation, tactical investors actively shift between investment styles like value and growth; market cap weightings like small, mid, and large cap; and regions such as domestic and international. Since these are often near-term or temporary shifts, some may characterize tactical managers as attempting the time the market.

How does a strategic approach differ from a tactical approach? 

Strategic investors develop a long-term asset allocation and maintain this across multiple market cycles. Investors who pursue a strategic asset allocation approach typically define a longer list of asset classes each with a target and a high/low range. 

While a tactical investor may just include a single “equity” asset class from which they decide how to invest, a strategic investor defines multiple equity asset classes such as domestic large cap growth, domestic large cap value, domestic small cap growth, and more. Each detailed asset class has a target and a high/low range or “rebalancing band.” Strategic investors typically keep the same asset classes within their portfolios for longer time-periods than tactical investors. Strategic investors typically use some form of rebalancing to maintain each asset class within the rebalancing band. Strategic investors do not make short-term or near-term adjustments to the asset class targets, rather, they rebalance each individual asset class back to the previously determined target. 

With this understanding of the differences between tactical and strategic investment approaches, is there a way for a foundation’s investment/finance committee to know which approach is better?

This can be a difficult question to answer since performance and volatility differences between these approaches are often not readily available. Surveys of foundation and endowment performance do not typically define the participants by the investment approach used to achieve their results. Asset allocations are often included in these surveys but not the investment management approach utilized by the consultant or advisor. 

What if there was a way to track the long-term performance of investment managers who have pursued these strategies? 

In fact, there is a long-term set of data that can provide one example of performance differences. Morningstar, the mutual fund rating and evaluation service, tracks performance of publicly traded mutual funds. Each mutual fund typically has a stated investment objective. Mutual funds invest in multiple types of strategies and may invest in specific asset classes such as large cap domestic equity or they may pursue multiple asset classes in one fund such as an “all-cap” domestic equity fund.

Morningstar has tracked the results of two types of mutual funds since 1974, which both pursue a “growth and capital appreciation” objective. One subset of these “growth and capital appreciation” funds pursue a strategic approach to achieve this goal and they utilize 50-70% in domestic equities with the rest of the portfolio in fixed income and cash. Another subset pursues a “tactical” approach to achieve the “growth and capital appreciation” goal. These tactical portfolio managers actively shift allocations across investments in a material manner across equity regions and bond sectors on a frequent basis.

If we have a set of mutual funds with the same objective, growth, and capital appreciation, but with different ways to achieve the goal, which has performed better? 

After reviewing the performance of these two groups of funds, there is a clear winner over a long-term period. We reviewed 46 yearly return periods as well as year-to-date through September 30, 2020. Over these 47 periods, the strategic funds outperformed the tactical funds in 25 periods and tactical outperformed strategic in 22 periods. 

What if you invested in both strategies in 1974 and held onto those investments until September 30, 2020? 

You would come out ahead if you chose the strategic funds. A critic may argue that if you started investing in a different year the results would be different. 

What if you began investing is these two approaches in 1975 instead of 1974, or even in 1990 and held these investments until the September 30, 2020? 

We looked at every year as a starting point and the strategic approach would yield higher returns in 44 of 47 periods. If you invested in these two approaches in 1977, 1978, or 1979, you would have come out ahead if you chose the tactical funds. In all other periods, strategic was a better choice. 

While timing the market may be tempting, we believe this example illustrates that over the long-term making tactical shifts to your portfolio based on short-term predictions will lead to worse outcomes. 

Will Thorpe is the Chief Marketing and Development Officer for Mason’s institutional practice. For more information about Mason’s research on strategic vs. tactical investment strategies or more information about Mason in general, please send an email to wthorpe@masoncompanies.com or visit masoncompanies.com/services/institutions.

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