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How Tactical and Strategic Asset Allocators Run Their Practices: Practice Edge, December 2009

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All advisors, no matter how big or small, have a primary goal to help their clients reach individual financial goals. However, the way each advisor approaches that goal can deviate significantly. Strategic asset allocation and tactical asset allocation are two sides of the same coin–they’re both investment management practices aimed at creating and maintaining an investment portfolio that aims to help investors reach their financial objectives.

In strategic asset allocation, long-term capital expectations are integrated with a client’s goals and a target allocation is established. A key assumption is that an investment tends to remain relatively stable over long periods of time. In tacticalasset allocation, portfolio adjustments are made based on short-term expectations for an asset class. Most “tactical” advisors still create long-term strategic asset allocation targets for client portfolios, but they also make periodic adjustments for the asset mix based on the short-term market environment. In short, tactical asset allocation keeps an eye to the long term but regularly adjusts asset allocation for changing market conditions.

In recent years, more and more advisors have become tactical in order to find opportunity and hedge risk in an increasingly challenging market. According to Rydex|SGI AdvisorBenchmarking data, 16% of advisors surveyed were tactical in 2003–by 2009, that doubled to 32% of advisors. In 2008 and early 2009, those firms with investment philosophies that allowed for flexibility and dynamic decision-making were able to retain clients better in the economic crisis–91% retention for tactical advisors compared to 79% for strategic advisors. According to Bryan Schreiner, from Exton, Pennsylvania-based Schreiner Capital Management, “Investors simply cannot tolerate the extreme losses inherent in passive investing–eventually they throw in the towel.” The firm’s goal is to achieve an 8%-20% return regardless of what market does, and he reports that the firm’s asset under management (AUM) grew by 20% in 2008. Schreiner believes that active management is a necessity and that it will be more central part of every advisory practice in the future.

Currently, the investment landscape is pretty evenly split–about 49% of advisors declare themselves “strategic,” while nearly 32% of advisors say that they are “tactical asset allocators” (The remaining 19% is comprised of those labeling themselves as “market timers,” “core and satellite investors,” or “other.”)

Drilling deeper, we discovered that advisors with different investment styles also build and run their businesses very differently in terms of how they spend their time and their staffing.

1. How Time is Spent

Tactical and strategic advisors spend their time very differently (see Chart 1: How Are They Spending Their Time?, below). Tactical advisors spend the majority of their time on portfolio management (35% vs. 20%) while more strategic advisors spend more time on marketing (15%) and business administration (20%) than their counterparts. This distinction is not surprising given that a more active investment style requires more attention to investments and their day-to-day-movements.

2. Money Management–a Larger Focus

Both tactical and strategic practices spend the same percentage of their expenses on their staff and that staff looks very similar, with one exception (as indicated in Chart 2: What Are They Doing?, below): tactical advisors who provide investment management in-house typically employ more portfolio managers/analysts than their strategic cousins. Strategic advisors typically employ more client service specialists. This is not surprising, given that money management is a larger focus for tactical advisors.

3. A Look at Expenses

The biggest expense for tactical advisors, by far, is their own compensation (40% of expenses vs. 20% for strategic advisors). Tactical advisors, not surprisingly, given their active investment style, also spend more on research than strategic advisors. Both compensate staff equally–20% of their expenses go to their staff. However, strategic advisors spend much more than their tactical counterparts on marketing/advertising.

4. Priority on Investment Management

Most tactical firms (83%) said they did not conduct staff layoffs and did not reduce principals’ compensation compared to 30% of the strategic advisors who conducted staff layoffs. When running an advisory firm, investment management is the most important area for the tactical firms.

Differentiating Your Firm Based on Your Tactical Approach

While we can’t predict the future, there’s no doubt that the investment environment is much more challenging than the go-go period we saw in the 1980s and 1990s. Top advisory firms make client communications a priority during all business environments–and they emphasize it even more when times get tough. So no matter which investment philosophy you employ, remember the importance of communication–make sure your client have a solid understanding of your approach and philosophy and how it will help them reach their goals. This will not only help you retain clients during difficult economic times, but will also put you in a position to increase your profitability when markets fully recover.

Maya Ivanova is a market research manager with Rydex|SGI AdvisorBenchmarking She can be reached at [email protected].

Rydex|SGI AdvisorBenchmarking is a research and analysis center focused on the registered investment advisor (RIA) marketplace. The service is aimed at helping advisors grow and enhance their firms by comparing how their businesses fare against other advisors. Advisors also learn best practices of the most successful advisors in the business.

AdvisorBenchmarking is an affiliate of Rydex|SGI. The analysis on Rydex is based on the number of completed surveys and reflects only information from those surveys. This information is intended to be general in nature, and these overviews are no substitute for professional, legal or consulting advice. This information should not be construed as advice from Rydex Investments|SGI and it affiliates or any of its affiliates.