Looking for ways to stabilize returns and manage downside risk, plan sponsor and investment advisor interest in tactical asset allocation strategies has increased, according to the Center for Due Diligence. This presents unique challenges for plan fiduciaries when evaluating the actual benefits of TAAs, mainly centered on the complexity and diversity of TAA strategies that are available to plan investors.
A white paper produced by the center and written by Marcia Wagner and John Sohn of The Wagner Law Group runs through a number of best practices to consider when implementing the strategies.
In contrast to the passive approach adopted in strategic asset allocation strategies, the authors note, TAA uses an actively managed approach to a portfolio’s allocations based on current market conditions. 401(k) plans and other similar plans with participant-directed investments often include target-date or target-risk investment options utilizing a TAA strategy of some kind.
The best practices and key considerations Wagner and Sohn cite are:
1). Generally accepted investment theories. Plan fiduciaries should gather information concerning the TAA strategy to assess whether the TAA advisor’s investment theories are generally accepted.
2). Tactical constraints. Plan fiduciaries should ensure that the asset allocation investment has a strategic asset allocation (SAA) with a tactical overlay subject to reasonable constraints, ensuring that tactical changes comply with the regulatory mandate to achieve long-term appreciation and preserve capital.
3). TAA’s impact on diversification. Plan fiduciaries should gather information concerning the extent to which tactical changes may cause the investment’s portfolio to become less diversified.
4). Frequency of changes. Plan fiduciaries should perform enhanced due diligence on a TAA advisor that utilizes frequent tactical allocation changes (e.g., multiple changes per quarter), and confirm that each tactical change is being made in a disciplined manner in accordance with its investment theories.
5). Factors given appropriate consideration. Plan fiduciaries should gather information concerning the objective measures (e.g., capital market data, governmental policies) that are being given appropriate consideration by the TAA advisor for purposes of its tactical changes.