Podcast: Portfolio Allocations Heading Into 2012

January 11, 2012

Podcast: Portfolio Allocations Heading Into 2012

John Lewis, Paul Keeton, and Ben Jones

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From the Archives: The Brave New World of Asset Allocation

January 11, 2012

“We think asset allocation, certainly over the next five to 10 years, begs for a tactical component that is very hard for many investors to deal with because they aren’t structured to think about macro things like equity exposure…”  Ah, yes. Now everyone is singing the praises of tactical asset allocation.  The quotation above is from a major article in Barron’s over the weekend, which is an interview with Mark Taborsky, the head of asset allocation at PIMCO. (subscription required)  If you don’t get Barron’s, at the very least you might want to borrow a friend’s copy and take a look at the interview.

Tactical asset allocation is gaining notice because it is a very useful way to navigate what markets are actually doing, instead of what they should be doing in theory.  Taborsky says, “The majority of people who use the modern-portfolio-theory approach — and it has been with us for more than 50 years — recognize that it has many shortcomings. Anyone who has done it more than a year recognizes how far off their estimates of expected returns are by asset class and how far off their expectations of volatilities and correlations are. It is a very elegant approach, but it doesn’t really work that well.”  It’s refreshing to hear someone else make these points for a change!

Mr. Taborsky sums up the shortcomings of traditional strategic asset allocation very concisely:  ”The traditional approach to asset allocation relies on looking back in history to what asset classes returned. There is a huge reliance on mean reversion. There is a huge reliance on historic volatilities and correlations.”  The problem with reliance on historical norms is that when there is a regime change, and the norms change, you are completely at sea.  PIMCO believes that we have had a regime change, which they call the “new normal.”  If they are correct, strategic asset allocation could have a rough go of it for a while.

Tactical asset allocation seems to be the only logical way to respond systematically to the constantly changing relationships between asset classes.  Our Systematic RS Global Macro strategy (in separate account form or in mutual fund form in the Arrow DWA Tactical Fund) is designed to handle the rotation among asset classes for investors.  Given the fear that retail investors still harbor, it might be just the thing to consider when moving cash from the sidelines back into the markets.

Click here to visit ArrowFunds.com for a prospectus & disclosures.  Click here for disclosures from Dorsey Wright Money Management.

—-this article originally appeared 10/5/2009.  It’s amazing that retail investors are still as nervous now as they were then!  Strategic asset allocation is still subject to breakage every time there is a regime change.  Tactical asset allocation won’t always have smooth sailing either, but it has the prospect of being able to adapt to new conditions.

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Don’t Bet on a Recession

January 11, 2012

Literally.

Although economists are still mixed on the idea of the US slipping back into a recession, bettors apparently think otherwise.  Bespoke carried a nice chart from Intrade about the prospect of the US going into a recession in 2012, which is reproduced below.  Recession odds, at least according to the gamblers, are down to about 25%.

Don't Bet on a Recession

Source: Bespoke

If fears of a recession are part of what is holding the US market back–and who really knows?–changing expectations could be a positive.

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The Only Antidote

January 11, 2012

Sentiment survey after sentiment survey reveal the deep hatred that investors currently have toward stocks.  As pointed out by The Reformed Broker, there is only one antidote.

I would also say that it only takes a sustained bull market of a couple of years for people to forget the blood and guts – so it will be interesting to revisit this story if and when that ever develops.

HT: Abnormal Returns

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High RS Diffusion Index

January 11, 2012

The chart below measures the percentage of high relative strength stocks that are trading above their 50-day moving average (universe of mid and large cap stocks.)  As of 1/10/12.

The 10-day moving average of this indicator is 82% and the one-day reading is 89%.

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