There’s no consensus on what defines “tactical” for asset allocation, but I know it when I see it. But on Wall Street and beyond, the details vary widely, enough so that two investors chatting about the topic can be referring to radically different ideas. Cue up an invitation to lay down some thoughts on the basic assumptions of a tactical asset allocation strategy.
Strictly speaking, it’s tempting to define anything other than a buy-and-hold strategy as tactical. But that goes a step too far. If you start with a 60% stocks/40% bonds portfolio, and rebalance it to target weights once a quarter or at the end of the year, for instance, I don’t see that as a tactical strategy; rather, it strikes me as a simple risk-managed portfolio.
Sure, the lines can blur, but tactical for me is a strategy that actively (we can debate definitions here, too) seeks to generate risk and return results that materially differ from a passive (or lightly rebalanced) benchmark. It’s a gray area, but a mechanical return to target weights doesn’t look tactical to me. A key reason: no analytics are required, and there’s no formal forecast embedded in the rebalancing. Instead, it’s a decision to reset the portfolio to a set of target weights.
By contrast, a strategy that relies on a model to forecast risk and/or return on some level, and then uses those forecasts to rebalance, is tactical. A simple rebalancing strategy, by contrast, is forecast-free and instead relies solely on current data.
Tactical, then, requires some level of ex ante analysis, whereas rebalancing is an ex post exercise. Granted, rebalancing to target weights assumes that the change in weights will yield superior results in the future, but the change in portfolio weights is driven solely by reviewing current portfolio data, perhaps in the context of a calendar date (i.e., a predetermined period of time has passed).
So far, so good. On this basis, defining tactical vs. non-tactical is clear. But once we step into the tactical space, rejiggering asset weights based on some ex ante basis opens up a world of variation. It also brings us into the blurry realm of separating a tactical strategy from a strategic one.
At a high level, it’s easy to distinguish between the two: tactical is short-term, strategic is focused on the medium-to-long-term outlook. How do you distinguish between long and short horizons? Minds will differ, but as a basic step I consider tactical to be targeting no more than three years; anything beyond that is strategic in my view.
Note, too, that strategic, unlike tactical, comes in two varieties: passive or active. The distinguishing variable: Is the strategic rebalancing based on current data or a pre-set calendar date, or is ex ante analysis part of the mix?
It’s easy to see how definitions can blur, but this is only a problem from an academic perspective. An investor needn’t worry about whether her strategy has a tactical, strategic, or passive tilt. Rather, results are all that matter.
What, then, is the point of getting into weeds on what constitutes tactical, strategic or passive? Mainly, it’s an issue of deciding what’s best for your investment strategy, and understanding how the distinctions will influence results.
Choosing between a tactical, strategic, or passive investment strategy will influence risk and return. On that point, there can be no debate. The only question is how much control do you want over those results, and how much risk are you willing to assume to achieve a given result? Improving the odds that you’ll achieve your goal starts by understanding the pros and cons of how these portfolio strategy definitions differ.