Five recent asset allocation articles (tactical or otherwise) that you might have missed:
1. ETF Bond Rotation (Alvarez Quant Trading)
Cesar looks at various flavors of a simple momentum-based bond rotation strategy. Using momentum to time bond asset classes has not worked as well as it has with other assets. Unlike most asset classes, very short-term momentum has been more effective than longer-term momentum.
Below we’ve expanded Cesar’s results back to 1974 using our own data set. The asset universe is US intermediate-term (IEF) and long-term (TLT) Treasuries, TIPs (TIP) and high-yield bonds (HYG), We’re allocating the entire portfolio to the top 1 or 2 ETFs with the highest return over the last n-months (trades executed at close, results exclude transaction costs/slippage). Results are shown in two flavors: annual return and Sharpe ratio.
Note the improved performance at shorter lookbacks. Volatility-adjusted performance (Sharpe) beyond 6-months hasn’t been any better than buy and hold. Also note the dip in performance at 2-months – there has been a bit of mean-reversion after two consecutive strong months.
In short: Bond asset classes are not as easily timed with momentum as other asset classes, and shorter-term momentum is more effective than longer-term.
2. KDA – Robustness Results (QuantStrat TradeR)
More data on Ilya’s recently published tactical asset allocation strategy “Kipnis’ Defensive Adaptive” (KDA). We recently put KDA to the test on our blog, and members can track the strategy in near real-time in our members area.
3. Trend-Following: A Decade of Underperformance (Alpha Architect)
Trend-following (TF), a core component of many tactical asset allocation strategies, has underperformed in the decade since the 2007-08 Global Financial Crisis. That should be unsurprising. TF tends to lag strong bull markets, and buy & hold returns over the last decade are near history’s upper limits for most risk assets.
During strong bull markets, anything other than long risk to the gills (i.e. buy and hold) is usually suboptimal. By its nature, TF reduces allocation to risk when it detects weakness in the market (like we saw late last year), but during strong bull markets that is the wrong choice because the market quickly rebounds (like we saw early this year).
Of course, we can only know whether this instance of weakness is the start of a new bear or just a another headfake with hindsight, and so TF continues diligently reducing allocation to risk in response to market weakness knowing that net-net, given enough time, TF outperforms on a risk-adjusted basis.
We saw this in the 1990’s. Trend-following as a whole underperformed during the Dot-Com Bubble, but when one considers the 90’s + the subsequent Dot-Com Bust, TF won the day. Here too, when one considers the 2007-08 crash + the decade since, TF has won the day (I’m making broad statements sans evidence here because I think most of this is accepted knowledge, but the data you find on this site bears this out).
4. The Monsters of Investing: Fast and Slow Failure (Newfound Research)
There were so many great posts from Newfound in the last month (see below), but we chose this one because it talks about a core concept about risk that we think all investors need to understand: failing fast versus failing slow, and how tactical solutions like those you’ll find our site fit into that.
5. Skew and Trend-Following (Robert Carver)
Another brain teaser of a post from Rob. Conventional wisdom says that trend-following is a “positively skewed” strategy – in simplified terms: lots of little losses and occasional big wins. That’s usually considered a good thing.
But Rob shows how that skewness depends on the timeframe you’re considering. The longer the timeframe, the more positively skewed trend-following is. At shorter timeframes (weeks, months) it’s less so, or even negatively skewed.
I’m not sure about the effect of all of this at a practical level other than simply understanding how our toys work, but it would be great to see someone take a crack at a TAA strategy based on some of the observations in Rob’s post.
Other recent links that you might have missed:
- The Largest Cost Facing Investors Today (Two Centuries Investments)
- Rebalancing…Not so Fast (Alpha Architect)
- Three Applications of Trend Equity (Newfound Research)
- Glitch (Newfound Research)
- How Much Accuracy Is Enough? (Newfound Research)
- Trend Following in Cash Balance Plans (Newfound Research)
We invite you to become a member for about a $1 a day, or take our platform for a test drive with a free limited membership. Put the industry’s best tactical asset allocation strategies to the test, combine them into your own custom portfolio, and then track them in near real-time. Have questions? Learn more about what we do, check out our FAQs or contact us.