/ 20 May 2011

Jargon Buster: Strategic asset allocation vs tactical asset allocation

Investment managers will often refer to a portfolio’s strategic asset allocation (SAA) or the tactical positioning around the SAA (tactical asset allocation, or TAA). What do these terms mean and how are they used?

SAA refers to how the assets of an investment portfolio are divided up among different asset classes, such as cash, bonds and equities.

Generally, portfolios can be categorised as either aggressive, moderate or conservative. Aggressive portfolios will have a structurally high allocation to growth assets such as equities, while conservative portfolios will have a structural bias towards defensive, income producing assets. When designing the portfolio the investment manager will decide on what long-term allocation of assets will allow the portfolio to deliver on its investment objectives. This long-term allocation is what is referred to as the SAA of the portfolio.

The purpose of the SAA, says head of asset consulting at Liberty Corporate Andrew Kemp, is to ensure that over the long term the portfolio achieves its objectives. But because market conditions change over time it is often possible to improve the performance of the portfolio by making shorter-term tactical adjustments to the asset allocation. This is referred to as tactical asset allocation, or TAA.

TAA is structured around the SAA and the investment manager is usually given tolerance bands. For example, the SAA for equity might be 55%, with a tactical band around this of 5% either way, which would allow the manager to increase (decrease) equity exposure to 60% (50%) depending on market conditions. These bands ensure that the portfolio remains broadly in line with its long-term objectives, and protect the portfolio from the possibility that the investment manager might be wrong.

Kemp says that TAA should not be confused with “timing the market”. Investors trying to time the markets generally try to move completely in or out of a given asset class, either in response to market movements or their own investment outlook. Professional investors do not usually attempt to time the market; rather, they will operate within the SAA and TAA framework. The SAA provides the long-term asset allocation, and the TAA provides the ability to add some value from short-term opportunities, but without exposing the portfolio to undue risk.

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