By Dan Miller, WCI Contributor

Growing your money is an important part of saving and investing. If you just keep your money under your mattress or even in a bank account, you're likely to lose purchasing power due to inflation. There are many different ways to invest your money, and it's important to understand a variety of different methods so that you can find the one that works the best for you. One investment strategy to be aware of is called tactical asset allocation.


What Is Tactical Asset Allocation?

Tactical asset allocation is an investment strategy where you shift how much you have in different asset classes based on market anomalies or the pricing of different market sectors. One way to define tactical asset allocation is to think of it as taking the strategic direction of your portfolio and tweaking it based on how the market is priced or how you expect different sectors to perform over the short to medium term.


Tactical Asset Allocation vs. Strategic Asset Allocation

Before you can truly take advantage of tactical asset allocation, you'll want to understand what it means to have a strategic asset allocation. The difference between strategic asset allocation vs. tactical asset allocation is important to understand.

You might have a sample portfolio consisting roughly of:

  • Large Cap Stocks: 25%
  • Small Cap Stocks: 20%
  • Dividend Stocks: 15%
  • International Equities: 10%
  • Bonds: 10%
  • Cash: 10%
  • Commodities: 10%

This breakdown is considered your strategic asset allocation and an ideal percentage breakdown. Over time, as the value of certain assets goes up and down, you may rebalance your portfolio to keep your actual values in line with your strategic asset allocation. For example, if large cap stocks have become 28% of your portfolio and bonds have fallen to just 7%, you might want to rebalance back to 25% and 10%, respectively, by selling some of your large cap stocks and buying more bonds. This regular rebalancing is separate from a tactical asset allocation.

With tactical asset allocation, you might take an active role in updating the allocation of your different assets. One example might be that you decide that stocks are overvalued as compared to commodities. So, you might decrease the percentage of your overall portfolio that you have invested in stocks, and put more of that money into commodities. Conversely, you might feel that the stock market is undervalued at a certain point in time and put more of your cash toward various forms of equities. 

More information here:

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Should You Use Tactical Asset Allocation?

Once you understand the basics of tactical asset allocation, the first question you might ask yourself is, “Does tactical asset allocation work?” The answer to that depends largely on your own individual skill and acumen in determining overall market trends. In a manner of speaking, this could potentially be a good thing, since you are essentially “betting on yourself” in terms of your skill as a market analyst.

For example, if you decide that commodities are undervalued compared to equities and adjust your portfolio accordingly, one of two things will happen. Commodities will overperform, increasing the value of your portfolio. Or they will underperform, meaning that your portfolio will lose money compared to what it might have earned had you not intervened and kept your portfolio more in line with your strategic asset allocation.

Also, tactical asset allocation by its very definition requires a more active approach to managing your investments. If you're the type of investor who prefers a more hands-off approach, this may not be the right option for you. If you're looking for an investment strategy that allows you to “set it and forget it,” you might consider investing in index funds instead.

As WCI Founder Dr. Jim Dahle wrote, “In essence, [tactical asset allocation] is market timing lite. While careful study will reveal that lots of smart investors (Bernstein, Bogle, Buffett, etc.) have written about this, you need to recognize that, like all market timing, it requires a somewhat functional crystal ball for success. That's something I don't have, so I don't do this.”


Some of the Best Tactical Asset Allocation Funds

tactical asset allocation

If you're looking to use tactical asset allocation but don't want to be bothered doing it yourself or if you prefer having an expert manage your money, there are tactical asset allocation funds. While choosing the best tactical asset allocation fund will largely be a matter of personal preference, here are a few tactical asset funds to consider:

  • Arrow DWA Tactical Macro (DWTFX)
  • Columbia Adaptive Risk Allocation Fund (CRAAX)
  • Hilton Tactical Income Fund (HCYIX)
  • Hussman Strategic Total Return Fund (HSTRX)
  • Franklin Strategic Real Return Fund (LRRAX)
  • Quantified Market Leaders Fund (QMLFX)

More information here:

How to Build an Investment Portfolio for Long-Term Success

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The Bottom Line

Tactical asset allocation is an investment strategy that relies on determining which investments or asset classes are undervalued or overvalued. Using that information, you can adjust your overall portfolio (sometimes known as your strategic asset allocation) based on where you think the market is headed in the short to medium term.

While tactical asset allocation can provide additional returns compared to a more passive approach, it does require you to be accurate with your predictions. If you are correct, you may earn additional returns, but if you aren't, you may get a lower return than you might otherwise have achieved. Tactical asset allocation also requires additional time and involvement, so it may not be the best strategy for you if you prefer a hands-off approach.

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