Asset Allocation Funds: 6 Picks

Asset allocation thumb wide portfolio

Last Updated Nov 4, 2009 4:49 PM EST

It's the financial fantasy for a post-crash world: Wouldn't life be grand if you could own one mutual fund that invested in domestic and foreign stocks, bonds, cash, real estate, commodities and currencies, freely shifting investments among categories to take advantage of opportunities, and avoid meltdowns? Well, yes it would. Fund companies, including PIMCO, Legg Mason, and Van Kampen, say they've got just the thing for you: They are called tactical asset allocation funds, and a new one seems to roll out daily. The pitch is seductive. Just imagine if your equity fund manager had sold stocks and bought Treasury bonds in early 2008. "Everyone's talking about tactical allocation now," says David Berman, a financial adviser in Timonium, Md.

There’s your first red flag: “Trendy” is usually not a good thing when it comes to an investment category. “It’s a classic case of closing the barn door when the horse is a mile down the road,” says Berman, who has employed tactical allocation as a strategy for years. Now that the horse is galloping away, is there any reason for you to invest in one of these go-anywhere funds?

Yes — just don’t expect they’ll render you invulnerable to downturns, or make you rich with every bull run. A few tactical asset allocation funds, such as T. Rowe Price Balanced (RPBAX) and First Eagle Global (SGENX), have amassed impressive, decades-long track records, beating both stock and bond indexes over the past 10 years. And some financial advisers say tactical funds give small investors access to strategies used effectively — sometimes—by hedge funds and endowments. “Tactical funds can help protect against losses without giving up on growth,” says Matthew Tuttle, president of advisory firm Tuttle Wealth Management in Stamford, Conn.

Still, it’s hard enough to find a fund manager who can make the right calls in one asset class. Tactical allocation requires managers to predict which asset classes will lead and which will lag, and then to own securities that will benefit. Needless to say, they don’t always get it right. But that doesn’t stop some of them from charging high expenses or keeping their investing strategies opaque or both.

How Tactical Funds Work

Tactical allocation may sound like market timing, the discredited investment strategy of jumping in and out of a market to catch upswings and avoid downturns. But tactical fund managers prefer a more nuanced explanation of their approach. They typically hold a wide range of assets, overweighting classes they find most appealing and underweighting ones they consider overpriced or otherwise undesirable. Some choose allocations based on technical indicators, others on fundamentals. “Trying to time the markets doesn’t work,” says Berman. “But long-term buy and hold doesn’t seem to work today either. Investors need a strategy that can be responsive to what’s happening in the markets.”

Though they can go anywhere, many tactical fund managers tend to favor certain asset classes. Take Ivy Asset Strategy (WASAX), which has posted some of the best returns in Morningstar’s “World Allocation” category since its inception in 2000. Its portfolio typically tilts toward foreign stocks. At the end of June (the most recent data available), the fund held roughly 47 percent of assets in foreign stocks, 24 percent in U.S. stocks, 17 percent in cash, 16 percent in gold, 7 percent in bonds, 1 percent in “other” and 12 percent in short sales of stocks and cash instruments.

As that lag in data reporting shows, you won’t always know how the manager is investing tactically. Like all mutual funds, tactical funds are required to report their holdings quarterly. But unlike, say, a large-cap growth fund, a tactical fund might switch most of its assets from stocks to cash to emerging markets to bonds within the span of three months. “These funds can be such a black box,” says Jonathan Citrin, CEO of Southfield, Mich., investment management firm CitrinGroup and adjunct professor at Wayne State University. That’s why Berman prefers tactical allocation investing through a money manager’s transparent separate accounts — typically requiring minimum investments of around $100,000.

Fees and Taxes

Tactical funds’ research and sophisticated moves don’t come cheap. Many of these funds charge front-end loads, and tactical funds’ expense ratios generally range between 1 and 1.8 percent. That expense ratio is about average for actively managed domestic and foreign equity funds, but more than a percentage point higher than comparable index funds. There are exceptions, however. No-load T. Rowe Price Balanced has an expense ratio of just 0.69 percent.

Since some tactical funds trade frequently, you may get nicked with taxes on their capital gain distributions. For example, Ivy Asset Strategy (with a 279 percent turnover rate) gained 2.94 percent for the 12 months through September, but, after taxes, investors in the highest bracket lost money. “It’s not by accident that you don’t see taxes discussed in these funds’ marketing materials,” says Michael Herbst, a fund analyst with Morningstar. A tactical manager typically has to beat a portfolio of index funds by about 2 percentage points per year to generate the same after-tax and after-cost returns.

Some tactical funds, such as BlackRock Global Allocation A (MDLOX) and First Eagle Global, have turnover rates of less than 40 percent, which means their investors aren’t whacked on taxes. But if you plan to invest in a high-turnover fund, it’s best to hold it in an IRA or other tax-sheltered account, where the capital gain distributions won’t be taxable.

How to Choose a Tactical Fund

If you want to put a small portion of your portfolio in a tactical asset allocation fund, look for one that meets the following criteria:

  • A history of 10 years or more. “You want management teams who have worked together through good and bad cycles,” says Morningstar’s Herbst.
  • Solid performance in down markets. Since the point of a tactical fund is to buffer you against bear markets without giving up growth, check how the fund performed in 2002 (when the S&P 500 was down 22 percent) and 2008 (-37 percent). First Eagle Global, for example, gained 10.23 percent in 2002 and lost 21.06 percent in 2008, far better than most of its peers. That said, longtime manager Jean-Marie Eveillard has stepped down from day-to-day portfolio management, so new managers will be making the tactical calls in the future.

Tactical Funds with Track Records

These six tactical funds have been around since 1996; best and worst years noted are from the past 10 years. Average returns for Morningstar’s Moderate Allocation fund category (typically 50 percent to 75 percent in stocks and 25 percent to 50 percent in bonds and cash) are provided for comparison.



Fund

10-year annualized return*

Best year

Worst year

Expense ratio; load
Leuthold Core Investment (LCORX)
9.22%
47.18%
(2003)
-27.44%
(2008)
1.38%;
no load
Ivy Asset Strategy (WASAX)
11.48%
41.31%
(2007)
-25.90
(2008)
1.03%;
5.75% load
Loomis Sayles Global Markets (LGMAX)
9.33%
60.02%
(1999)
-39.34%
(2008)
1.27%;
5.75% load
BlackRock Global Allocation A (MDLOX)
8.96%
35.98%
(2003)
-20.56%
(2008)
1.22%;
5.25% load
First Eagle Global (SGENX)
12.86%
37.64%
(2003)
-21.06%
(2008)
1.14%;
5.00% load
T. Rowe Price Balanced (RPBAX)
4.00%
21.71%
(2003)
-28.43%
(2008)
.69%;
no load
Morningstar Moderate Allocation category
2.90%
20.35%
(2003)
-28.00
(2008)
NA
*Through September 2009

Source: Clint Gharib, J.P. Turner & Co., and Morningstar Inc.


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