Global tactical asset allocation has seen big changes in the U.S. during the last decade
Global tactical asset allocation managers haven't produced the same low-correlated outperformance of their global macro hedge fund cousins, but top managers are showing skill and added value since the global financial crisis.
GTAA performance has been bumpy, and the second half of 2011 proved particularly challenging. But over three- and five-year horizons, top managers are delivering.
Successful managers include Grantham, Mayo, Van Otterloo & Co. LLC; Newton Group; Pacific Investment Management Co. LLC (subadvised by Research Affiliates LLC); Standard Life Investments Ltd.; and Wellington Management Co. LLP.
Institutional flows into all global balanced/TAA strategies more than doubled in 2011 to $39.2 billion, up from $14.1 billion in 2010, according to eVestment Alliance, Marietta, Ga.
PIMCO's assets rose about 40% in the year to $40 billion; SLI's, about 50% to $21.3 billion; and Newton's, about 60% to $6.6 billion.
GTAA has been radically transformed in the U.S. over the past decade, said Joseph Nankof, partner at investment consultant Rocaton Investment Advisors LLC, Norwalk, Conn. While overlay management once dominated, now GTAA is run either by fully funded long-only managers or in hedge fund strategies such as global macro.
The latter — that is, hedge fund trading strategies — have “protected capital more so than other hedge fund strategies and better than the market as a whole,” Mr. Nankof said. “In a tougher market environment, they provide more downside protection and diversification.”
These funds have attracted a lot of attention and assets from institutional investors, too (Pensions & Investments, Feb. 20).
Christopher Parkinson, head of manager research at investment consultant and fiduciary manager Cardano Risk Management BV, London, contrasts performance of trading strategies with shorter-term views that trade on sentiment, where performance is primarily driven by fundamentals and bottom-up views on individual asset classes.
“Certainly some (managers in the latter category) have struggled,” he said.
But that's understandable given recent market conditions leading managers to seriously question whether the world is different now, he added. For example, if growth will return to Europe, equities there might be cheap; but if Europe is poised for a lost decade, equities are likely expensive.
“That's just a much more difficult operating environment,” Mr. Parkinson said. “That doesn't change our fundamental view that these managers will add value over the long term.”
Data aren't as good for the fully funded side as they are for global macro hedge funds, but “anecdotally, the results are similar,” Mr. Nankof said. But these managers are hindered by more constraints. “They're forced to take a longer-term view,” he said.
That's exactly what makes these strategies attractive, said Steven F. Charlton, director of consulting services at NEPC LLC, Cambridge, Mass.
“Our analysis would say that well-founded investment strategies prove themselves over time. Not all strategies work all of the time, but sound research and a little patience have allowed us to identify strategies that outperform,” said Mr. Charlton.
Truly tactical managers that make use of all possible investment tools will invariably have different processes and different results. “This is not a homogenous group at all,” he said. “The reality is, we have not found one manager that could do everything really well at all times. So, we like to have more than one of these strategies in a client's portfolio.”
Tactical strategies make up 20% of NEPC client portfolios on average.
Recent search and hire activity in the U.S. includes:
- In the fall, the $5.3 billion Arkansas Public Employees Retirement System, Little Rock, hired AQR Capital Management and Newton to each run $50 million in global tactical asset allocation, replacing UBS Global Asset Management. And the $3 billion Chicago Policemen's Annuity & Benefit Fund hired PIMCO and GMO to manage a combined GTAA mandate totaling between $250 million and $300 million.
- In November, the $37.4 billion Illinois Teachers' Retirement System, Springfield, began searching for an active global macro/tactical asset allocation manager to run up to $500 million. The search is continuing. Four managers already run similar strategies for the fund: As of Sept. 30, Bridgewater Associates LP managed $748 million; Wellington, $607 million; AQR, $566 million; and PIMCO, $471 million.
- In January, the $1.4 billion Louisiana Municipal Police Employees Retirement System, Baton Rouge, named Putnam Investments, Standard Life and Wellington as finalists to run a new GTAA portfolio of undetermined size. No one has been hired yet.
In the U.K., interest has grown in a relatively new strategy known as dynamic growth. Many of the strategies incorporate global tactical asset allocation to lower risk and boost returns.
Christopher Nichols, investment director, absolute-return and liability-driven investments at Standard Life Investments, said diversified growth strategies grew out of U.S. endowments' and foundations' use of diversified sources of high-returning (as opposed to liability-linking) assets. He said diversified growth strategies are similar to risk-parity ones, with the addition of tactical asset allocation and subtraction of all asset exposures needing to be equal. “It's dynamic risk disparity, if you like,” he said.
Standard Life's global absolute-return strategy is one of the largest diversified growth funds in the U.K., with £10 billion ($15.9 billion) under management. The strategy delivered annualized five-year returns of 6.64% as of Dec. 31, good for a 13th percentile ranking in the 96-strategy universe of all global balanced/TAA managers tracked by eVestment Alliance.
Mr. Nichols said Standard Life's tactical asset allocation process reliably adds 50 basis points of outperformance over a cash benchmark each year — just a fraction of the 500-basis-point annual outperformance target.
“Tactical asset allocation is a nice extra, not the core of where the major returns come from,” he said. “You don't want to be purely reliant on (TAA) manager skill for all of your returns.” Instead, the strategy relies on directional and relative value bets and a longer-term investment horizon. That requires the manager to be patient, and to hold many different positions so the strategy maintains daily liquidity.
But not everyone is sold on these strategies.
Peter Halligan, investment consultant in Aon Hewitt's global investment management team, London, said: “We certainly believe that dynamic asset allocation does add value. Of our own track record, we've seen that work.”
But diversified growth performance has been sporadic. “The jury's still out,” he said. “This has been an extraordinary period, and we're still in it. We don't know whether the (performance) tailwinds (diversified growth funds) have received (especially in 2009) have been deserved.”
Still, Aon Hewitt has seen “a lot of demand for DGF managers,” Mr. Halligan said. “It's one of our busiest categories.”