Strategic vs tactical asset allocation: Finding the right balance

Growing your wealth by investing is all about finding the correct balance. One of the most important, and perhaps biggest decisions is how you should divide the total corpus you wish to invest into different investment types, be it debt, or equity, or other asset classes like real estate or gold.

Experts feel that investing is all about balance, and how you allocate your assets plays a huge role in your success. But, investors need to make a choice between two approaches – strategic asset allocation or tactical asset allocation, depending upon which one aligns better with your overall investment goals. The latest episode of Mint Money Shots, presented by Invesco Mutual Fund, saw Deputy Editor at Mint, Neil Borate, shed light on asset allocation and whether investors should take a strategic approach or a tactical one towards this.

Watch the full episode below,

What is asset allocation?

Asset allocation is the process of strategically distributing your investment capital across various asset categories. These categories can typically include equities, fixed income, and cash or cash equivalents. Other asset classes can include real estate, commodities, and alternative investments.

The specific mix of these assets within your portfolio is not arbitrary – it must carefully be considered based on several key factors that are unique to each investor. These factors can include:

• Your financial goals such as retirement, down payment for a house, funding children’s education funding
• The time horizon you have to achieve those goals like short-term or long-term
• Individual risk tolerance (conservative, moderate, aggressive)

“Simply put, asset allocation is how you divide your investments among different asset classes, like stocks, bonds and cash. The right mix depends on your financial goals, time horizon and risk tolerance,” said Borate.

Strategic vs tactical asset allocation

“Strategic asset allocation is like setting the foundation of your financial house. It’s a long-term plan where you decide on a fixed asset mix and stick to it, adjusting only when your goals or circumstances change,” Borate added.

He explained this with the help of an example. If you are a conservative investor, your strategic asset allocation could comprise of 60 per cent bonds, 30 per cent equities and 10 per cent cash. Once the asset allocation has been established, the investment portfolio needs to be rebalanced periodically to maintain this asset allocation, even if markets fluctuate. The primary goal of strategic asset allocation is to minimise risk over the long term while providing returns that are consistent with the investor’s objectives. It lays the emphasis for a disciplined, buy-and-hold approach, which displays resilience through short-term market fluctuations.

“Tactical asset allocation, on the other hand, is more hands-on. It involves making short term adjustments to your portfolio based on market conditions or economic trends with the aim of taking advantage of opportunities. Imagine you notice that tech stocks are expected to perform well in the next 6-12 months, you might temporarily increase your equity allocation from 30-40 per cent to capitalise on that trend, planning to revert to your original allocation once the trend passes. It is a more active strategy, requiring research, timing and sometimes a higher risk tolerance,” Borate said.

How are they different and which approach is right for you?

In summary, strategic allocation is about staying steady through ups and downs, while tactical allocation is about seizing short term opportunities.

Which approach is right for you depends upon several factors such as your investing style, risk tolerance, and the time you are willing to spend managing your portfolio. Borate offered some words of advice for investors: “If you prefer a hands-off approach, strategic allocation might be better. It is ideal for long-term investors who value stability. On the other hand, if you are comfortable taking risks and enjoy following market trends, tactical allocation can help you boost returns, but it requires more attention and effort.”

“Here’s the good news. You do not have to choose just one. Many investors use a combination of both. For example, you might stick to strategic planning for 90 per cent of your portfolio and use the remaining 10 per cent to tactically explore high potential opportunities. Whether you choose strategic, tactical or a mix of both, the key is to ensure your asset allocation aligns with your financial goals and risk appetite,” he concluded.

Key takeaways,

• Smart investing starts with asset allocation. Wisely dividing your funds across different asset types is a primary factor in reaching your financial objectives.
• Two main strategies exist. While Strategic allocation is a long-term, steady approach with periodic adjustments, tactical allocation involves actively changing your mix to chase short-term market opportunities.
• Your preferred style, risk tolerance, and how much you want to manage your investments will determine whether a strategic, tactical, or combined approach is best for you.

Disclaimer: Mint Money Shots is an editorial series, sponsored by Invesco Mutual Fund.