What is Tactical Asset Allocation?

By Chris Chen CFP | Financial Planning

Jul 01

Tactical asset allocation can enhance a long term strategy

Asset Allocation

Strategic asset allocation, the practice of maintaining a strategic mix of stocks, bonds, and cash, has guided many investors in creating portfolios that suit their risk profile and long-term investing goals.  This widely used strategy is a long-term, relatively static tool and is not intended to take advantage of short-term market opportunities.

Proponents of tactical asset allocation, in contrast, take a shorter-term view. Tactical asset allocation is the practice of shifting an asset allocation by relatively small amounts (typically 5% or 10%) to capitalize on economic or market conditions that may offer near-term opportunities. Tactical asset allocation differs from re-balancing, which involves periodic adjustments to your strategic allocation as a result of portfolio drift or a change in personal circumstances. With tactical asset allocation, you maintain a strategic allocation target, but fine tune the exact mix based on expectations of what you believe will happen in the financial markets.

Tactical asset allocation also can involve shifting allocations within an asset class. For example, an equity portion of a portfolio may be shifted to include more small-cap stocks, more large-cap stocks, or other areas where an investor perceives a short-term opportunity. Note that mutual funds that invest in these areas may impose restrictions on short-term trading, and it is important to understand these restrictions before making an investment.

A tactical approach involves making a judgment call on where you think the economy and the financial markets may be headed. Accordingly, a tactical asset allocation strategy can increase portfolio risk, especially if tactical allocations emphasize riskier asset classes. This is why it may be a good idea to set percentage limits on asset allocation shifts and time limits on how long you want to keep these shifts in place.

In addition, when evaluating investment gains that are short-term in nature, such as those on investments held for one year or less, it is important to understand taxes on short-term capital gains. Currently, short-term capital gains are taxed as ordinary income, where the highest marginal tax rate is 39.6%. In contrast, long-term capital gains on investments held for more than one year are taxed at 15% for most investors, 20% for joint filers earning more than $450,000.

 

© 2013 S&P Capital IQ Financial Communications. All rights reserved.

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About the Author

Chris Chen CFP CDFA is the CEO and a Wealth Strategist with Insight Financial Strategists LLC in the Boston area. He specializes in retirement planning and divorce financial planning

John July 2, 2013

Thanks for clarifying this issue. It has bothered for a while that I did not really understand it.

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