Sparinvest Insights

Part III

Performance on strategic asset allocation funds – The role of steady allocations

 December 2018   |    Share this article

Kristian Rung Weeke
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Jacob Nordby Christensen
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Speed read

  • Below we have looked at the performance of strategic funds, reclassifying them as ‘steady’ equity allocation or ‘variable’ equity allocation
  • The ‘variable’ segment allocated considerably less to equities following the crash in 2008
  • The risk/return performance of those strategic allocation funds with relatively stable equity allocation has, both on average, and over longer time horizons, been better than strategic funds with more variable equity allocations
  • This seems to indicate that having a relatively stable equity allocation throughout the period leading up to and following the 2008 crash was beneficial to investors as it avoided ‘missing out’ on the post-crash equity rebound
  • The Conclusion is that it is extremely important to select Strategic Allocation funds, which has a systematic and well-defined rebalancing process. Otherwise, the risk of “drifting” in allocation to equity may be significant, and this tends to have a negative impact on fund performance

This article is the second follow-up to the paper “Strategic vs. tactical asset allocation - a performance analysis”. In this paper, we focus on the strategic allocation funds only, asking the question: is there a connection between the steadiness/volatility of equity allocation in strategic funds and their performance? This is particularly interesting when considering the crisis year 2008 and its aftermath, as some strategic funds have exhibited quite big shifts in their equity allocations during that period.


As discussed in the previous paper the data and categorization of the funds are based on Morningstar Direct. The allocation segmentation follows Morningstar Direct Global Category segmentation with Strategic Allocation funds being the ‘Aggressive’, ‘Moderate’ and ‘Cautious’ Allocation funds together. Returns are based on Morningstar Direct’s monthly ‘gross returns’ data (pre-costs) and risk is expressed by standard deviations of these gross returns. Sharpe ratios are used as a measure of excess return over the risk-free rate per unit of risk/volatility.

The total number of funds included in this analysis is approximately 1,500. This is considerably lower than in the original paper (5,556) because we exclude the flexible/tactical funds in this analysis and we only look at funds with track going back to 2003. Please see the first paper in the series (link above) for further elaboration on the methodology and data.

Allocation analysis

To analyse the role of steady allocation in strategic funds, we first divide them into ‘Aggressive’, ‘Moderate’ and ‘Cautious’ allocation funds. We then split the funds in each of these categories into two pools of approximately equal size: Funds where the historical equity allocation has been relatively stable (Steady equity allocation - henceforth ‘steady’) and funds with where the equity allocation has been relatively more variable (Variable equity allocation - henceforth ‘variable’). This has been achieved by a process of dividing the standard deviation of the average equity allocations over the last 10 years for each fund by the average equity allocation for that fund. This gives us a rough estimate of how variable the equity allocation of each fund has been relative to its long-term average allocation.

Exhibit 1 shows the average allocation in the two segments of the moderate strategic allocation funds. In this graph we have only included the funds with long track records (at least 2007) and the aggressive and cautious allocation funds have been excluded for simplicity (but show roughly the same pattern). Although Exhibit 1 does not capture allocation differences within the ‘steady’ and ‘variable’ segments, the graph shows a clear pattern:

  • The equity allocation of the ‘steady’ group on average fell from 50% in 2006 to approx. 45% in the crisis year of 2008, rebounding to 49% rather quickly in 2010
  • The equity allocation of the ‘variable’ group fell much more during the crisis from approx. 49% in 2006 to 39% in 2009 and rebounded rather slowly compared to the ‘steady’ group

Exhibit 1: Average equity allocation of moderate allocation strategic funds from 2003 to 2017 (yearly observations based on monthly averages)

Moderate Allocation

Source: Morningstar Direct and Sparinvest calculations. The equity allocations for each year are based on the monthly average of Morningstar’s Asset Alloc. Equity (net) datapoint for that year. The segmentation of the ‘Steady’ vs. ‘Variable’ has technically been done by dividing the standard deviation of the average equity allocations from 2007 to 2017 for each fund with the average equity allocation for that fund and then splitting the funds into the two groups of roughly equal size. In the graph only funds with extensive dataset on allocation (at lease going back to 2007) have been included.

Exhibit 2 shows the average gross return (GR) in euros on the y-axis and standard deviation on this return (x-axis) for the funds in each strategic allocation segment (cautious, moderate and aggressive). The two lines express the ‘steady’ vs. ‘variable’ funds in each of the segments. The number of funds included decreases with the length of the time period as fewer funds have long track record.

Exhibit 2: Average 3-, 5-, 10- and 15-year risk and gross returns in euro (annualized monthly statistics)

Source: Morningstar Direct and Sparinvest calculations. The gross return (y-axis) is the annualised Gross Returns from Morningstar Direct expressed in percentage points and including price changes, returns and dividends - but excluding costs. The standard deviation (x-axis) is the Standard Deviation from Morningstar Direct calculated on the basis of the monthly Gross Return for the relevant period. The currency is EUR. Data is monthly and all periods end as at 31 August 2018. The segmentation of funds into Cautious, Moderate and Aggressive Allocation follows Morningstar Direct’s Global Category segmentation.

The 3Y and 5Y graphs show more-or-less equal performance from both ‘steady’ (yellow line) and ‘variable’ funds (dark gray line). However, the 10Y and 15Y graphs show a relatively higher performance from the ‘steady’ allocation funds (corresponding to the yellow line being above the dark gray line). The exception to this is the 15Y graph which shows the Aggressive Allocation point as being similarly positioned across both ‘steady’ and ‘variable’ equity allocation segments.

In other words: on average, and over shorter time horizons, the performance of strategic funds with relatively stable allocation to equities has been in line with funds with a more variable equity allocation. However, going back to the crisis year 2008 and its aftermath (captured in the 10Y and 15Y graphs) the ‘steady’ strategic allocation funds have outperformed the ‘variable’ ones. This probably relates to the relatively large decrease in equity allocations of the ‘variable’ group immediately after 2008 and slow re-allocation to equities thereafter (see Exhibit 1). As equity returns rebounded relatively quickly after 2008, the ‘variable’ group ‘missed out’ on some of these positive equity returns compared to the ‘steady’ funds which maintained higher equity allocations over the same timeframe.

The information contained in this article is not, and should not be construed as, a solicitation or offer, or recommendation, to acquire or dispose of any investment or to engage in any other transaction, or to provide any investment advice or other financial or banking service. The material has been prepared solely as a guide to you and your financial institution. There are always risks involved when investing and it is stressed that past performance or past return cannot be considered a guarantee for future performance or return. Sparinvest does not undertake any responsibility for the advice given and actions taken or not taken in respect of this material. Sparinvest makes reservations for possible typing errors, calculation errors and any other errors in the material.

Also read

Part I - "Strategic vs. tactical asset allocation – a performance analysis"

Part II - "Strategic vs. tactical asset allocation – Performance during the financial crisis"

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