Richard Cloutier

Buy and hold strategies make staying disciplined difficult for investors, especially given the variability of returns for different asset classes/strategies during divergent market conditions. Market timing strategies, on the other hand, present significant theoretical benefits, but in reality these benefits are difficult to obtain. Tactical asset allocation, where limited deviations from the strategic allocation are allowed permits the portfolio manager to take advantage of market conditions fits between these two extremes. The authors correlate daily returns for each of eighteen separate asset classes typically used in diversified institutional portfolios and daily closing values of the VIX (the ticker symbol for the Chicago Board Options Exchange Volatility Index). This information is used to select those classes whose returns are most responsive to the level of the VIX. Portfolio allocations for eight selected asset classes are revised depending on the level of the VIX at the daily close of the market. The portfolio is rebalanced on the business day following the day the VIX hits the trigger value. The VIX tactical allocation overlay yields an increase in return over the buy and hold portfolio of approximately 38 basis points. The authors conclude that the tactical asset allocation strategy based on the level of VIX provides a higher return than the neutral buy and hold allocation with a higher Sharpe ratio and lower volatility.

Absolute return strategies attempt to generate positive returns that are uncorrelated with equity or bond markets and can be used to increase diversification and performance within multi-asset class portfolios. The current paper compared diversification and portfolio performance between traditional multi-asset class portfolios and multi-asset class portfolios with the addition of absolute return strategies. Using closing prices from January 1, 2000 – June 30, 2018, this paper back-tested two multi-asset class portfolios, one composed of equities, fixed income securities, and real return strategies, and the other portfolio composed of the same asset classes but with the addition of absolute return strategies. In particular, the absolute return strategies that this paper added were equity market neutral strategies, managed futures, and global macro strategies. Results indicated that the use of absolute return strategies improved diversification by increasing the portfolio’s effective number of bets (ENB) and enhanced risk adjusted returns as measured by improved Sharpe ratios, Treynor ratios, Jensen’s Alphas, and Sortino ratios. In addition, results showed that the benefits of adding absolute return strategies accrued throughout a full market cycle, which included declines and advances. These results support previous research on the individual absolute return strategies and demonstrate that the portfolio performance and investor wealth can be improved with the addition of these absolute return strategies to multi-asset class portfolios.