Active Portfolio Management

How do I grow my portfolio AND protect it?

We get it! You want to remain aggressive so you can grow your wealth and fund your retirement, BUT you can't risk another devastating bear market like the 2008 financial crisis. You need to maximize the growth and protect your portfolio from protracted declines. How do you accomplish both?

Traditional portfolio management, based on Modern Portfolio Theory, suggests investors should simply "buy and hold" a diversified mix of different assets. This approach assumes that we cannot avoid market declines and that the best way to reduce the risk of market declines is having a fixed percentage of bonds in the portfolio to buffer downturns in the stock market. This approach also assumes that since we cannot predict which asset classes will be winners, we should own a broad mix of all asset classes.

We feel that this approach has major flaws and is inadequate for today's retirees. Here's why:

1. Bonds do a poor job of reducing risk.  While dedicating a certain amount of the portfolio to lower risk assets like high quality bonds can reduce risk of the overall portfolio, this often does not achieve enough risk reduction. A portfolio that is 60% equities and 40% bonds will still experience 60% of the equity market's risk. When we consider that stock markets can experience declines of 50% or more like they did in 2008, this still exposes the portfolio to a high degree of downside risk. Additionally, most people believe that when stocks go down, bonds will go up and provide protection. But history has shown this is not always the case. In fact, much of the time stocks and bonds are positively correlated--meaning they move in the same direction.(1) Furthermore, bonds have risks of their own including interest rate risk. Simply buying and holding a fixed percentage of stocks and bonds will not work effectively under all market conditions. 

2. Diversification does a poor job of reducing risk in extreme market events. Diversification assumes that you can reduce risk by spreading your investments among many different asset classes. This does reduce the risk of putting all your eggs in the wrong basket, but diversifying among all asset classes means that you will have some bad eggs in the portfolio. Research has shown that lagging asset classes tend to persist in underperformance while leading asset classes tend to persist in outperformance (1). In addition, during extreme market downturns, like the financial crisis of 2008, stocks tend to perform similarly no matter their asset class--and plunge together.

3. Buy-and-hold relies on having LONG time frames and ignores the potential volatility of the market. Investors near retirement don't have decades to invest. Markets can be very volatile over the short term. Extreme events are more common than we like to believe. To investors, even 5 years is a long time and 10 years is an eternity. From 1900 to 2014, the S&P 500 has had 5 year periods with declines of more than 15%, and 10 year periods that ended more than 4% below where they started (1). A negative decade like that is disastrous to any retirement plan. 

Surely, there's a better way!


Our Process

We take an active approach to portfolio management. Our process is:

Research-based: Our investment process is data-dependent. We do not manage portfolios based on our opinion on where markets may be headed but on empirical data and probabilities. We use quantitative and technical analysis to analyse market trends to identify opportunities and manage risk. 

Rules-driven: Our investment process is based on specific rules that we derive from our indicators (below). This removes the human emotional component from the investment process, which is often where investors go wrong.

Responsive: Our goal is to adapt to market conditions to reduce risk and improve returns. Our goal is to be fully invested in bull markets and avoid bear markets. We have developed three indicators that we use to evaluate markets on different time frames:

  1. Short Term Indicator: Evaluates market conditions over a period of days to weeks
  2. Intermediate Indicator: Evaluates market conditions over a period of weeks to months
  3. Bull / Bear Indicator: Evaluates market conditions over a period of 1 year or longer

Each indicator is data-dependent, relying on a series of sub-indicators. We have created a range of strategies to fit a range of different risk tolerances, from ultra-conservative to highly aggressive, based on our three indicators and other data-dependent measures. To learn more about our indicators or various investment strategies, schedule a meeting with us by clicking the link below:






(1) Adam Butler, Michael Philbrick, Rodrigo Gordillo, Adaptive Asset Allocation (Hoboken, NJ: John Wiley & Sons, 2016).