The recent news that TD Ameritrade is providing over 100 ETFs commission free is a perfect fit for a retirement portfolio. Investors are able to trade once a month and pick from a wide range of ETFs without incurring any trading fees. Combine this with an IRA where the tax consequences of trading are removed and you have an almost ideal scenario and back tested returns demonstrate the point.
There is a continuing dilemma between wanting to increase returns while mitigating downside risk against the perceived risk of adopting a tactical asset allocation strategy. It is clear that tactical asset allocation consistently delivers higher returns at a lower risk. At the same time many are uncomfortable moving away from buy and hold which has been the mantra over the past twenty years.
In a previous article we introduced the notion of a core-satellite portfolio where the assets are split between tactical and strategic asset allocation strategies as a way of introducing tactical asset allocation in a step-by-step fashion.
TD Ameritrade making so many ETFs available commission free allows another alternative to be considered and that is maintaining classic strategic asset allocation – i.e. all asset classes are fully represented at all times but with so many funds in each class, use fund momentum to rotate styles such that the funds in each asset class are regularly optimized.
Category | Jan-08 | Jan-09 | Jan-10 | Apr-10 | Jul-10 | Oct-10 |
US Equities | IWN | VIG | IWS | VO | ||
International Equities | EWJ | EWA | AAXJ | AAXJ | ||
Emerging Markets | EWZ | ILF | VWO | VWO | ||
Real Estate | VNQ | VNQ | VNQ | VNQ | ||
Commodities | DBC | DBC | DBC | DBC | ||
Balanced Fund | AOK | AOK | AOK | AOK | ||
Fixed Income | SHY, WIP, JNK | VCSH, BWX, JNK | CASH, AGG, JNK | CASH, AGG, JNK |
We used the MyPlanIQ system to build and monitor a moderate risk (40% fixed income) strategic asset allocation portfolio. With five risk based asset classes, each of those classes would have 12% of the assets dedicated to them but the funds would be evaluated every month and the optimal fund selected based on the momentum within the class.
This can be compared with a Six asset SIB for which there is just one fund in each asset class.
From the performance chart, it is clear that there is increased upside potential from being able to switch funds within an asset class. Unfortunately, there is less ability to minimize downside risk when an asset class is under downward pressure.
Despite this, for those who want to stay with a buy and hold in terms of asset classes, using this approach can squeeze some extra returns from the strategy.
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With the large number of funds in six asset classes, momentum based asset allocation can be seen in its best light.
Portfolio Performance Comparison
Portfolio Name | 1Yr AR | 1Yr Sharpe | 3Yr AR | 3Yr Sharpe | 5Yr AR | 5Yr Sharpe |
TD Ameritrade Commission Free ETFs Tactical Asset Allocation Moderate | 13% | 87% | 13% | 86% | 20% | 128% |
TD Ameritrade Commission Free ETFs Strategic Asset Allocation Moderate | 10% | 83% | -1% | -6% | 9% | 46% |
Six Core Asset Index Funds Strategic Asset Allocation Moderate | 11% | 93% | 1% | 5% | 8% | 40% |
Takeaways
ETFs provide the basis for an outstanding portfolio with either strategic or tactical asset allocation. This is clearly demonstrated with TD’s wide range of commission free funds
Using a web based application takes a lot of the effort from finding the best funds for either strategy
Strategic asset allocation with styles rotation can deliver solid results using a well trusted strategy
Tactical asset allocation greatly benefits from the large number of funds
Disclosure: No positions
