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Diversify by Strategy to Stay on Track

Published on February 26, 2018
It’s important for investors to understand how different investment strategies work and how each performs under various market conditions. The chart below highlights 10 investment strategy groups and their performance ranking over the last decade. When building long-term growth portfolios, allocating among different strategies can help to reduce anxiety without sacrificing returns.

US EQUITY STRATEGY BENCHMARK ANNUAL RETURN CHART (2008 – 2017)

Legend: Cp = Competitive Position | Ec = Economic Conditions | Fg = Future Growth | Mc = Market Conditions | Q = Quantitative | O = Opportunity | P = Profitability | R = Risk | Sc = Social Considerations | V = Valuation | Ix = S&P 500 Total Return Index. For more information about AthenaInvest’s Strategy Framework, see https://athenainvest.com/company/academic-foundation/strategy-framework/. Source: S&P Dow Jones Indices LLC, AthenaInvest, Inc.

The last decade appears to have been good for growth or the index, but even in this period different strategies have done well in different years. Over longer periods of time the ranking is even more varied. Investors have short time horizons and want consistent results. Unfortunately, investment returns don’t come in steady streams each year. Investment managers on the other hand, have a long-time horizon and build their research methodology and investment process to take advantage of specific opportunities over long time periods, i.e. 10 years or more. This time horizon mismatch along with wide variations in yearly performance creates investor anxiety and the ever-present question of “Should I change strategies or fire the manager?”

Changing strategies and managers each year is investing roulette that delivers poor results. A better approach is to strategically allocate among different strategies and select managers who specialize in their area of expertise. Over time, these managers will do well at different times and in a variety of market conditions. This strategic investing approach improves performance consistency and helps investors to stay on track. In addition, it gives managers the time they need to gain the full benefit of their investment strategy which in turn allows investors to reap the rewards of their skill.

From the Behavioral Viewpoint


What is Going On?

  1. Investors suffer from Myopic Loss Aversion, the combination of a greater sensitivity to losses than to gains and a tendency to evaluate outcomes frequently. A natural but counter-productive response is to find the “bad investments” of last year and replace them with “good ones”. Of course, this results in buying high and selling low, a sure way to evaporate wealth.
  2. We tend to use heuristics to simplify complex problems and make decisions. While helpful in day to day life, this can cause problems for investors. Unfortunately, without careful analysis and a rigorous process, simple patterns and the associated conclusions may not accurately predict the future. If they do, it’s more often by luck rather than skill.
  3. Because of Fallacy of Control and Overconfidence Bias, we conclude that we know what to do. We take control and start managing our investments, it is our money after all. If you’re not an investment professional the likelihood of long-term success is diminished.

What can we do?

  1. Build a strategy diverse growth portfolio of 5-8 different strategies, each designed to perform in different ways. Take the time to understand each investment strategy. This information will help address important process questions such as how they invest and how market conditions might impact the strategy.
  2. Give investments a minimum of five years and a full market cycle. Evaluate managers on strategy, consistency and conviction, i.e. “Are they staying true to their strategy?” rather than short-term performance.
  3. Work with a financial advisor as a trusted resource and coach. Gain from their experience, perspective and insights. Building wealth is a long-term endeavor that requires time and discipline.

Get Behavioral Investing Insights

Behavioral Viewpoints feature new topics each month which are intended to help advisors and investors gain a deeper understanding of how behavior shapes the investing landscape.

IMPORTANT INFORMATION AND DISCLOSURES

The information provided here is for general informational purposes only and should not be considered an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies.  It should not be assumed that recommendations of AthenaInvest made herein or in the future will be profitable or will equal the past performance records of any AthenaInvest investment strategy or product.  There can be no assurance that future recommendations will achieve comparable results.  The author’s opinions may change, without notice, in reaction to shifting economic, market, business, and other conditions.  AthenaInvest disclaims any responsibility to update such views.  These views may not be relied upon as investment advice or as an indication of trading intent on behalf of any AthenaInvest representative.

You are solely responsible for determining whether any investment, investment strategy, security, or related transaction is appropriate for you based on your personal investment objectives and financial circumstances.  You should consult with a qualified financial adviser, legal or tax professional regarding your specific situation.  Investments involve risk and unless otherwise stated, are not guaranteed. Past performance is not indicative of future performance.

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