SMI Advisory Services was born 20 years ago when Austin Pryor, Mark Biller, and a handful of key partners joined forces. SMI Advisory Services currently serves as the Advisor to three SMI mutual funds as well as Private Client, a separately managed account advisory business.
Last year, SMI Advisory Services partnered with a research firm named 3Fourteen Research. The new joint venture, 3Fourteen & SMI Advisory Services (the “Advisor”), serves as the advisor for the SMI 3Fourteen Full-Cycle Trend ETF (FCTE), one of the fastest-growing active ETFs ever with nearly $450 million in assets. The Advisor has just launched its second ETF, called the SMI 3Fourteen REAL Asset Allocation ETF (RAA).
Improving on 60/40
As this month's cover article, Real Asset Allocation: The World Has Changed, explains, conventional 60/40 portfolios rose to prominence during the 1998-2021 period when inflation concerns steadily retreated and, as a result, stocks and bonds tended to be negatively correlated. In other words, when stocks would falter, bond yields would tend to drop, causing rising bond prices to cushion stock losses within the portfolio.
However, before 1998, this was not the normal order of things. More often than not, stocks and bonds tended to be positively correlated, meaning they rose and fell together. Since inflation’s resurgence in 2022, this positive correlation has been more prevalent again. This is potentially dangerous to 60/40 portfolios and investors who rely on them.
RAA combats this tendency in two ways. First, it employs a broader array of assets beyond simple indexes of U.S. stocks and bonds. Historical returns from this more broadly diversified benchmark dating back to 1995 suggest this step would improve on the performance of a simple 60/40 portfolio.
Second, this expanded menu of potential asset choices has a trend-following process applied to it. This steers RAA’s allocations to those assets exhibiting the strongest combination of recent trend and mean reversion characteristics according to the strategy’s proprietary process. Multiple layers of risk control provide guardrails against potential volatility, with the end result being higher returns without correspondingly higher risk.
This trend-following process, applied to a broadly diversified menu of assets, has produced impressive results, both in 3Fourteen’s historical decades-long backtest, as well as in live results since they publicly began tracking the Real Asset Allocation model in 2023. See this month’s cover article for a detailed explanation of the RAA strategy and backtest results.
Benefits of the ETF structure
Importantly, the ETF structure offers several compelling benefits:
Significant tax benefits for taxable accounts.
ETFs can avoid realizing most capital gains that accrue to their underlying holdings. Unlike traditional mutual funds, which must distribute these gains to shareholders periodically, or owning individual stocks directly, which requires gains to be realized when positions are sold, ETFs are largely able to shield shareholders from gains realized when the portfolio sells stocks. Of course, ETF owners still must recognize any gains associated with an increase in the price of their ETF shares when they are sold. But the ability to avoid realizing most gains generated within the portfolio along the way allows deferral of tax for as long as the ETF is held, a significant tax advantage.Broad diversification.
The breadth of assets within RAA spans fixed income, equities, and alternatives. Getting exposure to such a broadly diversified portfolio, particularly in the specific combinations used by RAA, would be challenging and cumbersome for most individual investors.Simplicity and ease of use.
RAA owns the correct proportion of all 20 assets, delivering appropriate diversification to even the smallest accounts while still being able to apply the frequent incremental risk adjustments that are so important to the strategy. RAA can be easily bought from any brokerage account that allows ETF trading.Low contribution thresholds.
While owning exposure to all 20 RAA assets could cost several thousand dollars, a perfectly balanced RAA portfolio can be purchased with as little as ~$25, the recent price of a single share of RAA.Giving opportunities.
Along with the tax benefits described in point #1, keeping most gains embedded in the ETF shares creates an opportunity for investors in taxable accounts to gift appreciated shares to charity, avoiding realization of long-term capital gains while fully deducting the security’s market value.
Dynamic Asset Allocation to include RAA
RAA is such a compelling and complementary strategy that it has been incorporated into SMI’s Dynamic Asset Allocation model. As such, you’ll find RAA being included everywhere the Dynamic Asset Allocation model is utilized. Specifics regarding the inclusion of RAA within the SMI newsletter’s application of Dynamic Asset Allocation will be covered in future strategy updates, but it will enter the strategy with a recommended 50% allocation.
RAA charges an expense ratio of 0.85%, in line with many other actively managed ETFs. To learn more about RAA, visit 3FourteenSMI.com.
