Two examples of this are discussions of actively vs. passively managed mutual funds and the debate between buy-and-hold investing vs. market timing.
Beyond the active/passive debate
We’ve talked before about how the financial press often talks about using actively managed mutual funds or index funds as if those are the only two approaches to mutual fund investing. An unscientific analysis of those articles finds a majority of them coming down in favor of index funds.
In a post titled, The Third Path, we pointed out that those are not the only two choices, and we described SMI’s Fund Upgrading strategy as “an actively managed approach to using actively managed funds.”
We’ve also pointed out that while index funds have done especially well during the post-recession bull market, they are less likely to outperform actively managed funds during a market downturn.
Beyond the buy-and-hold/market timing debate
Buy-and-hold investing is another topic frequently covered by investment writers, and most of those discussions paint it as an either/or proposition: Either you buy and hold investments through thick and thin or you’re a market timer—moving in and out of investments, or even the market, in anticipation of a changing market environment.
That dichotomy could be seen in a recent post on a blog I generally like, A Wealth of Common Sense, when author Ben Carlson said, I’ve “heard people say that buy-and-hold is an easy strategy because it doesn’t require the investor to do anything. On the contrary, I think it’s much easier to be doing something, anything, at all times, than to be a patient, buy and hold investor. Making constant changes to your portfolio can give an illusion of control. More activity gives investors the feeling they can affect positive outcomes, even if the results don’t prove this.”
The results he’s referring to are found in research showing that mutual fund investors tend to under-perform the funds they invest in. How can that be? Because of failed attempts to time the market, moving into and out of the funds at all the wrong times.
Translation? Buy-and-hold is good; buying and selling is bad.
Where SMI stands
SMI’s Just-the-Basics strategy is a buy-and-hold strategy, which is designed primarily for investors using taxable accounts who want to avoid short-term capital gains taxes or those with limited investment choices in their workplace retirement plans. For most investors, though, we recommend our Dynamic Asset Allocation or Fund Upgrading strategies for the bulk of their portfolio, possibly adding a small allocation to Sector Rotation as well (here's a great way to combine all three).
None of these strategies are buy-and-hold strategies, and none are market-timing strategies. Instead, they are trend-following, momentum strategies. Those using Fund Upgrading are always in the market, with their portfolio diversified across five stock risk categories and, if their optimal asset allocation calls for having money in bonds, three bond categories.
Those using Dynamic Asset Allocation can be completely out of stocks at a given point in time, if that’s what the mechanical indicators call for, but they would never be completely in cash.
And those using Sector Rotation will always be in one highly focused slice of the market—again, depending on which sector fund has the highest momentum.
As you read about investing, it’s good to keep in mind that there’s a whole other world that exists outside the realm defined by the typical discussions of actively vs. passively managed mutual funds and of buy-and-hold investing vs. market timing.
As I watch my own DAA-heavy portfolio’s encouraging performance during a time of increased market volatility, it feels strangely good to be following this approach. Can you relate?