A lot of financial advisors and investment experts will pitch clients on something called “tactical investing”. What is tactical investing? Merely an adjustment to your long-term asset allocation in response to developments in the markets. For example, maybe stocks look overvalued based on price-to-earnings (PE) metrics. The tactical investor might reduce the exposure to stocks over the short-term. When stocks no longer appear overvalued, the tactical investor will increase the exposure to stocks. And that’s the key… tactical investing is a short-term deviation from your long-term plan.
But does tactical investing work? Not really. The problem is tactical investing is pretty much the same as market timing. As with the market timer, the tactical investor follows a basic 3-step process:
- Evaluate the current market environment
- Make a prediction about where the market will go in the short-term
- Attempt to trade around that prediction
The only major difference is one of scale. Market timing is often identified as being “all-in” or “all-out”. While tactical investing is more associated with small deviations or adjustments.
But the fact remains that if market timing doesn’t work, then neither does tactical investing.
What about sectors?
Tactical investing can also involve over/under-weighting certain sectors of the market (i.e. energy). Your advisor might say something like, “Well, the energy sector looks cheap, let’s buy some and hold it for a few months until it trades back closer to fair value.”
Rather than predict the movements of the entire market, the tactical investor will focus on a portion of the market. In effect, the tactical investor says, “I may not be smart enough to outperform the entire stock market, but maybe I’m smart enough to outperform in the energy/technology/what-have-you sector.”
Does tactical investing work when applied to sectors? Nope. We can argue all day about how some parts of the market are more or less efficient than others. But the reality is EVERY part of the market is pretty darn efficient. Take the US energy sector for example. As of 2/28/2022, energy companies comprised about 3.7% of the total value of the S&P 500. That’s a relative backwater compared to the 28.1% weighting of tech companies.
But when you look closer, the picture is less rosy. The Vanguard Energy ETF (symbol=VDE) holds about 102 different energy companies. And each of these companies employs lots of smart, capable people who are experts at finding, producing, and delivering energy.
Don’t forget the wide variety of financial firms. Banks, hedge funds, private equity, and insurance companies. They all employ lots of bankers, traders, and analysts. These people spend inordinate amounts of time and resources tracking every facet of supply and demand, pipeline networks, capital availability, profit margins, and almost anything else you can think of that might be relevant to predicting the financial performance of energy companies.
If you think you can keep up with that level of competition, more power to you. The rest of us can focus on diversified index funds and allow the market sort everything out.
That’s what rebalancing is for
Instead of tactical investing, just rebalance! Rebalancing offers a more rational approach to long-term asset allocations. It also relieves us of the burden of predicting where the market will go. When it comes to your investment plan, set a rule for rebalancing and stick to it. You’ll save a lot of time and heartache.
