Choosing between strategic and tactical approaches

Terry Dimock, head portfolio manager at National Bank Investments, explains the different approaches within the Meritage family of portfolio funds.

Christian Charest 23 November, 2017 | 6:00PM
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Christian Charest: For Morningstar I am Christian Charest. As funds of funds continue to outsell standalone funds in Canada, many investors who have opted to go with an all-in-one solution still have some decisions to make in selecting investment products.

The financial services industry has done a good job in perfecting the process to determine the starting asset allocation for investors, but where do they go from there? To talk about this, I'm joined today by Terry Dimock, Head Portfolio Manager at National Bank Investments, who oversees National Bank's Meritage line of portfolio funds.

Terry thank you for being with us today.

Terry Dimock: Very happy to be here, Christian.

Charest: Now in choosing a portfolio fund an important decision for investors to make is whether they want their asset allocation to remain static throughout their holding period or whether they want it to adapt to market conditions -- what we call tactical asset allocation. Can you tell us the pros and cons of each approach?

Dimock: Well actually with the Meritage solution we actually employ both approaches. So first of all, every year we review the five-year outlook for returns and volatility of every single asset class that we want to have exposure to in our portfolio. And secondly, we want to build a portfolio that is well diversified to address every single product line that we will have for our clients. So, with that approach we build a foundation of the portfolio which we review every year.

On the tactical side the portfolio managers that we select in the Meritage platform have a certain latitude to adjust their portfolios, which gives a tactical tilt to the portfolios depending on market conditions. So, if some of our managers become more defensive, they may reduce their riskier positions and therefore tilt the portfolio to a less risky overall portfolio. So, we want to look at the strategic, with a five-year outlook and then you want your managers to have that latitude to take advantage of any dislocation in the market. But the last part and the most important one is selecting the right managers. We spend a lot of time reviewing and studying our managers to make sure that they have the right approach.

So, every single manager goes through a process we call OP4, so we look at the organization, the people, the process, the portfolio and then the performance which is a result. We want to make sure that all of these managers fit the criteria we are looking for and they will be able to execute on the mandates we give them and therefore execute on the overall strategic allocation that we are looking for.

Charest: So, what should an investor consider when deciding between tactical and strategic asset allocation.

Dimock: Actually, I don't think they should be choosing between one of the other. I think they are both part of an important process that you want to follow as an investor. You want to have a longer term, outlook on what the returns will be for the different asset classes. And then, build a portfolio with the appropriate allocations to each depending on your returns and volatility expectations. And then you want to have that flexibility to take advantages in the short term, if some asset classes become too expensive or some asset classes become undervalued. So that tactical shift allows you to take advantage of short term dislocations in the market. But the foundation of your portfolio is the strategic allocation you'll have, with your review over the next five years. So, its really not either or but really they are all part of a disciplined process the investor needs to have.

Charest: And the Meritage line up of funds has been around for more than a decade. But its only recently that you launched a series of tactical portfolios. Is there a growing demand for this type of approach?

Dimock: Actually, with the advent of ETFs there has been demand for additional types of solutions. But the investors or clients are expecting the same type of discipline that they came to expect with Meritage Portfolio. So, we again look at the strategic asset allocation, the same process. But then we work with the NBF ETF research team to select the right ETFs for every asset class. And not every ETF is built the same, so we want to make sure that we select the right one to put in a portfolio. And then we have that latitude to do tactical changes in working with our CIO, our Head Economist, myself and other experts at the bank to make sure again we can take advantage of short term dislocations in the market.

Charest: Your tactical funds only allow variations of 10% from the starting asset allocation, that's a bit low compared to a lot of other tactical portfolios out there. Why did you choose that threshold?

Dimock: Actually, there are many ways to take tactical allocations in a portfolio. The plus or minus 10% is really the allocation between equities and fixed income. But then there are many other choices that investors have to make. What equities you want to own, do you want to own Canadian equities, U.S. equities, international equities, emerging markets, and you want to have them hedged or unhedged? And then on the fixed income side you want to own government bonds, you want to own corporate investment-grade, you want to own high yield, preferred shares? There are number of different sub-asset classes that you want to be selecting from to build that well diversified portfolio. So strategically just, going from plus or minus 10 on equities versus fixed income is only part of the decision. What you choose as sub-asset classes will make a very big difference on the expectations of returns they can have for your portfolio. And gives us a lot of flexibility to act in the best interest of our clients.

Charest: Terry, thank you very much for explaining all this to us today.

Dimock: Thank you, I was happy to be here.

Charest: For Morningstar I'm Christian Charest. Thank you for watching.

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Christian Charest

Christian Charest