Tactical Asset Allocation : An Alternative Definition

It is common to differentiate asset allocation strategies with respect tothe length of the planning horizon. The process of selecting a long-termtarget asset allocation is commonly called strategic asset allocation. Theshort-term variation in asset allocation around that target is called tacticalasset allocation. In principle, both definitions are based on a oneperiodoptimization framework; often the mean-variance framework ofMarkowitz (1952). They therefore neglect that an investor’s welfare doesnot only depend on his end-of-period wealth, but also on the consumptionof goods and leisure over his entire lifetime. Indeed, the theoreticallyoptimal (strategic) asset allocation strategy is supported in Samuelson’s(1969) and Merton’s (1969, 1971, 1973) solution to the multi-period portfoliochoice and consumption problem. The intention of this note is toemphasize the difficulties when an investor applies a myopic optimizationframework in a stochastic and dynamic market environment. Moreover,to define tactical asset allocation, we do not simplify the strategic optimizationproblem along the time dimension, i.e., restrict it to a one-periodframework as in Brennan, Schwartz, and Lagnado (1997) and Lee (2001).Instead, to contrast strategic asset allocation with tactical asset allocation,we reduce the latter to the intertemporal portfolio choice problem,ignoring the consumption problem (and labor income). Myopic definitionsfor tactical asset allocation strategies are only justified if intertemporalhedging demands are empirically negligible.