Morningstar Advisor - February/March 2013 - (Page 62)

Gray Matters Exhibit 5 Breakdown of Excess Return, Excess Standard Deviation Excess Return Category 1 (%) 2 (%) 3 (%) 4 (%) 5 (%) 6 (%) 7 (%) 8 (%) 9 (%) 10 (%) Conservative Allocation 0.2 0.3 0.2 0.6 0.4 0.1 0.1 –0.1 –0.1 0.4 Avg (%) StDev (%) 0.20 0.21 t stat Slope (%) 3.0 –0.02 –0.94 t Stat Moderate Allocation 0.2 0.2 0.1 0.3 0.3 0.2 0.4 0.2 0.3 –0.5 0.16 0.23 2.2 –0.03 –1.11 Aggressive Allocation 0.2 0.2 0.1 0.1 0.2 0.4 –0.1 0.1 1.3 –0.5 0.20 0.42 1.5 0.01 0.17 World Allocation 0.0 0.5 –0.5 0.3 1.1 1.1 0.1 0.1 0.0 1.4 0.40 0.57 2.2 0.07 1.04 1 (%) 2 (%) 3 (%) 4 (%) 5 (%) 6 (%) 7 (%) 8 (%) 9 (%) 10 (%) t stat Slope (%) t Stat Conservative Allocation 0.0 0.0 0.0 –0.4 –0.1 –0.2 0.0 0.3 0.1 0.4 0.02 0.22 0.3 0.04 1.81 Moderate Allocation 0.0 –0.1 –0.1 –0.2 –0.1 –0.2 –0.2 –0.1 –0.2 0.3 –0.08 0.14 –1.8 0.01 0.49 0.0 0.0 0.0 0.0 0.1 0.0 –0.4 –0.1 –0.2 0.3 –0.04 0.17 –0.7 0.00 0.14 –0.2 –0.2 0.5 0.1 –0.2 0.0 –0.2 –0.1 –0.6 –0.4 –0.13 0.27 –1.5 –0.05 –1.82 Excess Standard Deviation Category Aggressive Allocation World Allocation assets in bonds, less than 70% of assets in stocks, and at least 40% of assets in non-U.S. stocks or bonds. We segmented each of the four Morningstar category groups into deciles based on the standard deviation of equity allocation of the funds over the test period (in this case, the historical variability in a fund’s equity allocation). Funds in the first decile had the highest standard deviations in the equity allocations and those in the 10th decile had the lowest. We then looked at the excess return, excess standard deviation, and the average equity allocation of each group relative to the seven-proxy portfolios (Exhibit 5). The average excess returns were positive and significant for three of the four groups at the fifth decile. There is somewhat of a trend; those funds with greater flexibility (world allocation versus conservative allocation, for example) tended to have higher returns. However, the slope of the excess return line indicates that those conservativeallocation and moderate-allocation managers who took on less risk tended to have higher excess returns, while the world-allocation managers who took more risk tended 62 Morningstar Advisor February/March 2013 to have higher excess returns. This trend is even more pronounced when looking at the excess standard deviations of the group. While not statistically significant, the mutual funds with more equity volatility tended to be less risky. Signs of Alpha The results of this analysis suggest that portfolio managers in balanced mutual funds have been able to add value by making tactical changes in the portfolio allocation when compared to their long-run aggregate exposures, both from a risk and return perspective. While this may seem like a victory for proponents of tactical allocation, and it is to some extent, the average annual improvement in performance was relatively small, approximately 20 basis points. This alpha was statistically significant, but it is not likely enough to overcome the costs associated with tactical decision-making and the fees associated with active managers. Regardless, it does appear that the tactical decisions made by actively managed mutual fund portfolio managers have been Avg (%) StDev (%) “intelligent” in that the varied exposures of the mutual fund have outperformed the long-term average exposures. K David Blanchett, CFA, CFP, is head of retirement research with Morningstar Investment Management division. References Brinson, Gary P., L. Randolph Hood, and Gilbert L. Beebower (1986), “Determinants of Portfolio Performance,” Financial Analysts Journal, vol. 42, no. 4 (July/August), pp. 39–44. Brinson, Gary P., Brian D. Singer, and Gilbert L. Beebower (1991), “Determinants of Portfolio Performance II: An Update,” Financial Analysts Journal, vol. 47, no. 3 (May/June), pp. 40–48. Ibbotson, Roger G. and Paul D. Kaplan (2000), “Does Asset Allocation Policy Explain 40, 90, or 100 Percent of Performance?” Financial Analysts Journal, vol. 56, no. 1, pp. 26–33. Ptak, Jeffrey (2012). “In Practice: Tactical Funds Miss Their Chance,” Morningstar Advisor, February/March, pp. 26–30. Sharpe, William (1975), “Likely Gains from Market Timing,” Financial Analysts Journal, vol. 31, no. 2 (March/April), pp. 60–69.

Table of Contents for the Digital Edition of Morningstar Advisor - February/March 2013

Morningstar Advisor - February/March 2013
Contents
Contributors
Letter From the Editor
Social Media, the Old- Fashioned Way
Do You Use Active Strategies?
Youth Appeal
How to Buy the Unloved 2013
Morningstar Managers of the Year
Investments á la Carte
Investment Briefs
Approaches to Absolute-Return Investing
In Agriculture, It’s Good to Be Strong
Yes, There Are Good Active Funds
The Decoupling
Where It Could Pay to Be Active
The Active Fund That Defies Obsolescence
The Epitome of an Active Manager
Lines of Communication
The Existence of Market Timing ‘Intelligence’
A Route to Commodities that Bypasses the Futures Market
Best Positioned for Health-Care Reform
Diversified Stock Funds That Earn Their Stars
Our Favorite Mutual Funds
50 Most-Popular Equity ETFs
Undervalued Stocks With Wide Moats
A Twisted Debate

Morningstar Advisor - February/March 2013