Redeploying cash with asset allocation strategies

One of the questions we’re often asked by financial professionals is how and when to redeploy cash into the markets. To help answer this question, the T. Rowe Price Portfolio Construction team analyzed the average 12-month excess returns of representative indexes versus a cash proxy over the past four federal funds interest rate peaks (February 1995, May 2000, June 2006, and December 2018). We used the 90-day T-bill as a proxy for cash and cash equivalents, and we compared these returns with stocks (S&P 500 Index), bonds (Bloomberg U.S. Aggregate Bond Index), and a 60/40 portfolio containing a mix of stocks, bonds.

Our analysis focused on the impact of investing at various starting points prior to, at, and after the rate cycle peak. As shown in Figure 1, a typical 60/40 moderate-risk portfolio composed of 60% stocks and 40% bonds outperformed after a fed funds peak.

Asset allocation strategies are designed to provide access to broad diversification in a single holding. They can help to keep down the number of model placements. They can also provide a stable foundation on which to build your model portfolios, allowing investors to use remaining allocations on more aggressive or less diversified positions. And finally, strategies that use a tactical asset allocation approach can add professionally managed tactical asset allocation to an investment model.

Do financial professionals use asset allocation strategies in their models? The short answer is yes. Figure 2 indicates that 48% of model portfolios reviewed by our Portfolio Construction Solutions team in 2023 used an asset allocation strategy, up from 43% in 2021. The most commonly deployed strategies fall in the moderate allocation category, followed by global allocation strategies. Figure 2 also shows that, when an allocation strategy is used in a moderate model, the average allocation is about 10%.

When evaluating asset allocation strategies, it’s important to consider how much emphasis the strategy places on strategic asset allocation (SAA) versus tactical asset allocation (TAA). To simplify this point, we break allocation strategies into two categories. The first category typically provides a broadly diversified portfolio (SAA) in a single strategy with limited tactical overlays (TAA). Most balanced funds would fall into this category. The second category is more tactical in nature, and the holdings will deviate more than those in the first category.

How can an investor tell into which category an asset allocation strategy fits?

First, read and understand the strategy’s key documents, including the prospectus, fact sheet, etc. Second, look for differences over time when searching databases. For example, analyze equity and fixed income allocations over time. Figure 3 shows the equity weights of two T. Rowe Price asset allocation funds in the moderate allocation category: Capital Appreciation and Spectrum Moderate Allocation. You’ll see that the Capital Appreciation fund’s bottom-up investment process results in more tactical equity changes while Spectrum Moderate Allocation leans more heavily on SAA.

In addition, it may be valuable to look at a strategy’s regional exposures, investment style, and market capitalization patterns for its equity allocation. For fixed income exposure, evaluate changes in duration and credit quality over time.

Adding an asset allocation strategy into a model requires looking at the historical weights of the strategy and evaluating funding sources. If you are redeploying cash, use an allocation strategy with a similar equity weight to the model’s equity weight. If funding from other strategies, consider the steps below.

For simplicity, we use a 60/40 (equity/fixed income) asset allocation strategy with a 10% model allocation as an example.

Call 1-800-225-5132 to request a prospectus or summary prospectus; each includes investment objectives, risks, fees, expenses, and other information you should read and consider carefully before investing.