The Market Is Right, And We Don’t Fight It

Posted: May 16, 2023

One Way sign on Wall Street

As a parent, I try to encourage my daughters to be inquisitive and develop cognitive skills by answering their questions with explanations that encourage conversation. Note that I said, “try,” because I’m certainly guilty of looking at them in the rearview mirror and letting out a, “Because I said so!” from time to time.

Similar contrasting approaches are seen in the world of systematic investing:

  • The process is the abrupt and unemotional, “Because the data said so!”
  • Asset managers and financial advisors have the job of offering explanation and encouraging dialogue about the process and portfolio positioning.

From my girls, the omnipresent question is, “But why, Dad?! Whyyyy?” From advisors, the most pervasive question Blueprint Investment Partners has fielded in the last few years is about declining allocations to fixed income.

Systematic Investing Doesn’t Tell The Market It’s Wrong

Blueprint Investment Partners began reducing exposure to fixed income instruments in late 2020, with more significant reductions coming in early in 2021. It was a strange move if you judged investment decisions by what you heard discussed in the financial media. You may recall how, around that time, the media was more focused on the merits of Dogecoin versus Bitcoin or Ethereum than how the Treasury yield curve was in downtrends or that total returns had been negative for more than a year.

As the worst year for bonds on record played out in 2022, we received some pats on the back and compliments about being right. Our response was, “Nah, the MARKET was right. We just don’t ever tell the market it’s wrong.”

Our allocation decisions had nothing to do with making predictions (which are a worthless exercise, in our view). It was because our process kept shouting, “Because the data said so!”

This is Not a Victory Lap

Financial advisors who have followed our research for a few years know that we have been writing about the 60/40 problem since 2018. Sure, you didn’t have to be Nostradamus to see issues on the horizon. But our point was then, and still is, that these things may be easy to predict in general but it’s impossible to nail the timing with specificity.

So, in May of 2021, when we called out the bear market in bonds, we simply wanted to remind financial advisors that at some point the decades-long party had to end. And when it did, it wouldn’t be pretty.

Specifically, at the time we said:

“Shouldn’t the prospect of negative total returns be a big deal for everyday investors and the financial advisors who serve them? I mean, bond-related investments commonly make up 20-40% of portfolios! The percentage is usually even higher for those in or near retirement.”

But we’re not exactly patting ourselves on the back here and declaring victory, because the data is what gave us our marching orders. It was the systematic investing process that worked, not a prediction. We simply stuck to our rules.

Now What?!

Now, on the heels of the worst year for bonds on record, what are we as an asset manager doing differently? And what adjustments might financial advisors consider?

For us, the answer is…nothing. “Because the data said so!” is a good enough reason for us.

For advisors, we think it will depend on how much confidence you have in your contingency plan (aka risk management).

For advisors who are re-evaluating risk management in their client portfolios, perhaps a more modern form of diversification is in order. At Blueprint Investment Partners, we attack this problem by investing in eight major global asset class, including bonds, only when it makes sense to do so (i.e., when the conditions are favorable).

We do this by focusing on price to determine the optimal environment for a handoff. For example:

  • When trends are generally favorable in equities, we will favor them since they have the highest expected returns and historically generate their strongest risk-adjusted returns in these time periods.
  • In times when non-equity assets historically outperform, we will tilt in that direction instead.

In our view, the exact timing of these regime changes is far less important than having an established plan to determine asset allocation shifts during both favorable environments and the three stages of market declines.

Our goal at Blueprint Investment Partners is to be resilient, nimble, and adaptable in the face of changing and unexpected market environments.

Your Clients Need More Than, ‘Because I Said So!’

“Because I said so!” isn’t an answer my kids usually accept without debate. Neither should you, our advisor partners. Nor should your clients.

Asset managers and financial advisors have the job of offering explanation and encouraging dialogue about the investment process and portfolio positioning. A benefit of a systematic investing process is that it can make these conversations easier because the repeatable, pre-determined rules remove emotion from decision-making.

For advisors, they can explain to their clients in plain English what to expect from the portfolio during various market conditions. This can go a long way in keeping clients anchored to their financial plans during tumultuous times. For example, when Blueprint Investment Partners started trimming fixed income positions in 2020, our advisor partners knew exactly how to talk about these changes with their clients.

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If you’d like to learn more about the Blueprint Investment Partners systematic investing process or how we’re currently allocated within fixed income