Expanded Role of Strategic Asset Allocation:
Value Added and Implications

Abstract

The concept of strategic asset allocation (SAA) has significantly changed over the years. Portfolio managers, consultants, and strategists in charge of SAA use a wider variety of asset classes than just stocks, bonds, and cash (to manage style tilts and control currency exposures) and are dynamic in their choices. This article expands the traditional SAA framework to accommodate seven different and popular sources of additional exposures. By expanding the concept of asset allocation from traditional assets to accommodate additional factors tilts using a Brinson-type analysis, the authors show that expanded SAA explains nearly 90% of the variation in active returns, absorbing some of the value added by active management. Analysis of moderate versus conservatively managed funds shows that the ability to add value from active management is partially dependent on the risk budget provided to the active manager. Importantly, this article shows that the majority of excess return in active management comes from the risk premium due to exposure to additional risk factors that can frequently be absorbed within the expanded SAA framework. This implies that it is important to view strategic asset allocation under the expanded framework as it is more reflective of practice and allows better assessment of the role of active management.

TOPICS: Portfolio theory, risk management, analysis of individual factors/risk premia