Using a Flexible Fund in Larger a Portfolio
The idea behind a flexible mutual fund is that the portfolio manager will allocate the portfolio’s assets in such a way to take advantage of performance shifts in the market. Using a simple example, if stocks are performing better than bonds, a flexible fund would likely be allocated more heavily toward stocks than usual. This has the benefit of being more reactive to market conditions than a balanced fund, which maintains a more static allocation to asset classes.
The usual purpose of a flexible fund is to be a so-called “one and done” fund, where such a fund can act as an investor’s entire portfolio. This would be appropriate for an investor who wants to focus on saving and leave the investing to a professional. The choice of a flexible fund over a balanced fund would be driven by the belief that a portfolio manager can add value beyond the strict adherence to allocation guidelines.
Flexible funds, however, get more complicated when included in a larger portfolio. Without a set allocation model, it is hard to predict what percentage of such funds will be invested in a given asset class. So, owning a flexible fund would be inappropriate for an investor who wants to hold 80% of assets in stocks at all times—there would be no way to assure this when a manager has the flexibility to hold as little as 50% or as much as 100% of assets in stocks if he or she wishes.
This fact, however, doesn’t mean that flexible funds can’t be used in an otherwise diversified portfolio. A slight change in how such a fund is viewed can make it a valuable tool. Take, for example, Fidelity Global Strategies Fund (FDSYX). The fund’s strategy is to “allocate the fund’s assets between stocks and bonds of all types, as well as non-traditional asset classes such as commodity-related investments, based anywhere in the world…” The managers will “adjust allocations among asset classes to take advantage of short-term market opportunities and strategic, longer-term opportunities.” The fund primarily invests in other Fidelity mutual funds, exchange traded funds (ETFs) from any sponsor, and individual investments.
An example of the flexibility given to the fund’s managers is its weighting in the domestic equity portion of its portfolio. At the end of June, 2012, this segment of the fund accounted for about 23% of its total assets. At the end of November, 2011, this segment represented about 20% of assets. And, at the end of May, 2011, it was weighted at a little more than 16%. So, in a little over a year, the weighting to domestic equities increased seven percentage points, which is an over 40% change in the allocation. That’s a pretty big shift.
The managers perform economic research, technical analysis, quantitative analysis and fundamental research when making such changes. This type of research may be a little too much for an individual to take on with other life issues, like working and raising a family, getting in the way. So, leaving these decisions up to a professional can make sense. However, such shifts can work out well or they can result in laggard performance. For an investor that wants to have a little more control, without taking control, there is another option.
Create an allocation that makes sense. As a simple example, 30% domestic stocks, 30% foreign stocks, 20% domestic bonds, and 20% foreign bonds and high yield bonds. This approximates the typical 60% stock/40% bond portfolio. Now, trim a few percentage points from each of the four categories, say 3% for each of the equity segments and 2% for each of the bond segments, which results in 10% of the total portfolio. Now allocate that to Fidelity Global Strategies Fund.
At all times the hypothetical portfolio will have at least 27% of assets allocated to both the domestic and foreign stock categories, and 18% to the two bond categories. To ensure strict adherence to the allocations, use index funds. The 10% allocated to the flexible fund, meanwhile, will give the overall portfolio a slight tilt toward the different categories based on market conditions. So the basic structure of the portfolio will always follow your guidelines, but the active component will allow for subtle shifts that may add value over time. The change noted above in the Fidelity fund, for example, would have only shifted the hypothetical portfolio a couple of percentage points overall—a potentially valuable human intervention in an otherwise static portfolio, but not one that would cause material underperformance overall.
This approach isn’t for everyone, but it is an interesting way to rethink funds that can shift aggressively between asset classes. The same logic, however, could be used for an equity fund that invests in both growth and value stocks, depending on market conditions. Pairing a small position in such a stock fund with a larger position in a stock index fund can add human interaction without materially altering a portfolio’s overall makeup.
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.