At Astor we often say that we focus our attention on the most important question: asset allocation.  For the typical US investor that means primarily the ratio of equities to fixed income and secondarily allocations to diversifying assets to smooth the portfolio returns.  Once you have decided these broad allocations your ultimate returns are – for the most part – already baked in the cake.  In my opinion the selection individual securities within those asset allocation decisions are much less important.  It is an irony of our industry that most of the talk on TV, at conferences or in research notes is about individual companies while in my opinion most of the return is in the asset allocation.

I want to highlight a recent article shows how important asset allocation is in a slightly different investment environment: international markets.  Here stock pickers are making a joint bet on the country and a the stock.  With emerging markets in particular one might think there could be a great deal of room for stock pickers to shine by finding undiscovered gems, especially during times when a country is out of favor.

In fact, we see the opposite.  The most important decision again is the asset allocation decision (in this case understood as allocation to each country) and security selection is again secondary.

In last Fall’s Journal of Investing Marshall Stocker examined (See: Triage in a Global Financial Crisis: Countries, Sectors, or Stocks?) the performance of international mutual funds in the period 2007 to 2013.  This is an interesting period because it contains the global financial crisis (giving rise to drawdowns of over 50%) and emerging market stocks (as measured by the MSCI Emerging Markets total returns index were only up modestly as a whole (about 3% / year).  This leaves a lot of room for managers to distinguish themselves by stock picking.  For example, a prescient manager might have rotated out of commodity stocks when the commodity super-cycle turned in 2008.

Stocker looked at 100 funds benchmarked to international the MSCI developed or emerging market indexes.  The funds provide monthly country asset allocation so it is fairly simple to calculate the difference in returns between those actually obtained and what the returns would have been if the funds had simply invested the MSCI index for each country rather than picking stocks.  He found that about 44% of developed market returns and about 79% of emerging market returns are explained by the country selection rather than the stock selection.

I won’t be disingenuous and pretend that this particular proof doesn’t come at a good time for Astor.  We have recently finished an extensive research project on an Emerging Markets Asset Allocation product to be launched as another member of the Astor Solutions suite of products.  Like our other products this will be a portfolio of ETFs, in this case the largest EM markets are represented.  Also like all of our products this will be able to get defensive if economic fundamentals do not warrant investments in some countries.

At Astor we see our job as helping with the most important investment decision, namely the asset allocation. This recent study is more evidence that this is the correct decision.

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