What is 'Dynamic Asset Allocation'

Dynamic asset allocation is a portfolio management strategy that frequently adjusts the mix of asset classes to suit market conditions. Adjustments usually involve reducing positions in the worst performing asset classes while adding to positions in the best performing assets.

BREAKING DOWN 'Dynamic Asset Allocation'

The general premise of dynamic asset allocation is to respond to current risks and downturns and take advantage of trends to achieve returns that exceed a targeted benchmark, such as the Standard & Poor’s 500 index (S&P 500). There is typically no target asset mix, as investment managers can adjust portfolio allocations as they see fit. The success of dynamic asset allocation depends on the portfolio manager making good investment decisions at the right time. Dynamic asset allocation is just one portfolio management strategy available to investors. (For more, see: 6 Asset Allocation Strategies That Work.)

Dynamic Asset Allocation Example

Suppose global equities enter a six-month bear market. An investment manager using dynamic asset allocation may decide to reduce a portfolio’s equity holdings and increase its fixed-interest assets to reduce risk. For example, if the portfolio was initially equities heavy, the manager may sell some of its equity holdings and purchase bonds. If economic conditions improve, the manager may increase the portfolio’s equity allocation to take advantage of a more bullish outlook for stocks.

Advantages of Dynamic Asset Allocation

  • Performance: Investing in the best performing asset classes ensures investors’ portfolios have the highest exposure to momentum and reap returns if the trend continues. Conversely, portfolios that use dynamic asset allocation reduce asset classes that are trending lower to help minimize losses. (To learn more about improving portfolio returns, see: 6 Ways To Improve Your Portfolio Returns Today.)
  • Diversification: Dynamic asset allocation exposes a portfolio to multiple asset classes to help manage risk. Portfolio managers may make investments in equities, fixed interest, mutual funds, index funds, currencies and derivatives. Top performing asset classes can help offset underperforming assets if the manager makes a bad call.

Limitations of Dynamic Asset Allocation

  • Active Management: Actively adjusting portfolio allocations to meet changing market conditions takes time and resources. Investment managers need to keep up-to-date with breaking macro- and company-specific news to determine its impact on various asset classes. Additional research analysts may need to be hired to help ensure the correct investment decisions get made.
  • Transaction Costs: Dynamic asset allocation involves frequently buying and selling different assets. This increases transaction costs that reduce the portfolio’s overall return. If most holdings in the portfolio are trending higher, a management strategy the favors buy-and-hold investing, such as constant-weighted asset allocation, may outperform dynamic asset allocation due to fewer transaction costs.
RELATED TERMS
  1. Strategic Asset Allocation

    Strategic asset allocation is a portfolio strategy that involves ...
  2. Asset Allocation Fund

    An asset allocation fund is a fund that provides investors with ...
  3. Tactical Asset Allocation - TAA

    An active management portfolio strategy that rebalances the percentage ...
  4. Asset Mix

    Asset mix is the breakdown of all assets within a fund or portfolio. ...
  5. Asset Allocation

    Asset allocation is the process of deciding where to put money ...
  6. Asset Class

    A group of securities that exhibit similar characteristics, behave ...
Related Articles
  1. Investing

    What Is Tactical Asset Allocation?

    Here's how tactical asset allocation, an extension of strategic asset allocation, works.
  2. Financial Advisor

    An Introduction to Asset Allocation

    A portfolio is only as strong as its asset allocation. To create the right one, investors need to determine their risk tolerance, time horizon and goals.
  3. Investing

    Strategic Asset Allocation to Rebalance Portfolios

    This involves setting allocations for various asset classes, then yearly rebalancing the portfolio when it deviates from the initial settings.
  4. Financial Advisor

    Asset Allocation vs. Security Selection: The Main Differences

    Both are important to a long-term investment strategy, but asset allocation and security selection have different missions.
  5. Investing

    Why Asset Allocation Matters in Your Portfolio

    Asset allocation accounts for more than 90% of the investment process.
  6. Managing Wealth

    Achieve Optimal Asset Allocation

    Minimize risk while maximizing return with the right mix of securities and achieve your optimal asset allocation.
  7. Managing Wealth

    Choose Your Own Asset Allocation Adventure

    There are many strategies to help balance your portfolio. Here are a few to get you started.
  8. Managing Wealth

    One Portfolio For Asset Allocation

    If you treat all of your investments as a single portfolio, you will be better able to maximize returns.
  9. Financial Advisor

    4 Steps to Building a Profitable Portfolio

    This is a step-by-step approach to determining, achieving and maintaining optimal asset allocation.
  10. Investing

    5 Things to Know About Asset Allocation

    Overwhelmed by investment options? Learn how to create an asset allocation strategy that works for you as you build toward retirement.
RELATED FAQS
  1. How do I know when to "rebalance" my investments?

    In order to have a disciplined approach using "rebalancing style" investing, you must first setup a defined model that specifies ... Read Answer >>
Hot Definitions
  1. Volatility

    Volatility measures how much the price of a security, derivative, or index fluctuates.
  2. Money Market

    The money market is a segment of the financial market in which financial instruments with high liquidity and very short maturities ...
  3. Cost of Debt

    Cost of debt is the effective rate that a company pays on its current debt as part of its capital structure.
  4. Depreciation

    Depreciation is an accounting method of allocating the cost of a tangible asset over its useful life and is used to account ...
  5. Ratio Analysis

    A ratio analysis is a quantitative analysis of information contained in a company’s financial statements.
  6. Time Value of Money - TVM

    The time value of money is the idea that money presently available is worth more than the same amount in the future due to ...
Trading Center