Financial Advisor IQ – More Advisors Move Beyond the Style Box

December 2014

A time-tested way of diversifying a client’s portfolio is to visualize its stocks and mutual funds on a tic-tac-toe board, with market capitalization on the vertical axis and the growth-value continuum on the horizontal. But to many advisors, that way of investing is going the way of the DVD player.“It just doesn’t cut it anymore to simply tell a client that you’ve checked off nine style boxes and poof — here’s a diversified asset-allocation plan,” says Kevin Guth, a New Haven, Conn.-based advisor with Snowden Lane Partners, whose team manages more than $350 million.

Although style boxes haven’t vanished, they’re less dominant in wealth management than they once were, say experts. The nine-box grid, invented by Morningstar in 1992, was born of academic research suggesting market-cap size (small, mid or large) and style (value, blend or growth) are the main drivers of portfolio returns. But plenty of advisors have challenged the approach. And following the financial crisis of 2008-09, new mutual funds have come to market based on fresh research into what fuels returns. Now managers try to isolate factors like market momentum, balance-sheet health and volatility.
“Designing asset-allocation plans around style boxes isn’t totally obsolete, but for today’s advisor they’re not the be-all, end-all solution they once were,” says Karen DeRose, an advisor in Chicago with Lincoln Financial’s wealth-management arm.
Even the way stocks respond to global macroeconomic trends has become a factor in asset allocation. “In today’s interactive and more globally interconnected world, emphasizing demographic trends shaped by a more worldly economy makes a lot of sense,” says DeRose, who manages about $225 million.
Her portfolio-construction process starts with choosing sectors she feels have legs, given long-term demographic trends like the graying of America and technology’s inexorable advance. So, for example, she’ll make allocations to health care and tech funds.
Not that style isn’t a consideration. A young client with relatively high risk tolerance is more likely to get a substantial weighting in fast-growth small-cap stocks than a conservative client a couple of years from retirement. “Style boxes still help us to narrow our risks,” DeRose says, “but they’re part of a much broader asset-allocation process.”


Snowden Lane’s Guth follows a growing body of data that tracks how fluctuations in market momentum affect different asset classes. In particular, his team watches where big institutional investors are moving money. For example, about a month ago he and his colleagues began noticing large flows into real estate investment trusts. “Since they usually pay out fairly attractive dividends, we’re starting to talk to clients who are interested in generating more income about adding a little more to their positions in REITs,” says Guth.
A shortcoming of style boxes, in his opinion, is their reliance on a relatively small set of valuation measures, such as price-to-book and price-to-earnings. While those top-line ratios are worth monitoring, Guth’s asset-allocation process also takes a company’s balance sheet into account, looking for data points that show management’s success in maintaining profitability and earnings over the long term.
Including such inputs gives a clearer picture of a stock’s true value than plotting it on the style grid, according to Guth. “With all of the new factors to use in constructing long-lasting and robust portfolios,” he says, “we just don’t find the need to look at conventional style boxes much anymore.”
Extra Complexity?
But advisors shouldn’t get too carried away with newfangled asset allocation, warns Jonathan Tunney, founder of Atlas Capital Advisors in San Francisco. His bias is toward small-caps that land on the value side of the box. He does inject some momentum analysis into the process, to avoid “value traps” — stocks that are cheap for good reason and unlikely to recover. But that’s about as New Age as he’ll get.

“In theory, introducing a lot of new factors into the process can help fine-tune your strategy,” says Tunney, whose firm has AUM of $400 million. “But the reality is that you’ve got to stick to some sort of investment discipline, or you’re just going to create a more complicated plan that’s going to be difficult to keep on track and explain to clients.”

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