Staying In Your Lane: How To React To Changing Markets In The TSP

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By on December 28, 2016 in Retirement with 0 Comments

Image of a street crosswalk with 3 arrows depicting which side to walk on

There is always turbulence in the stock market, and at times it can seem like even more than normal.

The recent election is an example, where we saw large swings leading up to it and a somewhat unexpected (for some people) increase afterwards.

In the midst of the turmoil, many people ask about making changes in their TSP or other accounts to take advantage of the situation or at least prevent them from losing money. The difficulty is deciding when and how much to move while keeping in line with your long term plan.

This article will go over some basic concepts and guidelines to use if you are looking to be a bit more of an active TSP investor.

Should I worry about making changes in the TSP?

This is the most critical question. For most people, I recommend coming up with an allocation that is appropriate for them and leaving it alone.

When you begin to make adjustments on a regular basis, it is inevitable that you will make some bad calls and have to deal with either losses or missed gains. Some people, however, would rather take that chance and would feel even worse if they missed an opportunity because they didn’t make a move. Risk tolerance is always a factor in investing, but is a different thing to consider the inherent risk in the market, versus the very personal risk of making a bad judgement. There is a certain confidence and fearlessness that is required to actively move in the market.

If you are the type of person that would like to take on the challenge of active investing, it is going to require a certain amount of time commitment to pay attention to the markets and the larger economy. Although you can no longer day trade in the TSP, there is a lot to monitor even with only two allowed changes per month. You would not want to regret a wrong decision that was made because you didn’t put enough time into making it. This is actually the reason that many active investors stop, as it runs the risk of becoming all-consuming.

What is an appropriate allocation?

This is the starting point for any discussion, even if you are going to be a more active investor. An appropriate allocation is based on your big picture financial plan. This would take into account age, income, risk tolerance, budget, retirement timing, and any other factors that impact your overall retirement goal.

This plan will also reflect when you will need to access your investments. If you don’t need any of the money for a decade, you can afford to be much more aggressive. However if you plan to use it all in the next few years, you would need to be more conservative. Various portions of your money have different usage timelines, and thus will need to be invested differently dictating the the overall allocation.

Once the planning process is complete, there is still a wide variation in appropriate allocations. As an example, an ideal plan might show a suitable allocation of 80% in the C fund and 20% in the G fund. (I will use C and G as the placeholders for the aggressive funds (C, S, I) and conservative options (F, G), respectively.) Depending on the risk tolerance and other factors, the ideal allocation for you personally could be anywhere from 60% C/40% G to 100% C/0% G. Although other people may have very different results, I will use this example for consideration.

How much should I change?

One of the biggest errors that most active investors make is adjusting their overall allocation with wholesale changes to the account. They are usually either all in the C fund, or they think the market will drop and move everything to the G fund. This greatly increases the risk factor of market fluctuations, and also puts you in a situation where you may have a portfolio allocation that is very inappropriate given your overall situation.

The compromise approach is one that allows for modifying the allocation within an acceptable range. In the previous example, that would be ranging anywhere from 60% to 100% in the C fund, and 40% to 0% in the G fund. This is what I would refer to as your “lane”. Shifts can be made from one edge to the other, but you always have an overall allocation that would be considered appropriate.

What if I was wrong?

This is the biggest worry for many people considering a more active investing approach. By staying in your appropriate lane, the consequences can be reduced. The idea is a bit like diversification, where the overall strategy may not match the best performer at any one time, but does well in the end with less volatility.

Strategy Comparison

We will consider three different strategies and their performance in four different scenarios here. The key will be performance versus expectation and the effect of making the shifts.

Static Allocation

This is the simplest strategy, where you stick with the most suitable allocation and don’t make any changes. In our earlier example, that was 80% into the C fund and 20% into the G fund.

Wholesale Shift

This is a strategy where you make a prediction on the direction the market is headed, and move the account either all into the C fund or all into the G fund. There is no other intermediate option.

Staying In Your Lane

This is the strategy based on the allocation compromise discussed above. With an ideal allocation of 80% C and 20% G, the appropriate “lane” can range from 60% in the C fund up to 100%. The shift to either side of the lane will be dependent on your prediction of the markets direction.

Scenario 1:

  • Expectation: Market will go up
  • Actual: C fund goes up 10%, G fund stays flat at 0%.
  • Prediction is correct.
Strategy Allocation (based on expectation) Net Performance
Wholesale Shift 100% C fund 10%
Staying in Your Lane 100% C fund 10%
Static Allocation 80% C fund, 20% G fund 8%

Scenario 2:

  • Expectation: Market will go down
  • Actual: C fund goes up 10%, G fund stays flat at 0%.
  •  Prediction is incorrect.
Strategy Allocation (based on expectation) Net Performance
Static Allocation 80% C fund, 20% G fund 8%
Staying in Your Lane 60% C fund, 40% G fund 6%
Wholesale Shift 100% G fund 0%

 

Scenario 3:

  • Expectation: Market will go down
  • Actual: C fund goes down 10%, G fund stays flat at 0%.
  • Prediction is correct.
Strategy Allocation (based on expectation) Net Performance
Wholesale Shift 100% G fund 0%
Staying in Your Lane 60% C fund, 40% G fund (6%)
Static Allocation 80% C fund, 20% G fund (8%)

 

Scenario 4:

  • Expectation: Market will go up
  • Actual: C fund goes down 10%, G fund stays flat at 0%.
  • Prediction is incorrect.
Strategy Allocation (based on expectation) Net Performance
Static Allocation 80% C fund, 20% G fund (8%)
Staying in Your Lane 100% C fund (10%)
Wholesale Shift 100% C fund (10%)

Results

You will note that the averages all work out to be the same, since we’ve considered all scenarios. In reality, though, the market has been up over the long term. If we focus on the first two scenarios where the market goes up and compare the results, the “static allocation” and “staying in your lane” strategy did equally well, and the wholesale shift falls behind.

Obviously, your results will depend on what your appropriate “lane” is and how often your expectations are correct. It is worth noting that if you are correct only 50% of the time, your overall performance is likely to be similar to doing nothing at all.

Sticking to your plan

Once you have decided on a path going forward, especially if it is to keep your allocation within your appropriate boundaries, it is important to stick with it. It can be very tempting to make bigger alterations, but you can help yourself in the end by staying disciplined.

© 2017 Jason Visner. All rights reserved. This article may not be reproduced without express written consent from Jason Visner.

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About the Author

Jason Visner is a financial advisor with Brook Federal Advisors, and works with federal employees to optimize their retirement benefits. The process starts with a complimentary analysis of the complete federal benefit package, and then builds an overall retirement plan on that foundation. He can provide recommendations on FERS or CSRS annuities, survivor benefits, military/LEO service, FEHB, FEGLI, TSP, IRAs, annuities, and social security. He can be reached at 262-456-5514 or brookfed.com.

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