Smoothing The Path For ETF Investors

[This interview originally appeared in our July 2016 issue of ETF Report.]

Beaumont Capital Management (BCM) is an all-ETF offshoot of Beaumont Financial Partners, a firm that’s been around for more than 30 years, offering comprehensive wealth management—including tax preparation, financial planning and investment management—for high net worth individuals, as well as institutions in 401(k) profit-sharing and other retirement plans.

The decision to create BCM as a separate division stemmed from client demand for access to the institutional defensive tools and strategies Beaumont was known for, at a time when the market was facing its worst downturn since the Great Depression. BCM was started in 2009, and today it boasts nearly $3 billion in assets under management, with roughly $4 billion as a firm. David Haviland, portfolio manager and managing partner heading BCM, tells us what sets the company apart.

Why is defense the best offense when it comes to investing?

Haviland: I learned a long time ago, from my father, that what clients care the most about is not losing a lot of money. And it is borne out in the philosophy of our firm: The No. 1 rule of successful long-term investing is to avoid large losses that become present in bear markets.

We’ve been around since 1981, and we’ve lived through the 2001-02 and the 2008-09 downturns. Our clients asked us if we could institutionalize our defensive philosophy in managing money, and so in 2009, we started Beaumont Capital Management, where we used long-only ETFs and some rules-based systems to provide this defensive capability during downturns.

Is 2009, then, the first time you used ETFs in your practice?

Haviland: No, we’d used them before. We find ETFs to be a very easy and beneficial vehicle to form investment strategies with. You need to learn how to trade them, but once you do, the trading and liquidity is tremendous. You avoid individual company risk, and you can get both passive and active management within ETFs. It’s low cost. ETFs are a great tool, particularly for BCM, where we’re 100% dedicated to providing tactical and dynamic investment strategies.

In a vast world of investment managers, what sets BCM apart?

Haviland: Having an investment advisory background really gives us some unique perspectives on managing money. To be clear, at BCM, we don’t compete against our investment advisor client base. But what sets us apart is Beaumont’s long history of being an advisor, and sitting down with clients. We’ve got a very good understanding of what clients want and/or need. And when we bring this perspective to asset management, it allows us to bring many advantages.

Let me give you an example. In the 401(k) space, when we’re working with a client, we’ve literally been in each and every role within the 401(k) space. We’ve been an advisor to a plan. We’ve been an advisor to a participant. We’ve been an advisor to a sponsor. We’re a sponsor. And now we’re a fund manager in the 401(k) space. That gives us unique perspective when it comes to managing money.

Let’s talk about one of your flagship approaches, which is centered on sector rotation. Why do you think that’s a good way to go?

Haviland: Sector rotation, and momentum-based investing, have been around for at least 50 years.

We’re seeking to take advantage of how sectors perform in different stages of the business cycle, and the stock market cycle. There are times when various sectors are going to outperform, and times they’re going to underperform.

When you're in a roaring bull market, almost all the sectors are on. But in a market like we’re in right now, we’re only invested in some sectors in U.S. large-cap. We’re able to avoid the volatility that’s been present in the energy and materials sectors. That goes to our process, where we’re taking advantage of momentum in each sector. There are more inputs involved, but if the momentum and price movement of a sector is positive, it’s likely we’ll own it. And we equal-weight them in the portfolio.

How are your clients using these sector strategies in their portfolios?

Haviland: Many of our advisor clients use the U.S. sector rotation as a core holding, and as a substitute to the S&P 500, taking advantage of the fact that their clients are looking for an automatic sale process before you get too deep into a rout such as 2008 or 2009. Remember that it’s all about being defensive, so in these strategies, we’re getting out of the way before sectors see large losses. In fact, recently, we were as much as 75% cash during a market downturn, but we got invested fairly quickly as the momentum was re-established.

You also have a separate series called Decathlon. How is that one different?

Haviland: The momentum-based sector rotation series is tactically constrained, meaning it’s constrained to the indices where each of those sectors resides, and uses cash as the defensive mechanism. The Decathlon series is tactically unconstrained. It uses pattern recognition technology to seek investment opportunities that are positive, regardless of where they are. And by “unconstrained,” I mean they’re unconstrained across geography, asset class and market capitalization—we have currency funds, commodity funds, real estate funds; there’s a plethora of choices in equity and bonds.

BCM has attracted some $3 billion since 2009, becoming one of the biggest strategists in the space. To what do you attribute your success? Philosophy? A really strong distribution network and marketing?

Haviland: At its core, our philosophy of not losing large amounts of money resonates well with other financial professionals, because we design our products to meet their clients’ needs. This is backed up by behavioral finance. Investors feel losses far more powerfully than gains. It’s this response to negative returns that drives most investors to do the worst possible things at the worst possible times, which is to sell during the capitulation stage of bear markets. And then, they compound their error by waiting three, five, seven years until the markets have “proven” that it’s safe to get back in, and they invest at or near the top of that next cycle.

What all of our systems do—our momentum-based, sector rotation series, as well as our Decathlon series—is they seek to avoid the vast majority of those losses and smooth the ride for investors, so that everyone can concentrate on doing the right thing—which is get out of the way of the large losses, but stay invested during “normal” market action.

BCM is a tactical shop. How should investors use tactical managers?

Haviland: A properly constructed portfolio should involve strategic as well as tactical components. To be very simplistic, if you were building a portfolio, and you were to put one-third into strategic equity, one-third into strategic fixed income and one-third into tactical, we’d take each of those buckets and then divide again in half.

In the strategic, you would have half in index-based passive investments, and half in the best strategic manager you can find. For example: S&P 500 and Will Danoff of Contrafund, because Will is one of eight managers that has beaten the S&P on a one-, three-, five-, 10-, 20- and 25-year basis.

On the fixed-income side, we would suggest using something like the iShares Core U.S. Aggregate Bond ETF (AGG | A-98), and then maybe the SPDR DoubleLine Total Return Tactical ETF (TOTL | C), which is Jeffrey Gundlach’s fund, which is actively managed and has the ability to generate alpha in a rising-interest-rate environment.

Then you have your tactical allocation, which we recommend be divided into two managers. The idea is to build a robust portfolio that focuses on both active and passive, and it’s diversified. If either the bond or stock part of the portfolio goes into a period of market failure, the tactical manager can rotate out of the way or raise cash. It’s all about smoothing out the ride for the investor, and keeping them invested over a full market cycle.

How do you choose ETFs? Are you provider-agnostic?

Haviland: We are provider-agnostic, with a notable exception to the obvious: In our sector rotation, we offer the State Street SPDRs as our flagship. That’s who we started with originally. For customers who clear through Fidelity, we use the Fidelity ETFs, because currently, they’re trading commission-waived, at the lowest embedded expense ratio. So if you’re supersensitive to expense, then the Advantage series is the preferred family. And we’re also using some First Trust ETFs, which have their own quantitative process.

In our Decathlon series, the process uses price history as part of the system, and tries to avoid overconcentration. So the pool is primarily made up of iShares ETFs. It has a broad selection of ETFs with long track records and diverse attributes.

As the strategist space grows, do you feel pressured to innovate?

Haviland: We’ve got a very well-defined, three-year rolling strategic plan as a business. And we’re continuing to expand within the 401(k) and retirement markets. That is our current strategic initiative. We also just became a model manager on a mutual fund, and are in negotiations on a second fund.

In the near future, we will be getting into more of the institutional market. But the opportunity within the 401(k) space and these other markets is something we’re looking to grow in. I don’t feel any pressure, though. I think our strategies and the benefits they provide speak for themselves.

As an ETF strategist, what’s the opportunity you see in the 401(k) space?

Haviland: I believe it’s massive. And the reason it’s so large is because of the shortcomings of the first generation of target-date funds out there. We offer target-date funds that are among the lowest-cost target-date fund families in the industry. Our total expense ratio, all in, is less than half of the average of actively managed target-date funds used in 401(k)s today.

That's a huge opportunity for us, because one of the main initiatives of the Department of Labor is to reduce overall expenses so that retirees have more money in retirement. Again, because we’re dynamic and have the ability to preserve capital when you need that preservation characteristic, it’s a huge opportunity.

When we designed our target-date funds, we took that with our institutionalized defensive capability, and blended them all together. This is what clients were clamoring for, and that’s where the opportunity for growth is. 

Contact Cinthia Murphy at [email protected].