The market has been in 'Towering Inferno' mode the past several weeks. How do you adjust your asset allocation for long term accounts? For example, US Small Capitalization (IWM) has been significantly under performing US Large Capitalization (SPY). This is illustrated by IWM versus SPY in the first plot above.
Do you increase the allocation to small capitalization at this time to bring it back into alignment with your allocation plan? In the long term, IWM will outperform SPY. See the second plot above which shows IWM versus SPY for the last seven years. IWM will substantially underperform during market pullbacks, but it will outperform as the market recovers. During the big down market from 2000 through 2002, IWM still managed to outperform SPY. IWM has lagged quite a bit since August so we may be approaching a reasonable area in which to add to the small capitalization allocation.
One approach for rebalancing long term accounts is to accumulate new money in a money fund and then deploy the money to other asset classes when a trigger condition is hit. For example, the T2108 indicator (or your personal favorite) might be used to mark an oversold zone in which you would rebalance the account to your desired allocations.
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