The investment portfolio cocktail of 60% equities and 40% bonds has many critics — big financial institutions have lined-up to sneer at the mix for over a decade now.
Investors have been urged to look at more exotic options to generate gains amid questions over the outlook for returns from bonds. Yet over the last 14 years, you would have done better by holding a 60/40 portfolio than following some other hyped-up strategies.
Skepticism about the value of 60/40 portfolios hasn’t abated though, and now the concerns are about more than just the low returns from government bonds.
The key principle underpinning the 60/40 strategy is that the smaller fixed-income allocation should cushion losses when stocks slump. Yet during a bout of market volatility in March, both equities and bonds sold off at the same time.
If both asset classes were to start moving in tandem regularly, that would call into question the whole point of holding lower-returning bonds as a hedge. So what can a retail investors do?
Don’t panic
While the worries are all valid, they don’t mean a 60/40 asset split has suddenly become financial suicide overnight.
“60/40 is not a bad place to start,” said Christine Benz, head of personal finance at Morningstar. “The idea it’s dead is a straw man investment firms sometimes throw out there because they are peddling other strategies, oftentimes more complicated, oftentimes more costly.”
If you want to go the DIY route, be clear on your objectives. There’s a huge difference in an appropriate allocation for someone looking to retire in 30 years, versus someone looking for returns five years out.
Even during the time when 60/40s were in vogue, financial advisers wouldn’t have suggested someone on the brink of retirement allocate the majority of their money to volatile equities. Equally, a 20-year-old would have been told to allocate more to growth assets.
And remember, balanced portfolios are never designed to deliver the maximum possible level of return. You’re probably not going to get the type of market-trouncing returns Cathie Wood’s growth-focused ARK funds notched up in 2020.
Rather, the idea is to preserve capital, provide diversification and protection in bad times, as well as an acceptable return.
Be realistic about those returns
In a world where 85% of developed-market government bonds are yielding below 1%, likely returns from a traditional mix have plunged. While Vanguard data show a 60/40 mix returned an average 9.1% a year from 1926 to 2020, JP Morgan Asset Management recently estimated it will return just 3.7% over the next decade.
Bond yields have started to rise again, meaning it’s a better jumping off point than it was for new investors, but with interest rates at record lows across advanced economies, high returns on safe assets are something of the past.
That’s true even for the pros. Hedge funds have increasingly moved into more and more exotic products — think everything from complex derivative products to music back catalogues — yet returns have been patchy and come with high fees.
“There aren’t a lot of mispriced cheap assets out there,” said Simon Doyle, head of fixed income and multi-asset strategies at Schroders Australia.
Don’t assume the answer is just more tech stocks
As bond returns have plunged, many retail investors have upped their allocation in stocks, lured by the potential for higher growth. While over the long term equities have historically outperformed bonds, that’s not always the case — following the tech bust in 2000, equity indices essentially went sideways for a decade.