The 60/40 portfolio is back. What experts think could happen next

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The 60/40 portfolio is back. What experts think could happen next

The diversified model portfolio of 60% stocks and 40% bonds is back — and whether it will continue to work depends on whom you ask and what may happen with the economy. The global 60/40 strategy has seen a 27% cumulative return since 2022 through Oct. 31, according to Vanguard data. Traditionally, stocks and bonds move in opposite directions, which helps lower the volatility of this traditional portfolio. But that didn’t work in 2022, when stocks and bonds both suffered and the 60/40 tanked, which had many declaring the strategy *****. The plain-vanilla portfolio can have good and bad moments, like the -30% one-year trailing return it dove to in February 2009 and the 37% one-year trailing return it reached in February 2010, per Vanguard. However, it has produced solid long-term results, said Todd Schlanger, the firm’s senior investment strategist. “The 60/40 is really a long-term investment,” he said. “If you look at 10 years, it’s been actually remarkably steady.” As of Oct. 31, the portfolio had a 10-year trailing return of 6.54% annually, he said. The 60/40 portfolio tends to be shorthand for a balanced, diversified portfolio, with specific allocations based on investors’ individual needs. Those who can take more risk may be heavier in stocks, for instance. Diversifying in an up market When the market rallies, as it has this year, investors may not care much about diversification, said Dan Lefkovitz, a strategist for Morningstar’s indexes group. For instance, Morningstar’s index that reflects a 60/40 portfolio is up about 15% year to date. The S & P 500 has gained 25%. Morningstar also has indexes that target a variety of allocations, which result in different returns and varying degrees of volatility, the latter of which is measured by the standard deviation of returns . Yet when the market tumbles, that diversification can help guard against losses, as recently evidenced during the third quarter, Lefkovitz said. From Aug. 1 to Aug. 5, the Morningstar US Market Index tumbled 6.28%, but the Morningstar US Core Bond Index gained 1.53%. Then, from Sept. 2 to Sept. 6, equities fell 4.32% while bonds added 1.27%. “During sell offs, you want to have assets that are zigging while stocks are zagging, and bonds did that,” he said. Not only can bonds provide a smoother ride, they also provide decent yields for investors looking to extract more income from their portfolios, he added. That said, the correlation between stocks and bonds doesn’t always work, as happened in 2022, Lefkovitz said. Recent research by his colleague, Morningstar portfolio strategist Amy Arnott, showed the stock/bond correlation broke down during periods of inflation and rapidly rising interest rates. Commodities, however, have served as a strong hedge against inflation, she said. “Diversification strategies that have worked in the past may not work in the future,” she wrote in a March report . “In a ******* of ongoing interest-rate increases and/or above-average inflation, Treasuries and other high-quality bonds would likely be less reliable diversifiers, although they still have merit as core portfolio holdings.” Price increases coming For its part, Bank of America is predicting inflation ahead. “The populist influence on the elections accelerates the shift from a ‘2% world’ of low growth and low inflation to a ‘5% world’ of higher prices but also higher potential GDP & EPS, more consistent with historical norms,” Bank of America strategist Jared Woodard wrote in a note Tuesday. That “5% world” spells the end of the 60/40, he said. “Consensus ’60/40′ portfolios hoped that bonds would hedge against equity bear markets, but this only worked in the ‘2% world’ of record-low inflation,” Woodard said. “Today, correlations between stocks & bonds are at record highs … and bonds are now as volatile as stocks, with negative risk-adjusted returns in 2022, a foreboding echo of the three decades of bad returns in the 1950s-90s.” Still, while the strategy won’t always work, it’s a fine way to invest for the long term going forward, said Morningstar’s Lefkovitz. “It’s pretty time tested when it comes to serving as that portfolio ballast and cushioning stock market losses,” he said. Investors should be sure to stick with high-quality fixed income, like Treasurys and investment-grade corporate bonds, he said. Vanguard also broadly uses investment-grade bonds in its suite of diversified LifeStrategy funds, which contain different funds with varying allocations. Its 60/40 fund is called the Moderate Growth Fund . The fixed-income portion largely follow the Bloomberg U.S. Aggregate Bond Index and holds 30% of its investment-grade bonds outside of the U.S. hedged back to the U.S. dollar, Vanguard’s Schlanger said. He’s optimistic about the decade ahead for the strategy. While equities won’t see returns that match the past 10 years, bonds should perform better than they did over the past decade, he noted. “The return over the next 10 years may be slightly lower, according to our forecast, than the last 10 years,” Schlanger said. “Our

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is much more balanced in terms of the returns coming from fixed income relative to equity,” he added. “So when you have [expected] bond returns … going up more than two times, really means that equities don’t need to continue with their strong run for the 60/40 to have a good decade ahead.”

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