Is the 60/40 Portfolio Dead?

What is a 60/40 portfolio & why is it popular?

A 60/40 portfolio is an investment strategy that involves allocating 60% of a portfolio to stocks and 40% to bonds. The stocks in the portfolio provide the opportunity for growth, while the bonds provide a source of income and a hedge against market downturns.

The 60/40 portfolio is considered effective because it has historically provided a balance of risk and return that is suitable for many investors. Stocks have the potential for higher returns, but also higher volatility, while bonds have lower returns but also lower volatility. By allocating 60% to stocks and 40% to bonds, the portfolio can potentially capture some of the upside of the stock market while also providing a degree of downside protection in the bond market.

Having bonds in a portfolio can reduce price volatility that comes from stocks because bonds have historically been viewed to have lower price volatility than stocks, and a negative cor- from the carnage, returning their worst performance ever on record according to Edward McQuarrie, a professor emeritus at Santa Clara University who studies historical investment returns. The total bond index in 2022 returns a negative 13% in 2022, so much for that negative correlation between stocks and bonds!

But is the 60/40 portfolio dead? I don’t think so, and here is why I am not giving up on a balanced stock/bond portfolio and some actionable ideas you might want to consider within your own portfolio.

Last week, I wrote about Recency Bias which is the tendency for people to make decisions based on their most recent experiences or memories rather than considering a more broad and diverse range of information. It is important to understand the factors that contributed to 2022’s dismal market returns and contrast that with the goals of a long term focused investor. A few points to consider:

By Elliot Pepper, CPA, CFP®, MST

be less attractive to a buyer than a newly issued bond paying a higher interest rate. I would much rather collect 4% than 2%. With the Federal Reserve increasing rates at such a high pace, it is not surprising that existing bonds lose value. At the same time, new bonds paying higher interest rates are a great way to boost income in your portfolio.

2. Stock Prices & Interest Rates: Stock prices are heavily influenced by the expectations about future profits. That’s a lot of fortune telling and guess work, so models are created and stock analysts do their best to determine a current fair value for stocks today. Additionally, when interest rates are low, investors increase their allocations to stocks to try to improve returns. The excess demand for stocks helps drive up prices that support prices that simply don’t hold true when interest rates go up or the economy slows down. Both of those headwinds are front and center, so a drop in stock prices is not surprising.

3. Bonds are back! As interest rates go up, the price of bonds goes down, and we all know the rules, buy low and sell high. New bonds that are being issued are offering interest rates not seen in years. Investors can actually earn meaningful interest income in their portfolios now. Coming out of 2022, the playground has changed and stocks no longer dominate the whole jungle gym, bonds are back and providing meaningful income to investors.

Elliot’s Take:

I am not giving up on the 60/40 portfolio. I continue to believe that younger investors with longer time horizons would want to be weighted more heavily toward stocks and older investors with shorter time horizons will want to make sure bonds play a meaningful role in their portfolios. The split of 60/40 is investor specific, but the idea of diversification applies across the board.

2022 was a very hard year, but I am a long term optimist and therefore will stay invested for the long term and focus on not falling victim to Recency Bias. Investing isn’t easy and the cost of admission to high returns is often riding a rough roller coaster.

Stay invested and make sure your balance of stocks, bonds, cash, and alternative investments is on the same page as your financial plan and nerves.

The decision to start saving and investing is yours, but the “how” can be hard. We suggest speaking with a “fee only” financial planner operating as a fiduciary - having a CPA or tax background is a huge plus. Email commoncents@northbrookfinancial.com to schedule a free financial planning consultation with our team.

Elliot Pepper, CPA, CFP®, MST is Co-Founder of Northbrook Financial, a Financial Planning, Tax, and Investment Management Firm. He has developed and continues to teach a popular Financial Literacy course for high school students.