For decades, investors have relied on the 60/40 portfolio—a mix of 60 percent stocks and 40 percent bonds, or something close to it—to generate enough stable growth and steady income to meet their financial goals. Since 2000, the inflation-adjusted return has been around 7.5 percent on a rolling 12-month basis, according to Morningstar.
However, with stocks and bonds both notching large declines, the 60/40 portfolio is down over 10 percent this year, for its worst performance since the financial crisis of 2008.
Andrew Patterson, senior economist at Vanguard, notes markets may be entering a period of low gains for the 60/40 portfolio. He estimates that annual returns over the next 10 years will be “south of 5% and our estimates have been grinding down in recent years, mainly driven by equities.”
Equity and bond prices falling together may signal inflation shock. And in past eras of supply-driven inflation, bonds have failed to offset equity losses.
So we see many investors already amending the 60/40 model to add more diversification. For instance, today you might see a portfolio comprised of 15-20 percent inflation hedges including real assets, 15-20 percent alternatives, as well as credit as part of the fixed income allocation.
In this environment, risk has stopped paying—
- As it turns out, cryptocurrencies are neither an inflation hedge nor a haven from centralized banking—Bitcoin
closed last week at $17,633, down 75 percent from its November 2021 high of $69,000.
- Cathie Wood’s AR
K Innovation ETF has fallen over 60 percent this year, with its return since 2014 inception now below the S&P 500’s, and with much more volatility.
- The Fed raised rates by 75 basis points last week—and the average 30-year mortgage rate has more than doubled to 5.8 percent.
And we know smart investors are continuing to sell this stock market. Last week, hedge funds tracked by Goldman Sachs increased the dollar amount of short sales to the highest level since the 2008 financial crisis. And similar trends were seen at prime broker units of Morgan Stanley
In market routs, value your liquidity. Already in this environment, we are seeing some big entities sell well-performing investments because they need to raise cash. In one example, a large Dutch entity sold several billion dollars of its hedge fund portfolio because it needed to raise cash and could not liquidate its private equity holdings.
In the past, the stock market has always come back after a big decline. Since 1929, if you put money in the S&P500 over 10-year periods, you lost money 6 percent of the time. And if you invested over 20-year periods, you never lost money. Who knows if this time will be different?