Is 60/40 dead? An asset allocation method hits hard times

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Finding the right mix for your portfolio.

© Lynne Ann Mitchell/stock.adobe.com

One of the first things you learn as a new investor is to seek the best portfolio mix. Many financial advisors recommend a 60/40 asset allocation between stocks and fixed income to take advantage of growth while keeping up your defenses.

Here’s how 60/40 is supposed to work:

Like a lot of things, that began to change during and after the COVID-19 pandemic, and now 60/40 seems in danger of fading with the “before times.” The big blow came in 2022, when stocks and bonds both got crushed during the first three-quarters of the year.

“It is no secret that 2022 has not exactly been the year of the 60/40 portfolio,” wealth management firm Bespoke Investment Group noted in an August 2022 report to investors. “This year has left nothing safe, with both stocks and bonds hit hard. … No matter which way you cut it, 2022 has been the worst year of the past half century for stocks and bonds combined.”

Stocks tumbled in 2022 amid inflation, supply-chain issues, COVID-19-related shutdowns in China, the Russian attack on Ukraine, and worries about falling U.S. corporate earnings. Meanwhile, bonds offered no protection, falling sharply as the Federal Reserve fought inflation with dramatic increases in interest rates (bonds fall as rates rise).

If 60/40 is dead, how do you plan your asset allocation? Is 70/30 the new 60/40? Or something else?

First, don’t be too quick to abandon 60/40:

That doesn’t mean 60/40 was always a great idea. During the so-called lost decade starting in the early 2000s, a 60/40 portfolio gained just 2.3% a year on average, Goldman noted.

Until the Fed began aggressively raising rates in 2022, interest rates were historically low, meaning fixed income assets didn’t pay the impressive yields investors enjoyed decades ago. Plus, heading into the pandemic, stocks were relatively expensive, as measured by the S&P 500 forward price-to-earnings (P/E) ratio, which was above 18 in the early 2020s as opposed to a historic P/E closer to 15 or 16. Employing a 60/40 investing strategy during times of lofty P/E ratios means buying stocks at higher than normal prices, possibly with less future growth.

But generally, 60/40, 70/30, and other asset allocation strategies continue to make sense. The idea is to benefit when stocks bounce and get some protection when markets fall or stagnate. But you might want to tinker with your portfolio as the tide goes in and out, rather than setting the dial at 60/40 and never looking again.

Some investment experts recommend adjusting your asset allocation over time. For instance:

You can also tinker with the formula and consider a 55/35/10 or 50/40/10 strategy where you pepper in some alternative investments. This might mean exploring real estate investment trusts (REITS), commodities, gold, cryptocurrencies, or other asset classes that don’t tend to move in lockstep with the stock market.

Although crypto and real estate seem closely linked to the fortunes of large-cap stocks, commodities (think oil, grains, and industrial metals) could offer growth when stock and bonds get buried. They did pretty well in 2022, helped by rising prices.

A 60/40 mix doesn’t have to be monolithic—many different types of stocks and bonds are available. If you want to stay 60/40 but get a bit more protection for your equities bucket, you could direct some funds into defensive stock sectors like consumer staples or utilities, which can be less volatile than large-caps. These sectors also typically offer appetizing dividends, which you could consider keeping instead of reinvesting as your income needs grow in retirement, or if you dial back on work.

On the other hand, if you want the fixed-income bucket to generate higher returns, consider sprinkling in some corporate bonds instead of just government bonds. You could even try high-yield bonds, which often generate better income. To lessen the volatility of owning individual bonds, consider a high-yield mutual fund that spreads the risk across many holdings.