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Diversifying the 60/40 Investment Model
Most investment portfolios have followed the 60/40 model for quite some time, with 60% in stocks and the other 40% in bonds. The strategy behind the 60/40 model is to balance risk, assuming that if stocks take a hit, government bonds will counterbalance the loss to maintain growth over the long-term. Until the 2000s, this model performed well for what it was intended to achieve, with returns averaging nearly 10% over the last century(1).
However, in the first decade of the 2000s, which some investment experts refer to as “the lost decade,†the average 60/40 portfolio generated a 2.3% return(2). Not only is this much lower than historic trends, but it officially marked a loss of valuation when considering inflation. The current and future outlook on 60/40 portfolios is just as dire. Never before in history have equities and bonds declined 10% in the same quarter, until now. The purpose of the 60/40 model is for bonds and stocks to seesaw their valuations, not follow the same downward trend.
What used to provide a conservative balance of risk and return is now offering high risk with low return. The current era of pandemic-induced stagnation has primarily caused bonds to lose value. But similar factors are also leading to stock market declines for which bonds and government policy can no longer compensate. Already this year, investors have pulled over $18 billion from the bond market (3). Ultimately, the economy has changed since the 80s and 90s when 60/40 investment portfolios worked for long-term growth strategies. As the economy diversifies, so must investment portfolios if they stand any chance of outpacing inflation, which is and we expect will remain high.
There are many ways to diversify investment portfolios that don’t necessarily add a high level of volatility. Redirecting even a small portion of the 60/40 investments into alternatives can create a more well-rounded portfolio with the potential for a better chance at achieving long-term growth that outpaces high inflation.
Start with dividends, for example. Every quarter, a diverse basket of large, publicly-traded companies provides a consistent payout to their shareholders in the form of dividends*. These types of dividends tend to grow over time, offering a potential inflation hedge. The dividend market has already generated over $13 billion this year (4). If jumping into hedge funds, venture capital, and private equity bring too much risk into the portfolio, we believe dividends offer a lower risk entry-point into diversifying the outdated 60/40 model.
Not all dividends are created equal, of course. For those interested in diversifying portfolios while maintaining lower volatility and higher return, TrueShares’ DIVZ ETF seeks to offer a solution. Our dividend ETF attempts to outperform the overall market by favoring traditional companies with market capitalizations greater than $8 billion, stable revenue streams, and more disciplined capital reinvestment. Regardless of what the new ratio looks like for investors and their clients, stepping out of the 60/40 model and into a more diversified portfolio with dividends that can help mitigate against inflation and even offer the potential to achieve capital appreciation.
*Dividends are not guaranteed and can fluctuate.
- https://www.forbes.com/sites/garymishuris/2020/06/15/the-problem-with-the-6040-portfolio/?sh=39c889f44b27
- https://www.zerohedge.com/markets/another-lost-decade-ahead-6040-balanced-books-suffer-worst-streak-2008
- https://www.reuters.com/business/us-bond-funds-see-money-outflows-10th-straight-week-2022-03-18/
- https://www.wsj.com/articles/exodus-from-bond-funds-is-mitigating-the-stock-markets-swoon-11645439401
Dividend Paying Security Risk. Securities that pay high dividends as a group can fall out of favor with the market, causing these companies to underperform companies that do not pay high dividends. Dividends may also be reduced or discontinued.
Equity Market Risk. Common stocks are susceptible to general stock market fluctuations and to volatile increases and decreases in value as market confidence in and perceptions of their issuers change based on various and unpredictable factors including but not limited to: expectations regarding government, economic, monetary and fiscal policies; inflation and interest rates; economic expansion or contraction; and global or regional political, economic and banking crises.[AC[1]
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