By Frank Legan

For years, the 60/40 portfolio has been a trusted investment strategy for moderate risk investors and retirees. In the aftermath of the Global Financial Crisis, a simple 60/40 mix of U.S. large-cap stocks and investment-grade bonds was a popular choice as equities surged and interest rates plummeted. However, in 2022, the situation changed as a 60/40 portfolio had one of its worst years on record due to pressure on both sides of the portfolio.

While a 60/40 portfolio may have worked in the past, it’s never a bad idea to revisit your investment strategies in light of current economic conditions. In this article, we’ll explore the pros and cons of the 60/40 portfolio and how to tell if it still makes sense in 2023.

The Typical 60/40 Portfolio

The 60/40 portfolio is a traditional investment strategy that utilizes an asset allocation of 60% equities for capital appreciation and 40% fixed income for yield and risk mitigation. The logic behind this strategy is that when stock returns decline, the bond yields will increase to stabilize the portfolio and keep the overall return steady. While this allocation has historically delivered a positive annualized return, last year was one for the record books. The 60/40 portfolio saw its worst performance since 1937 as both equities and fixed income investments plunged by double digits. Despite the poor performance, there are still several advantages to this investment strategy.

Advantages

The 60/40 portfolio has long been used as a retirement investing strategy due to its ability to produce both growth and long-term income. Benefits of this strategy include:

• Consistent Historical Returns: From 1926 to 2021, the 60/40 portfolio produced an annualized rate of return of 8.7%. More recent data from Vanguard suggests the 10-year expected return for the 60/40 portfolio is 6.09% (up from the 10-year expected return of 3.83% in 2021).
• Lower Volatility: Traditionally, the 60/40 portfolio has provided reduced volatility since it is considered a balanced portfolio. The stability of the fixed-income investments generally counterbalances the risk associated with equities.
• Easy to Set Up & Maintain: A 60/40 portfolio can be relatively easy to set up. All you need is annual rebalancing* to maintain the target asset allocation, making it an appealing strategy for those who want to keep their portfolio simple.

Disadvantages

Despite its historical performance, past results do not predict future returns and the 60/40 portfolio does have a few flaws.

• Reduced Diversification: The flaw in this strategy happens when stocks and bonds are highly correlated, as they were in 2022. This can cause the stocks and bonds to decline together instead of moving in opposite directions, thus reducing traditional diversification benefits. This can be a huge challenge for all portfolios, but it’s particularly risky with the 60/40 since the allocation between stocks and bonds is nearly equal.
• Lower Returns: While a 60/40 portfolio has historically provided stability and reduced risk, it typically generates lower returns than an all-equity portfolio. The larger allocation to income-producing assets like bonds means less of your portfolio is invested for growth.

• Inflation Risk: Inflation is a threat to the 60/40 portfolio. Not only does it eat away at returns from growth-oriented assets like stocks, but it also erodes the value of the bond portion of the portfolio over time. With extended periods of high inflation, the 60/40 portfolio can experience a significant loss in purchasing power.

Economic Considerations for 2023

Despite what we saw in 2022, there are several reasons to suggest the 60/40 portfolio may make a comeback in 2023. First, there is historical evidence to show that the 60/40 portfolio often rebounds with strong positive returns in the years after a downturn.

Not only that but inflation has decreased steadily over the last three months, down to just 5% in March 2023. As one of the biggest risks to the 60/40 portfolio, declining inflation is a huge relief that could improve the outlook for this strategy going forward.

Lastly, with the Fed expected to slow its interest rate hikes, there could be less pressure on bonds in the coming months and a more normalized correlation between the equities and fixed income sides of the 60/40 portfolio. With a lower correlation between stocks and bonds, the traditional diversification benefits of a 60/40 portfolio could be restored.[1] 

Take Action Now

It’s never a bad idea to revisit your investment strategies, especially after the volatility of last year. If you have questions about the 60/40 portfolio, or if you would like to discuss your specific financial situation, Cedar Brook Group is here to assist. We offer comprehensive asset class portfolio construction tailored to our clients’ unique needs, goals, and circumstances. Our customized asset allocation* process can help you reevaluate your portfolio and make any necessary changes for 2023. Reach out to us at 440-683-9213 or flegan@cedarbrookfinancial.com or schedule a complimentary introductory call online!

Disclosure

*Keep in mind that all investing involves risk. No strategy can assure a profit nor protect against loss.  Account rebalancing means potential sales charges and other fees and switching out of investments when the market is down may mean locking in losses.  Investors should visit with their tax preparer to consider the tax implications of rebalancing transactions. 

About Frank

Frank Legan is Partner, Financial Advisor, and member of the Forward Look Committee at Cedar Brook Group, one of the largest independent wealth management firms in Northeast Ohio. Frank spends his days designing and implementing personalized financial planning strategies for corporate executives, closely held business owners, artists, families, and retirees. He specializes in lifetime income strategies, investment advice, and estate planning services. He also works with businesses to develop strategic and succession planning strategies. Frank has a Bachelor of Arts in Political Science from the University of Dayton, as well as a Master of Public Administration focused on municipal management from Cleveland State University. Prior to joining Cedar Brook Group, Frank was a financial advisor in the private client group at Merrill Lynch and with NatCity/PNC Investments. Frank is active in his community, serving on various councils, boards, and committees. Frank serves as Chairman Emeritus of the Board of Directors for Catholic Charities Diocese of Cleveland. When he’s not working, you can find Frank spending time with his wife, Laura, their daughter, Reese, and their beloved collie, Charlie. Frank and his family are volunteers at St. Francis of Assisi church in Gates Mills. To learn more about Frank, connect with him on LinkedIn.

Securities offered through Cadaret, Grant & Co., Inc., an SEC Registered Investment Advisor and member FINRA/SIPC. Advisory services offered through Cadaret, Grant & Co., Inc. and Cedar Brook Group, an SEC Registered Investment Advisor. Cadaret, Grant & Co. and Cedar Brook are separate entities. Please remember that securities cannot be purchased, sold or traded via e-mail or voice message system. Please contact our office at 440.683.9213 should you need assistance in placing a trade. This email transmission and any documents, files or previous email messages attached to it may contain information that is confidential or legally privileged. If you are not the intended recipient, you are hereby notified that you must not read this transmission and that any disclosure, copying, printing, distribution, or any action or omission of this transmission is strictly prohibited. If you have received this transmission in error, please immediately notify the sender by telephone at 440.683.9213 or return and delete the original transmission and its attachments without reading or saving in any manner.