Mark Hulbert: Putting all your money into stocks is still a bad idea
I rise, your Honor, in defense of the 60/40 portfolio.
I do so to counter the growing consensus that the standard asset allocation of 60% equities and 40% bonds is “dead.” Just last week, CNBC anchor Becky Quick added her voice to this chorus, saying that “you’re never going to make enough money if you have 40% of your money in bonds.” Earlier this fall, Bank of America declared the “end” of the 60/40 portfolio.
To be sure, no one is denying that the 60/40 portfolio has a stellar long-term track record. Consider its performance since 1926, according to calculations I made using data from Morningstar:
Annualized returns 1926-2018
Standard deviation of yearly returns
100% S&P 500 (with dividends)
60% S&P 500 / 40% long-term Treasuries
60% S&P 500 / 40% intermediate-term Treasuries
In other words, while immunizing investors from nearly 40% of the volatility or risk of an all-equity portfolio
, the 60/40 portfolio forfeited either 1.2 or 1.5 annualized percentage points (depending on whether the 40% bond portfolio was invested in long-term or intermediate-term Treasuries).
That’s not a bad trade-off, and the 60/40 portfolio far outperforms the all-equity portfolio on a risk-adjusted basis.
The impact of low rates
The reason the 60/40 portfolio has fallen out of favor, of course, is today’s rock-bottom interest rates. Bond prices will fall if and when interest rates rise.
Nevertheless, even though this narrative does have a certain superficial plausibility, it doesn’t withstand much scrutiny.
Let’s start by reviewing the historical record. In the decades following particularly low interest rates, for example, the 60/40 portfolio has performed quite well — as you can see from the table below.
Average annualized return over subsequent decade
100% stock portfolio
60% stock / 40% long-term Treasuries
60% stock / 40% intermediate-term Treasuries
The 10 years since 1926 with the lowest 10-year Treasury yields
The 10 years since 1926 with the highest 10-year Treasury yields
Decade after 1941
To be sure, the current anti-60/40 rationale does receive some support in the data, since the return spread between the all-stock and the 60/40 portfolios is wider following years in which interest rates were particularly low. Nevertheless, the 60/40 portfolios still produced outstanding returns.
By the way, don’t dismiss these results on the theory that interest rates have never been as low as they are now. They have been. Take 1941, when the 10-year Treasury yield
was below 2%, as it is now. As you can see from the bottom row of the table, the 60/40 portfolio performed quite well in the decade that followed.
A typical reaction when I run these results by clients is incredulity. How can a 60/40 portfolio hold its own when rates are so low?
I have three responses:
• First, interest rates aren’t abnormally that low right now—provided you look at them on an inflation-adjusted and after-tax basis. (I provided the supporting data in an early-November column.) You’re therefore on shaky ground when you argue that interest rates have to rise from here.
•The second reason is that bonds need not lose money when rates are rising, provided you own a so-called bond ladder. (Most bond investors do employ a ladder, whether they know it not, either directly or via a bond mutual fund with a stable duration.) As the individual bonds you own mature, you (or your fund) can reinvest the proceeds in ever-higher-yielding bonds. Over a several-year period, researchers have found, you should be able to gain enough with these higher-yielding bonds to overcome the paper losses incurred by the other bonds you still own.
•The third reason to not give up on the 60/40 portfolio: A severe equity bear market is not out of the question. And when one does occur, investors in a 60/40 portfolio will be glad that they have hedged their equity exposure.
The bottom line: Be skeptical of the emerging narrative that you should be 100% invested in stocks. As we were reminded years ago by Humphrey Neill, the father of contrarian analysis: “When everyone thinks alike, everyone is likely to be wrong.”
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