Asset allocation strategist argues traditional balanced portfolios have life in them yet
After decades of strong performance, portfolio managers and strategists have begun to question the traditional 60/40 stocks-bonds investment allocation, with some advising investors to add alternatives to the mix for greater returns.
But given drastically improved values following recent market losses, LPL Financial Asset Allocation Strategist Barry Gilbert is arguing that the 60/40 portfolio still has vitality, suggesting that long-term investors would benefit from more diversification.
“It may have been wounded this year and took another blow on Friday after the hotter-than-expected inflation data, but we believe the losses in stocks and bonds this year increase the chances of positive outcomes going forward,” Gilbert wrote in a new market commentary. “Long-term investors take note.”
Gilbert remarked that the 60/40 portfolio has had a difficult year thus far. The typical 60/40 was down 15% on a total return basis as of market closing on June 10, according to the S&P 500 and Bloomberg U.S. Aggregate Bond indexes.
"That loss would trail just 2008 as the worst year on record if the year ended now," he said.
Low bond yields in 2020 and 2021, as well as this year's bond losses triggered by rising interest rates, have prompted many to believe the 60/40 portfolio is over, he noted.
According to Gilbert, the drastic decreases this year might be a blessing in disguise, however.
“Recent stock and bond losses have improved valuations for the 60/40 portfolio considerably, based on a combination of the price-to-earnings ratio for the S&P 500 and the yield for the Agg. Valuations aren’t an effective market timing mechanism, but they are an important consideration for longer-term return expectations, and that picture has improved quite a bit,” he wrote.
Gilbert cited FactSet data to say that the S&P 500 future price-to-earnings ratio was 21.2 at the end of May 2021. He said that a combination of stronger earnings and reduced stock prices resulted in a 17.4 P/E ratio on Wednesday, an 18% improvement – closer to 20% by Friday.
Gilbert also mentioned bond valuations, indicating that the Agg yield for the end of May 2021 was 1.50%, down from 3.53% on Wednesday. He continued to point out that yields have increased at the quickest rate in a single year since 1995.
While enhanced, S&P valuations are still high. “Some may offer even better value," Gilbert said, referring to stock values outside of the S&P 500.
Even if the typical 60/40 portfolio is still viable, there may be further ways to improve a portfolio's risk profile, whether by increased diversification within stock or bond holdings, active management, or investing options outside of traditional stocks and bonds.
LPL does not believe it can call a tactical bottom for stocks or bonds despite last week’s losses, but Gilbert wrote that they think the long-term picture has brightened quite a bit based on better valuations and mainly favorable fundamentals.
