December 20, 2022

A common argument in favor of the 60/40 portfolio is that when stocks have a bad year, bonds usually do better and that helps offset the losses from the stocks. The 60/40 allocation offers a simple and easily implementable way to generate some capital preservation downside protection. It provides a dependable way to invest for the long term. The strategy’s double-digit decline in returns during the first 10 months of 2022 has led many to conclude that there is no place to hide. As a result, they were wondering whether it is time to dump the 60/40 approach. Although the list that follows is not meant to be exhaustive, here are some of the key arguments being made against the 60/40 allocation. • It failed as a capital preservation strategy. It did not protect during the 2022 downdraft. • It did not anticipate the 2022 debacle. • The strategy only works when there is a negative correlation between the two asset classes Was 2022 a Black Swan event for the 60/40 portfolio? Although the decline of each of the asset classes was not a Black Swan event, the magnitude of the decline may be considered one. Here is why. Assuming that the sample average annual returns and standard deviation for the 60/40 portfolio are the result of repeated drawing from a normal distribution, we estimate the likelihood of the 60/40 portfolio return decline to the level experience during 2022 to be 0.29% - a probability that falls well below the range of normal expectation One way to put the 2022 outcome in perspective is to liken the decline to a 300-year flood - a flood that on average occurs once every 300 years. Additionally, makes it a Black Swan is not the fact that the 60/40 portfolio delivered a negative return. What makes is such a unique and unexpected event is the magnitude of the decline. Should investors abandon the 60/40 approach? During the major drawdowns of the last several decades the 60/40 portfolio has posted average declines in the neighborhood of 60% of the decline in stocks. Furthermore, for recoveries lasting more than 1 year, the recovery rate of the 60/40 portfolio has been approximately half of the recovery period of stocks. If, as we believe, the process is not broken, this is not the time to abandon the 60/40 portfolio. Stay the course and expect a faster recovery with the 60/40 portfolio. Yes, 2022 has been a tough year, but as we have argued - the year was akin to a 300-year flood. We look forward to sunny skies and higher ground in the years ahead

You must have an active account to view these reports. You may register for a trial here

Download Complete Report in PDF Format

Download Complete Report in Word Format