The conventional wisdom in the financial services industry for the last several decades is that a prudent way to invest money (one that will provide sufficient yields and hedge downside risk) is to use a mix of 60% stocks/mutual funds and 40% bonds.

Why a 60/40 mix?

The equity part of the portfolio is supposed to drive higher returns but with more risk, and the bond part of the portfolio is supposed to protect from large losses with investment returns that should be more modest.

So, when the stock market has a correction or crashes, the 60% part of the portfolio will take the majority of the losses while the 40% part is not supposed to.

Times are changing

Over the last several years the U.S. Government has done something it’s never done before. They have kept interest rates at zero for an extended period of time. Having low or declining interest rates for an extended period of time caused a bull run in the bond market like we’ve never seen before.

Now interest rates are rising and many analysts are saying that the bond market is going to go through a major correction for an extended period of time (meaning that owning bonds right now may not be a very good idea).

Correlation

Generally speaking, bonds and equities (stocks/mutual funds) have not been overly correlated. That’s a good thing if you are using a 60/40 mix of investments/bonds. With low correlation, when equities go down significantly, bonds do not.

However, more recently the correlation between equities and bonds has been increasing and many analysts think that trend is going to continue. With higher correlation between equities and bonds, if a stock market crash comes, both the equities and bonds in a portfolio will decline in unison. This would defeat the purpose of using a 60/40 mix of investments which is supposed to be diversified and help hedge downside risk of the portfolio.

2007 crash

In case you wondered, in the 2007 stock market crash, a typical 60/40 globally diversified portfolio lost approximately 38% of its value. If you’d like to check for yourself, go to Yahoo Finance and search for the ticker symbol DGSIX (DFA Global Allocation 60/40).

Is it time to re-evaluate the 60/40 investment mix?

If you are using a 60/40 mix of investments, it might be a good time for you to re-evaluate if such a mix is in your best interest, both in the short term as well as the long term.

The key question is how to replace the bond portion of your portfolio if it is deemed appropriate to do so. There are wealth building/retirement insurance products available that provide 100% protection from downturns in the market and over time should generate a 4-6% average rate of return*.

If you would like to discuss your investment goals and how to best reach them, please contact me to set up a time when we can talk about your personal situation.

Past performance is no guarantee of future results. Investments are subject to risk, including market and interest rate fluctuations. Investors can and do lose money.

*Subject to claims paying ability of the insurer