Nowhere to Hide for Traditional Balanced Investors

Investors in balanced portfolios these days may feel like they’ve fallen off a tightrope.

The classic portfolio of 60 percent equities and 40 percent fixed-income—the foundation of many investors’ financial plans—has plummeted 11.7 percent this year (through April.) That’s far and away the worst four-month calendar-year start for a 60/40 portfolio in the past 45 years, as seen in the chart below. The next worst outcome–a mere -5 percent decline–occurred all the way back in April 1977. 

The problem, of course, is that bonds aren’t doing what they’re supposed to—that is, “zig” when stocks “zag.” Instead, both asset classes are cratering, and by relatively similar amounts. While the S&P 500 is down 15.6 percent year to date, the Bloomberg US Aggregate Bond Index (down 9.9 percent) isn’t too far behind. And by one measure—the Bloomberg US Long Treasury Total Return Index—bonds are doing even worse (down 20.7 percent year to date). Such returns thus far have put bonds on track for their worst full calendar year losses on record.

This type of lockstep movement isn’t something investors are used to seeing. Indeed, historically, the usual argument was that the value of having a sizable bond allocation was best seen when stocks stumble. That’s simply not the case so far in 2022, as fears about inflation and the effectiveness of the Fed’s efforts to contain it have given traditional balanced investors few (if any) places to hide.

We recently looked back on quarters when both stocks and bonds posted negative returns and found that since 1976, the average year-over-year inflation rate during these periods was 6.1 percent. In stark contrast, the average inflation rate during those quarters when fixed-income allocations provided a diversification benefit– when bonds were up while stocks fell–was just 3.3 percent. If inflation remains elevated, history tells us that bonds’ diversification benefit may continue to be challenged.

The upshot: It may be good time to rethink traditional approaches to diversification. Using equities with defensive qualities to keep the equity beta stable versus a traditional 60/40 portfolio, while reducing sensitivity to the bond market, may be a possible solution. We explore three potential solutions for advisors looking to implement a defensive 80/20 portfolio strategy in our blog here.

 

 

1As measured by 60% S&P 500 price index and 40% Bloomberg Aggregate bond index

2As of 5/10/2022

3Beta is a measure of volatility, or systematic risk, of a security compared with the overall market volatility.


This commentary is written by Horizon Investments’ asset management team. For additional commentary and media interviews, contact Chief Investment Officer Scott Ladner at 704-919-3602 or sladner@horizoninvestments.com.

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