Reimagining the 60/40 Portfolio for Today’s Market

Reimagining the 60/40 Portfolio for Today’s Market

The 60/40 portfolio failed to protect investors from the volatile market of 2022. As economic conditions change, is it time to rethink the balanced portfolio?

This graphic from New York Life Investments highlights the current circumstances investors face, and a new 60/40 allocation that has historically produced higher risk-adjusted returns.

Nowhere for Investors to Hide

From 1977-2022, stocks and bonds had an average correlation of only 0.3. This weaker relationship between their market movements has helped reduce losses when one asset class performs poorly. 

However, stocks and bonds both dropped in value in 2022, indicating a high degree of correlation between the two asset classes.  The 60/40 portfolio—60% stocks and 40% bonds—lost nearly 17%, driven primarily by the Federal Reserve’s rapid rate hikes. It was the worst performance since the 2008 financial crisis.

Year60/40 Portfolio ReturnCorrelation

2022-16.9%0.7

202115.5%-0.1

202012.8%0.2

201920.8%0.4

2018-3.7%-0.1

201713.1%0.2

20166.8%0.3

2015-0.2%0.4

20149.2%0.6

201317.0%-0.1

20129.7%0.3

20113.1%-0.1

201010.3%0.4

200916.4%0

2008-21.0%-0.4

20074.9%0.7

20069.9%0.4

20052.8%0.5

20047.1%0.6

200317.5%-0.1

2002-9.9%-0.9

2001-4.4%-0.8

2000-1.4%0.4

199911.4%0.1

199819.5%0.7

199722.5%0.9

199613.6%0.7

199527.9%0.9

1994-2.1%0.8

19938.1%0.9

19925.6%0.7

199122.2%0.6

1990-0.4%0.3

198922.2%0.9

198810.6%-0.1

19872.3%0.2

198614.9%0.9

198524.6%0.9

19846.9%0.2

198313.7%0.9

198221.9%-0.1

1981-3.3%-0.1

198016.5%0.1

19798.2%0.6

19781.2%0.1

1977-5.7%-0.3

Despite the bear market conditions in 2022, it’s important to understand the long-term strengths of a 60/40 portfolio.

Balancing Risk and Return

A 60/40 portfolio may be best suited for investors with moderate risk tolerance and moderate return expectations.

As the market ebbs and flows, diversifying into both stocks and bonds is intended to smooth out returns. Compared to a 100% stock portfolio from 1977-2022, a balanced portfolio has earned slightly lower average returns while experiencing 33% less risk.

100% Stock Portfolio60/40 Portfolio

Biggest Annual Loss-38.5%-21.0%

Average Annual Return9.4%8.3%

Standard Deviation (Risk)16.1%10.7%

Investors may want to consider the potential risk-adjusted return advantage of a 60/40 portfolio given the current economic environment.

A Changing Economic Landscape

After decades of low and relatively stable rates, we may be entering a period of moderate interest rates and inflation. Inflation has been slowing down, but the current rate is two times higher than the average since 2000.

In addition, according to the International Monetary Fund, it is likely that economic growth will be more volatile and uncertain. The probability of a U.S. recession within the next 12 months is also quite high: The Conference Board’s recession probability indicator reached 0.99 in February 2023. Since 2007, a recession has followed any time the indicator has climbed above 0.40.

In this environment, investors may benefit from a different set of tools than those that succeeded in the last cycle.

Mixing it Up: A New 60/40 Portfolio Allocation

With current circumstances and historical performance in mind, New York Life Investments has reimagined the 60/40 portfolio. 

This allocation, excluding satellite exposure, earned the highest risk-adjusted return from 1973-2022 based on historical modeling. Satellites are actively managed, non-core parts of a portfolio and can be used to tailor investor preferences to the current macroeconomic environment.

AssetPortfolio Allocation

High Dividend-Yielding Equity30%

Value Equity10%

Large Cap Equity10%

Stock Satellite: Infrastructure Equity5%

Stock Satellite: Currency Hedged International Equity5%

Core Bonds25%

Municipal or Corporate Bonds10%

Bond Satellite: Short Duration High-Yield Securities OR Taxable Municipal Bonds5%

For a bond satellite, short duration high-yield securities may be appropriate if interest rates continue to rise or maintain their current levels. Alternatively, taxable municipal bonds may provide quality, long-dated duration with an attractive yield potential for investors who want to hedge against falling returns.

When it comes to a stock satellite, infrastructure equity offers a potential inflation hedge and exposure to a structural and global investment theme. In addition, currency hedged international developed markets’ equity diversifies economic cycle exposure and acts as a potential hedge against a strengthening U.S. dollar.

Importantly, the reimagined portfolio should be taken as a starting point. Investors should work with their financial professional to tailor their portfolios to their needs. By diversifying within asset classes and considering the current economic environment, investors can target higher risk-adjusted returns.