Is the 60/40 rule still good advice for your pension investments?

On November 9, 2024By Pranco

The 60/40 rule is a fundamental principle of investing. It says that you should aim to keep 60% of your holdings in shares, and 40% in bonds.

Stocks can deliver robust returns, but they are volatile. Bonds provide modest but stable income, serving as a cushion when stock prices fall.

The 60/40 rule is one of the most well-known principles in personal finance. Yet much of the investment community abandoned it not long ago.

A chorus of essays and think pieces from 2023 and early 2024 asked whether the 60/40 portfolio was deadexplained why this might no longer be the case good enough to maintain a balanced portfolio, and offered investment alternatives.

The reason: 2022. Bonds had one of their worst years of all time, ravaged by a one-two punch of spiraling inflation and rising interest rates.

However, as 2024 draws to a close, investors are warming up to 60/40 again.

Should Investors Still Follow the 60/40 Rule?

In one recent reportaffirmed the investment firm Vanguard 60/40 as “a great place to start for long-term investors, and that’s as true today as it’s ever been.”

Other investment experts agree.

“Sixty-forty is still a good benchmark for a balanced portfolio,” says Jonathan Lee, senior portfolio manager at US Bank.

And Todd Jablonski, global head of multi-asset investing at Principal Asset Management, sees the 60/40 rule as “very timely. I could make some Mark Twain jokes” he said.

The 60/40 rule comes from common wisdom, which dictates that an investment portfolio should be balanced, especially as we approach retirement.

Stocks can deliver returns of about 10% per yeara much higher rate than an investor is likely to receive in a regular bank account. But the stock market is fickle and can take a nosedive during a recession.

Bonds are supposed to be safe, predictable and boring: the perfect counterpart to stocks. When stocks fall, bonds rise, at least in theory.

‘Boring’ bonds went haywire in 2022

However, the events of 2022 seemed to turn the market upside down. Stocks lost 18.6% of their value, as measured by the S&P 500. And bonds lost 13.7% of their value, according to the Vanguard Total Bond Market Index. After inflation, this was the worst bond return in 97 years, according to a NASDAQ analysis.

The bond massacre led some investors to wonder whether it was time to do so rewrite the rules for retirement savingsstarting with the 60/40 rule.

Here’s why bonds plummeted: In 2022, the Federal Reserve embarked on a dramatic campaign ofinterestincreases in response toinflationwhich reached a 40-year high.

That was bad for the bonds. Bond funds tend to lose value as interest rates rise and inflation increases.

Rising interest rates tend to increase the yield on new bonds. This makes older bonds less attractive because they have a lower return. That cycle depresses the value of bond funds.

Rising inflation also makes bonds less attractive because their value is eroded. If a bond pays 4% interest and inflation reaches 5%, the bond’s effective yield is negative.

Even before 2022, bonds weren’t doing that well. Interest rates were at historically low levels for much of the post-2008 era, due to the Great Recession and later the Covid pandemic. Investors generally make less money on bonds when interest rates are low.

“I think investors started looking at bonds and asking, ‘How much lower can it go?’” Jablonski said.

The 60/40 landscape will be different in 2024

Today, the bond landscape looks very different. Inflation has been relaxed. Interest rates are falling but still high, meaning new bonds are delivering solid returns.

And investors who follow the 60/40 rule do quite well.

According to Jablonski’s calculations, the 60/40 portfolio lost 15.8% in 2022. But in 2023, that same portfolio increased by 17.7%. And this year, through November 6, the 60/40 investor is up 15.5%.

“That’s a pretty good return,” he says.

Even factoring in the dismal numbers for 2022, Vanguard found, the 60/40 portfolio has risen an average of 6.9% per year over the past decade.

“The past decade has been a strong one for 60/40 as equities,” i.e. stocks, “have performed particularly well,” said Todd Schlanger, senior investment strategist at Vanguard and author of the October report.

Now, with the stock market drive highInvestors should expect slightly lower stock gains in the coming years. By historical standards: the stock market is overvalued.

As a result, “it is likely that 60/40 returns will be lower than they have been in the past decade,” Schlanger said.

But don’t blame bonds.

Bonds will “contribute more meaningfully in the next decade than in the past decade,” Schlanger said.

The current yield on the benchmark government bonds with a term of 10 years is about 4.3% reports CNBC. The yield is the annual interest that the investor receives over the life of the bond. And right now, returns are outpacing inflation.

“People are warming up to bonds because interest rates are higher than they used to be,” Lee said.

Bond yields are rising along with the budget deficit

One reason why bond yields are high, especially over the long term, is because investors are concerned about rising government debt.

The interest rate on government bonds with a term of ten years rose to the highest level highest level in monthsWednesday, in the wake of news of Donald Trump’s election to a second term as president.

Trump campaigned for low taxes. Economists predict that Trump’s tax policies will widen the federal deficit, the shortfall between spending and revenue. The shortage persists at $1.8 trillion.

“The risk in the market with Trump is an undisciplined budget situation. Sometime in 2025, the shortage will take over the market narrative,” James Camp, director of fixed income and strategic revenue at Eagle Asset Management in St. Petersburg, Florida, told Reuters.

Bond yields are rising, at least in part, because investors sense a greater risk that the government is living beyond its means, Jablonski said.

And therein lies another important financial rule: a less creditworthy borrower must pay higher interest rates, even if it is the government.