Is Diversification Dead? Portfolio Alternatives for Today’s Market
The 60/40 portfolio might not be dead, but it’s certainly on life support.
Long heralded as the golden standard for retirement planning, traditional investment strategies largely followed the “Rule of 100.” This basic principle balances your portfolio by deducting your current age from 100 to determine your equity/bond blend, i.e. if you’re 55 today, the Rule of 100 mandates a 45/65 split.
This basic calculation aims to protect capital as you age by shifting into “safer,” fixed-income investments and away from growth assets like individual equities and stock market index funds.
The concept of balanced diversification, colloquially called the 60/40 split, emerged during a very different era devoid of hedging strategies, market liquidity, and the industry's digital transformation.
Today, alternative strategies might be your portfolio’s solution to volatility and underperforming “traditional” strategies.
60/40 Over Time – and Today
Numbers tell the story far better than I could, so let’s look at some 60/40 stats to see how the standard strategy fared over time:
- A 60/40 split returned 2.3% from 2000 – 2009, with negative returns after inflation.
- The allocation returned 11% from 2011 to 2021, buoyed mainly by low rates and cheap debt rather than inherent benefits – a rising tide lifts all boats.
- Following the rule lost 16% in 2022, bringing the annualized return to a less attractive 6% for the preceding decade.
So, not bad – but not great. Self-managed investors would do perfectly well following the 60/40 ethos. But, if you’re working with a wealth manager or retirement advisor and they’re sticking with 60/40, you’re leaving gains on the table and aren’t getting the full bang for your buck after accounting for fees.
The primary problem with the 60/40 split is that the underlying thesis no longer rings true. The key benefit underpinning the concept is diversification – historically, bonds beat equities in a bear market while fixed income falls when stocks rise. But monetary and fiscal policy changes over the past decade nullify that proposition.
Source: BlackRock Investment Institute
Although high yields mean fixed income is producing income for the first time in quite a while, merely relying on meager cash flow isn't enough for most investors. Instead, bond performance depends on secondary pricing remaining negatively correlated with stocks – one goes down as the other rises.
But, as this chart shows, stocks and bonds are increasingly positively correlated, which means both follow similar trajectories rather than move opposite. This positive correlation means that, for sophisticated investors, simple stock-and-bond diversification may not be the done deal it once was.
There’s no “one best option” to replace traditional allocation, as everyone circumstance varies, and specific strategies are best discussed with your wealth manager. But hedging opportunities represent a viable avenue to explore, mainly since these strategies are often customizable to your particular needs and risk preferences.
Of course, hedge strategies vary by firm, but “hedging” refers to what amounts to insurance on your portfolio. Effective hedges offer downside protection in bear market conditions, effectively providing the offset the 60/40 concept hinged on.
Hedging concepts differ from the oft-maligned hedge fund in that hedge funds diversify across many strategies and alternative assets to maximize returns while increasing risk. Hedging strategies seek to reduce risk.
We can’t speak to each hedging strategy out there, as there are as many proprietary methods as wealth managers, but we’ll detail our primary strategy’s performance as a representative sample.
Holding a Hedge
Our strategy is systematic, meaning it’s rules-based and divorced from subjective biases, even those under the surface. Using a complex algorithm, we work together to develop the inputs to feed your portfolio’s hedging strategy, including age, risk tolerance, existing asset allocation, and similar variables.
When working with financial professionals, a 60/40 split only works for one person: the wealth manager who's either lazy or overburdened with too many clients to understand each individual's needs. Relegated to pushing a "rebalance" button once or twice a year, sticking with this strategy wastes your time and costs you directly in potential gains and very real fees paid.
Our hedging strategies offer upside benefits and downside protection, outperforming the 60/40 split while protecting your hard-earned capital. Tailored to your unique circumstances, we won't simply deduct your age from 100. Instead, we, and our hedging algorithm, work alongside you to understand your needs, future hopes, and each of the many facets of your financial life.
Don't settle for outdated investment approaches - take control of your financial future and reach out to learn more about how a tailored hedging strategy can benefit your future, livelihood, and family wellbeing.