60/40 can work for some investors
To be sure, the 60/40 formula still has a place for investors seeking a more passive model — or those who get nervous every time the markets dip.
It’s a proven formula for someone who wants consistency, minimal risk and a “very vanilla financial model,” Karram says.
“It’s a middle-of-the-road, consistent long-term strategy that is not going to make you rich,” he says, “but you’re probably not going to lose all your money either.”
Still, some investment advisors have questioned the approach in today’s investing landscape, which looks a lot different than when the 60/40 rule was popularized decades ago.
They have good reasons. Back in 2000, investors with 10-year Treasury bonds generated about 6% on their money, providing a healthy balance and protection against stock volatility, in an investor’s portfolio. But last summer, the yield on the 10-year Treasury fell below 0.5%.
That has investors looking at other assets to replace that fixed-income component of their portfolios.
Alternative asset classes
Joel Clark, CEO and portfolio manager for wealth management firm KJ Harrison Investments in Toronto, says there are five main investments that can serve as alternatives to traditional stocks and bonds: private equity, venture capital, real estate, hedge funds and private credit.
Yet alternative assets have their own risks. And for those nearing retirement, managing risks and volatility is especially important because people are, in general, living longer and fewer of them can rely on employer-provided pensions to provide retirement income.
“People should have a base expectation that their portfolio needs to last them generally longer than originally planned,” Clark says, “and we’re going to have to get used to a bit more volatility because they’re going to be in asset classes that are much more sensitive than traditional, safer income streams.”
Thanks in large part to technology, the average investor has access to far more information and a wider variety of investing options than prior generations.
“The stuff that’s shaking the ground right now are ETFs [exchange traded funds], crypto, even real estate,” says Lesley-Anne Scorgie, founder of financial education organization MeVest. “That’s what people are talking about. They’re not talking about bonds anymore.”
Scorgie says investors should review their risk profiles every two years because of the market’s changing dynamics.
Financial advisors often assess risk profiles based on a set of questions about investors’ incomes, retirement or withdrawal timelines and behaviours around market fluctuations. Based on those answers, they’ll then take a bespoke approach to a client’s needs based on whether or not they can tolerate riskier investments.
If your appetite for risk is on the very low end, your portfolio should be predominantly fixed income investments, Scorgie says, adding, “The biggest mistake I see is where the risk profile is not being honored in the actual asset allocation in a portfolio.”
Diversification, inflation and timing
Alternative investments are not for everyone. Hedge funds, which can offer both diversification and greater returns, for example, are targeted toward wealthy investors.
Experts note hedge funds often invest in private companies, distressed debt, currencies and commodities and, for the most part, are not available directly to retail investors due to the varying risk profiles of these investments.
Wealth managers who offer these funds spend considerable time with clients to drill down on risk tolerance before placing capital in this asset class.
Real estate can also generate reliable income like a bond, but these days purchasing property in many parts of Canada can be cost prohibitive.
“There’s always going to be the little bird on someone’s shoulder telling them to get in the real estate market,” Scorgie says. “But the way housing prices have gone it’s become less and less viable for people to buy into that asset class.”
There is an alternative, though. A real estate investment trust (REIT) lets investors purchase shares in companies that own and operate properties ranging from office buildings, hotels, apartments and even clusters of single-family homes.
Investors earn a share of the income produced from these real estate portfolios.
For the fearless, investing in cryptocurrency is highly volatile but has made millions — if just on paper — for sophisticated and even small-time investors who had good timing.
Over the past year, the price of Bitcoin has gone from $12,274 to as high as $81,446. Recently, the cryptocurrency has been trading in the low $40,000 range. You need volatility tolerance to play in this space.
Clark says much of the future investing climate will depend on what happens with inflation. While it seems to be heading up now, it could slow after the recovery.
“If you're in an inflationary environment, you want to own commodities and reopen stocks, whereas if you're in a deflationary environment you want to own bonds, gold,” Clark says. “And so you have to tilt your portfolio one way or another based on the environment you think you're going into.”