Scorned 60/40 Model Finds Allies in Biggest Test Since 2016

bee

The strategy -- an investing stalwart since it arose from Harry Markowitz’s Modern Portfolio Theory about a half-century ago -- was already under pressure from the historic decline in bond yields. But the sharp move in the opposite direction is a more immediate threat, as recent market volatility has triggered tandem declines in stocks and bonds.

That jeopardizes the relationship at the heart of 60/40, which relies on the smaller, fixed-income allocation cushioning losses when riskier assets slump. The prospect of a faster economic recovery due to vaccines and heavy government stimulus has hit bonds hard, driving yields up at a speed that’s roiled equity markets. The method now faces one of its most severe tests since 2016, when U.S. President Donald Trump’s election raised expectations that lower taxes and lighter regulation would turbo-charge growth.

scorned-60-40-strategy-finds-allies-in-biggest-test-since-2016

bee

The duration for long-term bonds (VBLAX), a measure of how sensitive prices are to interest rates, is 15. An oversimplified way to think about this is a 1% rise in rates would lead to a further 15% decline from here. Yikes.

Vanguard’s total bond fund, which goes back to 1987, has a maximum decline of just 7.8%. It fell 5% on two other occasions. That’s it. In the words of Rocky Balboa, “ain’t so bad.”

As I’ve said a hundred times, a bad year for bonds is a bad afternoon for stocks. Unless it’s long-term bonds. Then a bad year can be horrible, especially if rates continue to rise.

https://theirrelevantinvestor.com/2021/03/15/aint-so-bad-2/

Observant1

When bond bear markets are discussed, context can provide useful information.
As @bee illustrates above, declines for high-quality bond funds (except long-term funds) are tame compared to stock funds.

davidrmoran

Decline in stocks, huh --- let us hope.

Shiller p/e is nearing 36, highest since runup / plunge ~ Jan 2000 (forget 2009).