The search for income has been well documented as global interest rates have played a continuous game of limbo for the past few years; how low can they go? But the implications of these low rates extend beyond low yields and investors’ resulting meager source of income. In this note, we discuss what we believe is the biggest source of risk to the universal standard 60/40 portfolio, and what investors can (and should) do now to fix what is broken.
A 40% allocation to a mixture of Treasuries and high-quality corporate bonds has historically served multiple purposes in a portfolio, including income, capital preservation and diversification. But we believe core fixed income is ill-equipped to meet these goals going forward. After a multidecade secular decline in interest rates and the massive fiscal and monetary response to the health crisis, rates are hovering near or below zero throughout the world. Not only do low rates starve income-seeking investors, but the historic risk-return assumption of bonds – the very basis for their inclusion in a balanced portfolio – has been fundamentally altered.
Key takeaways
- Bonds, and by extension balanced portfolios, face enormous headwinds.
- Declining rates have left portfolios bereft of income and more sensitive to interest rates than ever before.
- Fixed income no longer serves as a guaranteed equity hedge and should inflation re-enter the picture, bonds will be even more challenged.
- Investors need to find ways to fix their fixed income, either by diversifying their “40” or seeking alternative solutions.
