Former Govt. advisor says balanced portfolios could soon be devastated

A former top securities and commodities advisor to the United Arab Emirates has warned of significant pain for investors who use traditional 60/40 portfolios, often referred to as balanced portfolios.

60/40 refers to 60% equities and 40% fixed income. In theory, the equities allocation is expected to provide capital growth, while the fixed income allocation is expected to moderate the volatility associated with equities.

However, Dr Ryan Lemand, who served for seven years as head of risk management for the UAE Securities & Commodities Authority, has warned of the devastating impact that inflation has historically had on 60/40 portfolios.

“Fighting this inflation will be with heavy collateral damage unfortunately, and I am not sure the stock market and the bond market will escape it,” he said.

Dr Lemand shared a chart on Linkedin showing how 60/40 portfolios were impacted in the 70’s – an era many commentators are comparing with the current global inflationary environment.

Balanced portfolios

“Inflation is devastating, and you can… see its effect on the typical 60/40 portfolio, whereby it completely erodes returns.”

“Out of whack”

Lemand points out today’s macroeconomic environment, particularly in the United States, is far more concerning than in the 70’s.

“A lot of analogy is being made between today’s inflation situation and that of the 70s, and many are calling for action as strong as that of Fed’s Chairman Volcker back in the 70s,” he said.

“However, would Mr Volcker have done the same had he been faced with a US debt-to-GDP of 125% and a US market capitalization to GDP of 190% today, instead of 40% and 30% back in the seventies?

“The US macroeconomic metrics are out of whack today.”

Time to pivot away from balanced portfolios and into alternatives?

Lemand is one of a growing number of analysts calling for re-think to the 60/40 portfolio model.

In an opinion article for CNBC this week, Logan Henderson, the CEO and founder of Gridline, an alternatives investment startup, made the case for retail investors to bring their portfolios into line with institutional investors.

“Right now, institutional investors have more than 55% of their assets allocated to alternatives largely due to their return potential, diversifying power and lower volatility. Meanwhile, retail investor allocation remains in the low single digits, because of historical access constraints,” wrote Henderson.

“But with lofty valuations of public companies and depressed bond yields, the traditional 60/40 stock-to-bond portfolio has been thrown to the wayside, so the next generation of investors needs to pivot away from their parents’ investing methods.

“While they can still try to squeeze all the juice possible out of the market, the most sophisticated endowments and institutions are looking elsewhere.”

Related: Steen Jakobsen: Inflation unlike anything experienced in decades