With bonds not being able to perform well, and possibly inducing losses, investors may need to rethink their asset allocation model. This has many advisers and investment professionals looking for alternatives, one of the best being an 80/20 portfolio. As before, the first number represents the number of stocks in the portfolio. In this case: 80%. Conversely, bonds should be limited to only 20% of the portfolio.
The idea is that stocks will offer a better real return given the high inflation rates and the need for the Fed to raise rates over the next few years. Better yet, the portfolio can achieve what the 60/40 did before: decent returns with less volatility. Research of PNC shows that based on return assumptions, an 80/20 works over the long term and reduces risk; but not of the same magnitude as the previous 60/40 at its peak.
The key is that investors don’t need to get into the gangbuster when reconfiguring their allocation. Focusing on dividend-paying stocks could easily do the trick, especially with those that have the ability to increase their payouts. With dividend growth rates historically eclipsing inflation rates, these types of stocks are expected to be in high demand as the Fed hikes rates. Meanwhile, dividend-paying stocks are generally less volatile than those that don’t pay dividends. Investors can really have their cake and eat it too.
Second, nothing says the 40% must be in US Treasuries. JP Morgan and Goldman Sachs suggest that investors are looking to a variety of non-core bonds to help boost returns on the fixed income side. For example, floating rate bonds and inflation-protected U.S. Treasury securities (TIPS) makes a lot of sense because bonds include incentives to their coupon payments, allowing them to pay higher returns as the new environment sets in.
Ultimately, a combination of more stocks and a different focus on bonds might be the best medicine going forward. Thanks to the current market environment, the status quo no longer works for the majority of investors.
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