Is self-investment a better choice than the 60/40 portfolio?

Tamara Kostova, CEO of Velexaempowers institutional clients through tailored and integrated investment services.

Staggering inflation rates in the UK and other countries are once again threatening personal savings. The UK CPIH – the consumer price index, including owner-occupier housing costs, the UK’s most comprehensive measure of inflation – is on the rise. steady climb as of February 2021, according to the Office for National Statistics. In December 2022 it was 9.2%. In October it was 9.6%. Indicative models suggest that this was the highest rate of inflation in 40 years.

Investors must anticipate the trends in order to be truly responsible with their own portfolios. I say this after working in core banking technologies for nearly two decades and understanding both banking products and how banks think about their product roadmap and offerings. The traditional ‘savings investments’ portfolio of 60% equities and 40% bonds can also be affected by rising interest rates.

The pros and cons of savings portfolios

Bob Rice, Tangent Capital’s Chief Investment Strategist, predicted at the Fifth Annual Investment News conference in 2022 that the 60/40 portfolio would only grow by 2.2% per annum.

Given the current rate of inflation, this means that the real value of a 60/40 portfolio begins to decline as inflation rises above yield. When the 1960s/40s yielded more than 11% and inflation fell to 4.8%, following a 60/40 portfolio strategy still made sense. It meant that the real value of the portfolio was still 6.2% faster than inflation (11% to 4.8%). But if a 60/40 yields only 2.2% and inflation rises at 9.2%, the portfolio’s real investment falls at a rate of 7% per year (9.2% to 2.2%).

According to Morgan Stanley’s Steve Edwards, 60/40 portfolios will be a net return 3.9% higher than inflation over the next 10 years. Edwards admits that the 60/40 portfolio isn’t as powerful as it used to be, but it can still be a good option for investors interested in stable, risk-adjusted returns.

Diversification with different assets

The practice of holding several assets in a portfolio harks back to the age-old investment advice of diversification. These days, I think diversification means more than having a wide variety of stocks. It also means actively managing a wide variety of asset classes. Here are some examples.

• Raw materials: These are commodities such as precious metals, grain, natural gas, agricultural products, etc., which tend to increase in price when inflation rises. Even during unexpected inflation, this unique asset class can continue to provide a successful hedge.

However, commodities can be highly volatile and prices can change suddenly due to supply chain issues or geopolitical factors. Being able to enter and exit a position is therefore vital for using commodities successfully.

• Real Estate Investment Funds (REITs): REITs generally do well in times of inflation, financial planner Marco Rimassa recently told CNBC, because of their ability to raise rents and pass the income on to investors.

• The S&P 500: Investing in the S&P 500 and other index funds offers great diversification can significantly reduce the risks during periods of high inflation.

• Other Assets: Gold tends to hold its value because it is a physical, tangible good. Real estate is another investment vehicle to consider, as landlords often protect themselves by charging more rent due to rising property values. And TIPS – Treasury Inflation-Protected Securities – are sort of Treasury bond issued by the US government that are indexed to inflation so that they can specifically protect investors during inflationary periods.

Choose the right investment classes

No investment offers the same value to every person. Everyone has different risk tolerances and financial situations. Determining which assets to invest in is a personal choice that should be made after you have become as fully informed as possible about the pros and cons of that asset class. Here are some guidelines on what to consider when deciding which asset class to invest your money in.

• Risk Tolerance: How much ‘cushion’ do you have to fall back on if your investments fail? The bigger that cushion, the bigger your risk tolerance. In general, you should not invest more than you are willing to lose. If you have a low risk appetite, you should choose low-risk investments rather than volatile ones.

• Investment period: How long have you been investing? If you’re looking for stable, long-term profits, you may be better off with assets whose value has remained predictable over time.

• Investment knowledge: If you’re new to investing, stick to more traditional asset classes. More experienced investors may want to consider alternative investments such as private equity and real estate.

• Risk vs. Yield: The more risk an asset class has, the more hands-on your investment should be. You should regularly check your investments yourself or hire someone to do this for you. If you are not an experienced investor, it may be better to use an advisor. This will increase your costs.

Invest as a means of savings

Even if inflation returns to expected levels, the 60/40 portfolio may no longer be the best savings option for everyone. That means even inexperienced investors should consider rolling up their sleeves and looking for better options.

Investing in an actively managed, diversified portfolio with sufficient hedges against inflation can give a more realistic picture of what has been saved. I find that the traditional savings paradigm can give savers a false sense of hope because there is a certain amount of confidence in traditional savings and retirement portfolios. However, the right fintech investment platform or advisor can enable DIYers to build a portfolio that gives them a much more accurate picture of their savings. With proper research to find the right fit for you, a fintech platform or advisor can enable you to properly plan a portfolio and save for the future.

The information provided here is not investment, tax or financial advice. You should consult a licensed professional for advice on your specific situation.

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