The 60-40 portfolio is one of many investment strategies in the market, each of which holds varying degrees of risk and reward. Understanding the right approach for you is dependent on a number of factors, including your risk tolerance and overall investment horizon. Digging deeper into the 60-40 investment strategy can help you determine if this is the appropriate portfolio strategy for you.
What is the 60-40 Investment Strategy?
The 60-40 investment strategy means that you will seek to balance your portfolio between 60% equities and 40% bonds. It is a popular strategy for those looking to enjoy the benefits of the stock market, while keeping a large chunk of their monies in safer investments.
Holders of a 60-40 portfolio have traditionally enjoyed healthy returns, though given its reliance on the performance of the stock market, these have shifted between years that were better and those that were worse.
What are the Advantages of the 60-40 Investment Strategy?
There are a number of advantages for implementing a 60-40 investment strategy, which helps explain why it has been such a popular approach throughout the years.
- Simple and straightforward: The 60-40 rule offers a straightforward guideline for dividing your portfolio. It can serve as an easy-to-understand marker for investors to follow and implement.
- A natural hedge: During lean years when the stock market hits a rough patch, having a significant amount of your holdings placed in bonds can shield you from heavier losses.
- Decreased risk: The upside of bonds are limited by definition, but so are the risks. Having slightly under half of your portfolio in a safer investment can be very reassuring, especially for those with lower risk profiles.
- Tried and tested: The 60-40 strategy has been employed for decades, with generally positive results. For a diversified portfolio, the best returns from the stock market are earned over time, so those with the longest investment horizons will experience the greatest benefits.
Disadvantages of the 60-40 Investing Strategy
As with any approach to investing, there are some disadvantages inherent to this strategy as well.
- Limited upside: In years when the stock market is on a tear, those who are so heavily invested in bonds will miss out on the highest returns. Those with a higher risk profile or more bullish outlook on the stock market would probably prefer an alternative approach.
- Risk is diminished, not removed: When interest rates increase, the value of bonds will drop as well. Periods of high inflation also decrease the relative value of bonds, as the fixed returns they offer might not outpace the decreasing value of the currency.
How to Tell if the 60-40 Portfolio is Right for You
Taking the time to think about both the advantages and the drawbacks can help you determine if the 60-40 strategy is right for you.
The 60-40 strategy has historically offered a pathway to enjoy the benefits of equities, but without completely completely exposing yourself to risks of the stock market crashing. This strategy generally makes sense for individuals who have a decreased appetite for risk.
The 60-40 strategy might also be appropriate for those approaching retirement age, as it will decrease the inherent risk for those who have less income-earning years left, and instead wish to safeguard their wealth.
On the flip side, this strategy is probably not ideal for those who can afford to take a riskier approach. This is especially true for those who are more bullish on the near-term prospects for the stock market.
Conclusion: Choosing the 60-40 Investment Strategy
The 60-40 investment strategy is an approach whereby 60% of your money will be invested in equities and 40% devoted to bonds. It has enjoyed historical success, allowing investors to grow their wealth while taking a more balanced, less-risky approach. Make sure to understand both its merits and its limits before deciding if it is the right approach for you.
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