Recent Fed Actions And The Balanced Portfolio
Recent Fed Actions And The Balanced Portfolio
The 60/40 portfolio might not be dead quite yet.
In my last post, on October 11, I alluded to a brief vacation break. My wife and I enjoyed visiting an old friend in Manhattan as well as spending a little time in the Rhode Island area; specifically the areas of Newport, Narragansett, East Greenwich, and Providence, as well as a quick day trip up to Boston.
Before we get on to serious business, a quick picture for you. In Newport, we toured The Breakers, built between 1893 and 1895 as a summer residence for Cornelius Vanderbilt II, a member of the wealthy Vanderbilt family.
In building The Breakers, Vanderbilt hired the most famous architect of the day, Richard Morris Hunt. Among other things, Hunt wanted to recreate details of the great buildings of Europe, including the Paris Opera House.
And so, similar to the Opera House, in the grand entrance hall a beautiful staircase takes you to the second level. However, the space under the staircase was not left empty. No, a beautiful fountain was installed, evoking an underwater grotto, including the scalloped shell, dolphins, angels, and even a dragon. This mansion stands as perhaps the greatest example of the power of wealth created during the gilded age.
But now, onto a brief summary of events a little closer to home, in terms of the current time period.
Is The 60/40 Portfolio Dead?
Certainly, 2022 has proven to be an extremely painful year thus far for investors in just about any asset class with the exception of cash.
I love the clear, yet comprehensive, tweets that Charlie Bilello shares in his time line, and have shared them in several previous posts. Emphasizing the point above, here is a recent one, dated November 1.
Bringing things right up to the present, the Fed once again raised interest rates by .75%, its 4th-consecutive increase of that amount. In Chairman Powell’s comments in the press conference, he once again reiterated the theme of “higher for longer” as the Fed continues to battle stubbornly high inflation.
At the same time, a recent outlook from Vanguard suggests that possible looming recession is not necessarily a bad thing for the balanced investor. In fact, it may mark a new beginning.
They posit that, at some point, the unusually positive correlation between stock and bond prices that we have seen during 2022 will come to an end, and bonds will resume their more traditional role as a buffer, or offset, for stocks.
In fact, even as inflation begins to moderate, elevated interest rates are likely to stay in place for some time. This offers the possibility for the first time in years that positive real returns may be possible from bonds.
The second prong of the argument is that stocks are now much closer to fair value than they were as we entered 2022. In fact, Vanguard’s latest projected 10-year annual return model is now forecasting approximately 2% higher annualized returns for both U.S. and foreign stocks than it did a year ago.
Building on this theme, have a look at the graphic below, courtesy of Vanguard's research team.
Focusing on the top left, over a one-month period, stocks and bonds are both negative approximately 15% of the time, or approximately once every 7 months. Over a 6-month period, it happens 3.6% of the time, or roughly once every 3 years. So, while the first-half drop in 2022 was dramatic in terms of magnitude, it was not all that uncommon in terms of occurrence.
But extend the time horizon, and the odds drop dramatically. As the graphic features, there has never been a 3-year span since 1976 where investors have encountered losses on both stocks and bonds.
In summary, with both stocks and bonds having experienced severe recent declines, the odds of greater returns moving forward are more promising.
Watch For Tax Selling During November and December
One last thing before I wrap up this first newsletter back from vacation, and it’s related to everything I wrote above about the YTD results in both stocks and bonds during 2022.
There are a ton of tax losses out there. Due to severe declines in the the value of most stocks and even bonds, great potential exists for tax loss harvesting. I have been taking liberal advantage of this in my portfolio already this year. However, it is possible that there could be a lot more of this before year-end.
Just something to keep an eye on, as it may offer yet further opportunities to snap up some bargains before we head into 2023.
Last thing before I leave you. Substack has just released a new chat feature for writers and their audiences to explore new opportunities for meaningful conversations. I will likely look into experimenting a little with this feature this weekend. Stay tuned.
It’s good to be back, and I hope this newsletter finds everyone happy and healthy.
I agree. The corrections in both stocks and bonds have at least created the opportunity for gains in both asset classes going forward. It was really tough to make the case for bonds when the 10-year yield was under 1%.