Key Takeaways
- Vanguard is encouraging some clients to consider allocating more than 50% of their portfolios to bonds, according to the mutual fund giant’s chief investment officer.
- Elevated stock valuations and risks around AI investment could depress stock market performance for the next decade, putting stock returns on a par with safer bonds.
The 60/40 portfolio is back. Or is it the 40/60 portfolio?
“It might be time to skew your portfolio more to the bond side versus U.S. equities,” said Gregory Davis, President and chief investment officer at Vanguard, in an appearance on CNBC Thursday.
“You have a 10-year [yield] that’s at 4.2%. You’re picking up a nice premium relative to where inflation is today,” said Davis. “It’s the first time in almost a decade where you’re actually earning a real yield when it comes to investing in bonds.”
Why This Is Important
Some market watchers wrote eulogies for the 60/40 portfolio—60% stocks and 40% bonds—during the bear market of 2022, when the Fed’s aggressive rate hikes burned investors in both markets. Recently, some money managers have been advocating a return to the classic portfolio—albeit, with some modern updates.
Treasury yields languished at historic lows following the 2008 Global Financial Crisis, and fell even further when the Federal Reserve slashed interest rates in response to Covid-19. Soaring inflation in 2022 forced the Federal Reserve to aggressively hike rates, driving bond yields higher. The yield on the 10-year Treasury note topped 4% for the first time since 2008 in September 2022, and has stayed above that threshold for most of the past three years.
In that time, the stock market has been on a tear. The S&P 500 is up about 90% since the current bull market began in October 2022. Booming investment in artificial intelligence has fueled three consecutive years of double-digit returns for the benchmark index.
But the market’s exceptional performance in recent years could be a double-edged sword. U.S. stocks “have been overvalued for some time,” said Davis on Wednesday. That’s one of the reasons he expects the return on stocks and bonds to be “pretty comparable” over the next decade. Vanguard predicted mid-single-digit stock returns over the next decade in its 2026 market preview. Goldman Sachs analysts issued a similar forecast a year earlier.
The appeal of holding bonds over stocks was on full display Thursday. Stocks sold off for a third consecutive day, putting the S&P 500 and Nasdaq down about 2.5% and 4.5%, respectively, since Monday. On the flip side, bond prices, which have been relatively stable for much of the week, surged on Thursday.
Few investors predict bond yields will rise appreciably in the foreseeable future. (Bond yields and prices are inversely related.) The Federal Reserve is expected to continue gradually lowering interest rates this year unless inflation picks up steam or the job market unexpectedly strengthens. One of the greatest risks bond investors face is President Trump’s attacks on Fed independence or America’s mounting debt burden completely erode investor faith in the Treasury market, causing bond prices to plummet. Both situations are widely seen as remote possibilities.