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Reasons to Look Beyond a Stock and Bond Portfolio

When investors are relying on a 4%-6% return in their financial plan but bonds are only yielding 2% is it prudent to stick with a portfolio of only stocks and bonds?

Transcript

Eric Crittenden: Most advisors adhere to something very similar to a 60/40 approach, 60% stocks, 40% bonds. Is that likely to work going forward?

Let me just tell you what my concerns are about 60/40. I'm not so concerned with the stock side. Stocks can do things that-- They're unpredictable, very unpredictable. Stocks could be up 20% a year for the next five years or they could do something like Japan did after 1989 and be down 30%, 40%. There's no way to know. There's a lot of randomness to stocks.

My concern is on the bond side. The nice thing about bond math is that it's not that hard to estimate what your returns are going to be. It doesn't look very good but my calculations and I've done several Monte Carlo simulations where I look at varying different levels of inflation, all kinds of different ways, interest rates could go up, they could go down, they could go sideways, they could spike down and then soar, I've looked at thousands and thousands of different permutations and calculated what the returns would be for each one of those, and then staggered different levels of inflation.

If I'm being completely objective, I have to say that there's about a 95% chance that bond investors today are actually going to lose money on their bond holdings over the next 10 years in real terms. We factor in advisory fees and inflation. We've never seen anything like that. I haven't. I can't even find it in historical data. Think about what that means. On 40% or 50% or 60% of your portfolio, the expected return is negative. That's not a good situation to be in.

That's my real concern about a 60/40 portfolio is that-- For retirees, and some people have more than 40. They have significantly more than that. I really do believe that return is negative, at least in real terms. I also believe that most people are counting on 4%, 5%, 6% returns a year going forward. That doesn't compute. It's not working out. That's the biggest knock on 60/40 right now. I know it's been a great performer in the past but there are some iron laws about the mathematics and how bonds work and I just don't see them grinding out a return that's going to make people happy going forward.

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