This year is not shaping up to be the worst in U.S. history for a balanced 60% stocks–and–40% bonds portfolio.
It’s important to point this out not just to correct the misleading historical narrative that has been spreading around some corners of Wall Street — a narrative I’ve seen mentioned a half-dozen times over the last few weeks. It’s also important because retirees and others who invest in balanced portfolios may be tempted to respond impetuously if they believe that what they’ve suffered this year has never been experienced before.
But first, there’s no denying that it’s been a bad year for balanced stock/bond portfolios. Your year-to-date loss through Sep. 15 would be 20.4% if your portfolio allocated 60% to the Vanguard Total Stock Market Index fund
and 40% to the Vanguard Long Investment Grade fund
For the full year 2021, in contrast, this portfolio would have gained 14.4%, according to FactSet data. It would have done even better in 2020, gaining 18.7%.
With double-digit gains like those, many retirees became spoiled, expecting something similar this year, as well. But when we expand our vision to the long term, we see that the 60%/40% portfolio’s year-to-date performance, while worse than the historical average, is by no means the worst. In fact, you don’t have to go that far back to find a calendar year that was worse: In 2008, a 60%/40% portfolio invested in VTSMX and VWESX lost 21.3%.
To determine which year was the worst for a balanced stock/bond portfolio, I turned to the historical database dating back to 1793 compiled by Edward McQuarrie, professor emeritus at the Leavey School of Business at Santa Clara University. Because McQuarrie’s series of 12-month returns over the last 200-plus years is calculated on a January-to-January basis instead of December-to-December, they are not strictly calendar-year returns. But they provide the necessary historical context.
The worst 12-month period for a balanced portfolio was from January 1931 to January 1932, over which a 60% S&P 500/40% long investment-grade bond portfolio lost 36.3%, according to McQuarrie’s calculations, which take dividends and interest into account. The next worst occurred over the 12 months through January 1842, when such a portfolio lost 27.1%. In third place was the 12-month period through January 1938, when it lost 24.5%.
If the 60%/40% portfolio this year stays flat for the remainder of 2022, it will be the fifth worst since 1793. Not good. But not the worst.
What happened after past bad years for the 60/40 portfolio
An even better reason not to jump off a cliff is the performance of the 60%/40% portfolio following past occasions in which it lost as much or more as it has this year. Over the five subsequent years following those past occasions, the portfolio turned in well-above-average returns — as you can see from the table below. (I constructed the table using McQuarrie’s database.)
|60%/40% portfolio average annualized return over subsequent 5 years|
|All years since 1793||7.2%|
|All years in which 60%/40% portfolio fell by at least 20%||13%|
This difference is significant at the 94% confidence level, just one percentage point shy of the 95% confidence level that statisticians often use when determining if a pattern is genuine. On the assumption that the future will be like the last 229 years, therefore, you should not be too quick to throw in the towel on your balanced stock/bond portfolio.
Think of it this way: The 60%/40% portfolio’s handsome long-term returns are compensation for the risk that you’ll suffer a year like 2022. Hoping to capture those returns while avoiding their inherent risk is magical thinking, akin to wanting something for nothing.
With what you’re feeling right now you are paying your dues.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at email@example.com.