What is the 60/40 rule of investing? Is it relevant even now?

Vimal Joshi
Updated: 13 Dec 2021, 05:04 PM IST
TL;DR.

The age-old investing mantra of 60/40 says that three-fifths of the portfolio should be invested in equity and the remaining in bonds. We decode the rule for you and its changing significance in the contemporary times

In the long run, equity gives a higher return while bonds add a stable income to the portfolio.

In the long run, equity gives a higher return while bonds add a stable income to the portfolio.

The 60/40 rule of investing is a tried and tested portfolio allocation formula which says that a balanced portfolio comprises 60 percent of equity and the remaining 40 percent of bonds.

This is based on a premise that in the long run, equity gives a higher return while bonds add a stable income to the portfolio. However, the times have changed radically. Newer and more complicated financial products have forayed into the investment lexicon and interest rates have declined to historic lows.

Undeniably, this 60/40 rule was popular in the 80s and 90s when interest rates were higher. Now with declining rates and availability of other investment options, this investment plan has truncated relevance.

Instead of investing 60 percent in stocks and 40 percent in bonds, financial advisers now advise allocating money to more asset classes.

Harshad Chetanwala, Co-Founder, MyWealthGrowth.com, says, “The 60/40 rule can be looked at as a guideline and may not be applicable in general. The allocation in equity and non-equity investments should be based on the needs of the investor and how good is their overall portfolio.”

The other investment options worth exploring are commodities, gold, REITs and mutual funds, etc.

One reason for keeping a portfolio restricted to two types of investment options was that it was easy and convenient and there were fewer complex financial products available. As the financial markets have become more mature and there are several more options available, then it is unfeasible to keep pace with the markets by keeping portfolios restricted to just two asset classes.

 

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Usually the strategy of 60/40 doesn't work when the bond returns are rock bottom.

Factors to keep in mind while implementing the 60/40 rule:

1. Alternative asset classes: Instead of keeping portfolios restricted to just stocks and bonds, consider alternative assets such as commodities, gold and REITs.

2. Low returns: When bond returns are rock bottom, then this strategy doesn’t work. Investing 40 percent of funds to an asset class which are paying extremely low rates is unwise.

3. Age factor: The investor’s age also makes a difference. For a young investor in their 20s or 30s, it may be rational to keep allocation higher in equities. But as the investor becomes older, the allocation ideally should be changed. But one must keep in mind that equity allocation should remain sizable even at an advanced age.

 

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Although there is no rule of thumb, different investment theories propound different ideas 

Mr Chetanwala, adds, “At any point in time even at a higher age, there has to be a reasonable equity allocation as this is the only asset class that has the potential to generate a higher inflation-adjusted return over the period.”

As we summarise, we can underscore that the 60/40 rule of investing has come a long way from the early days to present times. Investors now tend to explore far more financial products to maximise their earnings without overlooking the fundamental tenets of personal finance.

First Published: 13 Dec 2021, 05:04 PM IST
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