The 60/40 Strategy Has Worked Even When Bond Returns Have Disappointed

Historically, the simple allocation strategy of 60% large-cap stocks and 40% bonds has been a tough benchmark to beat. Not impossible, but tough. I like to refer to it as the Subaru station wagon of allocation strategies. It’s not flashy, but it has a record of reliability, it’s suitable for a large number of people and while it can’t fully protect you from a crash, it will hold up a lot better than many other strategies.

Between 1927 and 2018, the 60/40 portfolio has returned a respectable 8.5% on an annualized basis based on data from the Ibbotson SBBI Yearbook and our calculations. Though below the 10.0% annualized gain realized by an all large-cap stock portfolio, its volatility has been 40% less. In terms of maximum loss, the 60/40 portfolio’s worst calendar year was 1931 when it lost 26.9%. This was a far more tolerable decline than the 43.3% tumble large-cap stocks incurred. The 60/40 allocation has also had four more positive (and therefore four fewer negative) calendar years with positive returns (71 out of the last 92).

For retirees, the 60/40 strategy works well with the 4% withdrawal rule. Assuming a person withdrew 4% of their savings balance during the first year of retirement and then adjusted the initial dollar amount upward each year for retirement, they would have most likely had wealth left to pass along to their heirs. Even at retirement periods spanning 40 years, a retiree combining the 60/40 portfolio allocation with a 4% withdrawal rate would have money left over 87% of the time. For retirement periods lasting between 15 and 35 years, the success rates ranged between 100% and 93%. Those are good odds.

Still despite these positives, one big question stands out right now: What about the big bond allocation? What happens if bond returns are well below average going forward? I ran some numbers to find out.

There has been only one 20-year period over the last 92 years where annual bond returns mostly stayed below 3%: 1940–1959. During this period, there were 13 calendar years when intermediate-term government bonds realized a gain of less than 2%. During eight of those years, returns were less than 1%. Furthermore, the only years during this period when bond returns exceeded 3% were 1953 (up 3.2%) and 1957 (up 7.8%).

This period happened to be a very good one for stocks. Large-cap stocks realized a 14.1% annualized gain. The large gain more than offset the lackluster returns bonds realized. Thus, not only did the 60/40 portfolio realize a 9.9% annualized gain, it enabled a retiree to have far more wealth at the end of 1959 than they started with in 1940 even after withdrawals are accounted for. A $100,000 retirement portfolio at the beginning of 1940 was worth $245,500 at the end of 1959 with nearly $128,000 in withdrawals taken over the 20-year period.

An alternative analysis would involve looking at the years when the 60/40 portfolio incurred negative returns. There were 21 such years. During all but one of the years, stock prices declined in value. The only year when large-cap stocks rose but the 60/40 portfolio fell was 1994. Large-cap stocks rose by 1.3% while intermediate-term government bonds fell 5.1%.

None of this to say the 60/40 allocation is right for every person. There are strategies with higher levels of long-term returns, larger amounts of income or less volatility. More importantly, allocation is very personal; what is right for one person can be very wrong for someone else. What the numbers do show is a historical record of the strategy holding up even when bond returns have been disappointing.