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Balancing act

6 May 2020 By Swaha Pattanaik

The archetypal balanced portfolio, 60% equities and 40% fixed income, may not outlast the coronavirus crisis. The traditional mix goes off kilter if bonds are going to offer less and less income and more and more volatility. The solution may be to hold more stocks and cash, and possibly gold, too.

The problem with the old split is that bonds no longer fulfil their intended function. They are supposed to offer a steady income stream rather than high returns and act as a buffer when equities head south. That’s not how it’s panning out. Huge asset purchases by Federal Reserve Chairman Jerome Powell and European Central Bank President Christine Lagarde are pushing up bond prices, which move in the opposite direction to yields. Increasingly, yields are low or even negative and investors only make money if prices keep rising.

True, continuing central bank purchases mean that could happen for a while. But the second difficulty is that fixed income is no longer so stable. The yield on the benchmark 10-year U.S. Treasury note, supposedly the safest and most liquid bond, fell by two-thirds over two trading days in March before rebounding sharply on the third day, almost to where it started. Third, equity and debt prices started to fall in lockstep during the pandemic-induced market turmoil in March. Such episodes defeat the point of holding low-yielding bonds.

Overall, there’s a strong case for increasing allocations to stocks, say to 70%. Yet investors still need buffers in case equities sour. They can hold more cash. There’s an opportunity cost since interest rates on deposits are close to or below zero in most advanced economies. But cash offers more safety these days than low- or negative-yielding debt and is always in high demand during times of financial stress.

Gold, either in its physical form or via exchange-traded funds, is another option. The yellow metal is a hedge against both deflation and inflation, ideal when it’s unclear whether cratering economies will depress prices or central bank money printing will push them up.

And the cost of storing and insuring physical gold holdings is less of a deterrent when alternative safe havens are offering zero or negative yields. A 70% stocks, 20% bonds, 5% cash and 5% gold mix outperformed the 60/40 standard over the past year. Maybe portfolios will become shinier.

(This is part of a series of insights from Breakingviews columnists examining how the Great Lockdown to halt Covid-19’s spread will affect business, finance, economies and markets.)


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