At its core, the 60/40 strategy is designed to provide a balance between growth and stability. Stocks are inherently more volatile, offering higher potential returns but also greater risk. Bonds, on the other hand, are generally more stable and provide a cushion against market downturns. In this way, the 60/40 allocation is built on the idea that the growth of equities can be balanced by the safety of bonds, leading to a smoother ride for investors, especially during market volatility. 

While it may seem "boring" compared to aggressive all-equity portfolios, the balance is attractive to many investors who are looking to protect their capital while still participating in the growth opportunities that stocks offer. Over time, this mix has often proven to generate a solid risk-adjusted return, especially for those who have a longer-term investment horizon. 

The 60/40 asset allocation has historically been a go-to strategy for investors seeking a balance between growth and stability. Its simplicity and past performance make it an attractive option, but in today's complex financial environment, a more dynamic approach may offer significant advantages. Dynamic asset allocation (DAA), which adjusts asset allocations based on market conditions, risk tolerance, and economic outlook, can provide greater flexibility and adaptability compared to the static 60/40 mix. 

One of the primary advantages of dynamic asset allocation is its ability to respond to changing market conditions. Unlike the 60/40 model, which maintains a fixed ratio of stocks and bonds, DAA allows for periodic adjustments to the portfolio mix. This flexibility can be invaluable in volatile or uncertain markets. For example, in a period of rising interest rates, a dynamic portfolio can reduce bond exposure and shift into asset classes that are more resilient to inflation, such as real assets or inflation-protected securities. 

In contrast, the 60/40 approach remains static regardless of economic shifts. While bonds traditionally serve as a hedge against stock volatility, their returns may be insufficient in low-rate environments or during periods of rising inflation. Dynamic strategies allow investors to actively navigate such environments by reallocating capital into assets that are expected to perform better under current market conditions. 

Dynamic asset allocation can significantly enhance portfolio performance by adjusting equity exposure based on market conditions. For example, when the earnings yield of equities is compared to the return on risk-free assets like U.S. Inflation-Linked Bonds (TIPS), portfolios can dynamically shift their stock allocation. If the excess return from equities is high, the allocation to stocks increases, and when it’s low, the exposure decreases. 

This approach was particularly useful before the COVID-19 pandemic. As valuations rose, portfolios reduced stock exposure and thereby lowered risk. In 2022, when valuations dropped, portfolios increased equity exposure to capture growth opportunities. A static 60/40 portfolio, in contrast, would not have adapted, potentially increasing risk during market highs and missing opportunities during lows. 

Currently, high equity valuations suggest that a lower-risk position is prudent. Dynamic allocation allows investors to reduce equity exposure, manage risk, and maintain flexibility to adjust as market conditions change, outperforming static models like the 60/40. 

While the 60/40 asset allocation provides a stable, albeit "boring" framework for investors, dynamic asset allocation offers superior adaptability to changing market conditions, enhanced risk management, and the potential for higher returns. In a world of economic uncertainty and rapid shifts in financial markets, DAA can be a more strategic and effective approach for long-term investors, especially those willing to embrace a more active role in managing their portfolios. 

For over 25 years, Cameron Harrison’s investment team have successfully implemented dynamic asset allocation solutions for our clients. By drawing upon our significant economic and financial market experience and knowledge, we can assess and determine the optimum asset allocation solution for your portfolio. To learn more about our suite of multi-asset and bespoke asset allocation solutions, please follow the link below.  

Cameron Harrison - Strategic Asset Allocation Service - Cameron Harrison