Recent market turmoil puts this on full display
I was asked recently which “Balanced” mutual funds or ETFs I like. My answer: none of them.
I think that in today’s environment, there is no such thing as a good Balanced fund. Not if we are using the traditional definition, where stocks and bonds, primarily in the U.S., are the core offering. Here’s why:
Stocks too high to carry the portfolio like they usually do
Stocks are at treacherous levels, and most balanced funds have no plan for an extended period of low or negative returns. They don’t hedge. Last week’s sudden market plunge was reminiscent of what we saw last February. It was fast and furious. And, regardless of whether stocks bounce strongly as they did in March, the die is cast, so to speak. The broad stock market is staring down the barrel of a period of lower returns than folks are used to.
But…bonds will save me! No, they won’t.
Investors in balanced funds think of the bond portion (the 40% part for the 60/40 crowd) as a hedge for the stock segment of the portfolio. And, based on history, who can blame them for thinking that?! After all, bond returns have been fabulous, even when the Fed wasn’t standing right behind them to stop them from crashing (as they are doing now).
Bond math doesn’t work for investors anymore
However, from here bonds are a high-risk/low-reward proposition. Don’t ask me, ask math! Rates this low can only cause managers to earn a long-term return below their expense ratio, or force them to “reach for yield” which can blow up on them when the corporate bond market does (a la 2008). I remain as astonished as I was a few years ago that wealth managers have not done more to address this. How long will investors settle for having a slug of their money in a long-term position that mathematically might yield 1-2%, or lose money…BEFORE the manager’s fee is deducted?
“Tactical” balanced funds to the rescue? Not really.
Even most funds that provide a “tactical” approach to balanced investing are really just moving to areas that will do the least harm in a rough market. The stock bond paradigm fed the long-term asset growth that allowed a generation to retire comfortably. For those who are still accumulating, or used to relying on a 4-5% annual income return with low volatility, that era is gone.
The alternative: a different way to play offense and defense
What’s the alternative? As I have written and shown in this space for a while, I think it starts with embracing the idea that falling stock and bond markets should be turned into investment opportunities, the same way that you have viewed only up markets over the years.
That means learning more about hedging, turning defense into offense, shedding bonds as a “buy and hold” asset, and learning to do more rotation within parts of your portfolio. These all have one thing in common: they address the realities of today’s markets head-on. Balanced funds used to. They do not do that anymore. Ignoring that could make the difference between reaching objectives, and feeling like you are forever climbing the Wall Street “wall of worry.”
Balanced funds were built for the last decade. They were NOT built for the next decade.
That does not mean you abandon buy-and-hold equity investing entirely. I still think it can be a useful tool as part of an investment portfolio. I still look at the stock market as a good core investment. However, it now requires more much more attention and support than the “set it and forget it” days of yore.
The good thing about stocks: they are liquid, and can be hedged. That allows for a more tactical approach in the future. And that’s a good thing, because bonds are not nearly as liquid as they used to be. That is a game-changer for those popular Balanced Funds, and those who have relied on them since last century.
Comments provided are informational only, not individual investment advice or recommendations. Rob Isbitts provides Advisory Services through Dynamic Wealth Advisors