Is the passive 60/40 investment portfolio outdated?

AiM TLDR

Ben Inker is the Co-Head of Asset Allocation at GMO. In his September newsletter, he makes the case for deviating from a traditional 60/40 asset allocation strategy.

Key arguments:

1. Historical performance doesn't guarantee future results: While the 60/40 portfolio has performed well historically, past performance may not indicate future success, especially given current market conditions.
2. Valuation concerns: Inker argues that both stocks and bonds, particularly in the U.S., are trading at historically high valuations, which could lead to disappointing returns in the medium term.
3. Periodic underperformance: There have been six periods averaging 11 years each where a 60/40 portfolio either broke even or lost money in real terms, often following periods of strong returns.
4. Lack of flexibility: A static 60/40 allocation doesn't adjust to changing market conditions or valuations, potentially missing opportunities or exposing investors to unnecessary risks.
5. Overexposure to overvalued assets: The current 60/40 portfolio is heavily weighted towards expensive U.S. growth equities and credit exposures with narrow spreads over Treasuries.
6. Geographic concentration: The traditional 60/40 portfolio is typically dominated by U.S. assets, potentially missing opportunities in other markets, particularly non-U.S. equities that are currently cheaper relative to the U.S.
7. Limited diversification: The 60/40 strategy relies primarily on two risk premia (equity and inflation), potentially missing other diversifying exposures and alternative risk premia.
8. Inability to capitalize on market dislocations: A static allocation can't take advantage of extreme valuation disparities, such as the current opportunity in deep value stocks or the spread between value and growth stocks.
9. Currency effects: The 60/40 portfolio may not adequately capture opportunities arising from currency valuations, such as the current tailwind provided by cheap non-U.S. currencies.
10. Changing risk premia: As valuations change, risk premia also change, suggesting that a more dynamic approach to asset allocation may be beneficial.
11. Sector-specific opportunities: The traditional 60/40 approach may miss sector-specific opportunities, such as the current potential in Japan small cap value equities.
12. Inability to use alternative strategies: The 60/40 portfolio can't incorporate strategies like long/short equity, which could potentially enhance returns and manage risk in the current market environment.

Inker suggests that the GMO Benchmark-Free Allocation Strategy, a more flexible, valuation-sensitive, and globally diversified approach to asset allocation may be more appropriate in the current market environment and potentially lead to better risk-adjusted returns over time.