The Capitalist Investor - Episode 48

Traditional asset allocation models are going extinct. The 60% stocks 40% bonds portfolio split that you’ve been taught your whole life isn’t going to work like it used to. It’s time to think differently. When we came out of the global financial crisis, we could “set it and forget it” because interest rates on bonds were coming down.

As interest rates go up from the 0.75% they’re at right now, the price of current bonds will fall. You may even get a negative return from your bonds. The 40% allocated to fixed-income will be a headwind to your performance—unless you get creative. How do you do that? What are some asset classes you could consider? Listen to this episode of The Capitalist Investor for our take.

Outline of This Episode

  • [2:00] Why the 60/40 Portfolio is Dead
  • [6:05] The purpose of the fixed-income allocation
  • [8:17] Our top fixed-income alternatives
  • [13:48] Why you NEED to make some changes
  • [15:38] Why annuities can be an effective option
  • [18:33] Our final takeaways on asset allocation

The purpose of the fixed-income allocation

My thought process has significantly changed over the last few years. My conversations with clients over the last several months to few years have led to this philosophy: You should only have enough money in the 40% sleeve to cover 3–4 years’ worth of expenses in the event of a severe market downturn.

How many years of living expenses do you need to weather the storm and not sell your stocks while they’re down? Traditional asset allocation models are going extinct. If you’re 70 and retired, it’s okay to have an 80/20 portfolio. The global pandemic has allowed us to see how portfolios are—or aren’t—protected based on their asset allocation. That’s why you need to consider alternatives.

Look at these fixed-income alternatives

Fixed-income investments like bonds are likely going to see negative returns. Bloomberg throws out some alternative options like owning shares in privately held companies or entertainment royalties. We don’t agree with that move. So what are the alternatives we’d stand behind?

  1. Single-Family Rentals: If you can find a rental property that can bring you positive cashflow—go for it. If you can’t afford a multi-family property on your own, this is the way to go. Another alternative? Find 5+ people to purchase a multi-family property with you. The downside is that it can be stressful because real estate is an active investment. Whereas you aren’t active with your bond portfolio—you just collect a paycheck.
  2. Private Debt: Some financially sound companies (doing over $100 million in revenue) can’t go to the bond market, so banks OR private equity firms have to loan them money. Some private equity firms charge 10% interest on those loans. Investors may get 8% of that 10%. The private debt segment exists because of the global financial crisis in 2008. It’s a great alternative that can provide the yield you’re looking for.
  3. Bank Preferred Stock: We own shares of J.P. Morgan (if you have to own a bank, you might as well own the best one ever). We also get exposure through non-bank financials like Blackstone, Black Rock, eHealth, etc. Consider owning the bank preferred stock, where you can get a yield on companies that tend to trade sideways (and will get bailed out if they go under). It’s a step up from bonds and a step down from common stock—but can enhance your return.

We also talk about how annuities can be an effective option. Listen to find out why!

Why you NEED to make some changes

A prospective client recently asked why our projected returns were so conservative. He wanted to know why we weren’t using the standard 10% projection. The answer? It’s just not going to happen. As bond interest rates go up, they decrease in value. The 10-year treasury is 0.75%, which means they have nowhere to go. They’ve been falling for 30 years. They have the potential to truly hurt your portfolio. If you don’t make changes with your asset allocations, your returns aren’t going to look good over the next 10 years.

Don’t subscribe to the 60/40 or 70/30 cookie-cutter answer for your investment strategy. If you’re approaching retirement, the real thing that can cripple your financial plan is having to sell stocks at decreased prices. The bottom-line question you need to focus on answering is: How many years of expenses do you want to make sure are not in the stock market? Listen to the whole episode to find out what percentage we think you should own in bonds and how many years you should account for. We also shed light on some creative options for your portfolio.

Remember, it’s we won’t live in a “set it and forget it” type of environment anymore. We are entering into a new type of investing period. Make sure you’re paying attention and that you’re prepared.

Resources & People Mentioned

Connect with Derek Gabrielsen

Connect With Mark Tepper

Send your questions and comments to us at info@SWPConnect.com

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