Asset Allocation Review
someone just got started at the end of 1999, then they would have gained 20% using bonds vs. losing 20% with stocks for a 50% difference in final value (roughly $800 in stocks vs $1,200 in Bonds starting with $1,000 in either in 1999)
Bear Markets: The Benefits of Asset Allocation
The benefit of an asset allocation between stocks and bonds is the two asset classes tend to counter balance each other with the bonds having an effect of smoothing out the fluctuations in your total portfolio value. Even if you bought just before the Great Depression, it can be shown that a 100% S&P500 portfolio out gained a 100% bond portfolio if you waited 20 years! The trouble is most can't stomach the huge portfolio drops seen during the Great Depression so they diversify with bonds to smooth out the volatility. It should be noted that in 1973 and 1974 that both stocks and bonds had negative returns so the only "sure bet" is money in the bank with FDIC insurance.
Let's take a look at how the portfolios did in one of the worst bear markets since the Great Depression.
Portfolios at start of recent bear market |
I find it interesting that a balanced, 50:50 portfolio outperformed a pure bond portfolio by nearly 50% between 1991 and 2001 and yet it remained roughly flat during one of the worst bear markets since the great depression. You can see why most recommend a 50:50 allocation for someone in retirement that needs inflation protection. If you have so much money that you don't need inflation protection to maintain your needed income stream, then people often choose 30:70 or even 20:80 and use lower yielding municipal bonds for the most bang for the buck.
If you are young and have far more than 20 years until retirement, then a portfolio between 100% stocks and 80:20 probably makes the most sense. Once you are within 20 years of your desired retirement date, then it makes great sense to add bonds to your asset allocation to smooth out the fluctuations so you can have a more stable portfolio when you retire.
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