Do you still have too much invested in stocks? At Young Research, we’ve long favored a balanced strategy. Why do we favor a balanced approach? The simple fact is that an all-stock portfolio has more volatility than most investors are comfortable with. This is especially true for conservative investors and those investors in or nearing retirement. If you are on the verge of retirement, can you afford to sustain a 50% loss in your portfolio? Stocks fell 50% twice in the last decade alone, and it could happen again.
With a balanced portfolio, you minimize the risk of portfolio-decimating losses and reduce volatility. Take the Vanguard Wellesley Income fund as an example. Vanguard Wellesley invests about 60% of its portfolio in investment-grade bonds and 40% in dividend-paying stocks. In the first big bear market of the last decade—the tech stock crash—the S&P 500 fell 9% in 2000, 12% in 2001, and 22% in 2002. Vanguard Wellesley Income gained 16% in 2000, 7% in 2001, and 4% in 2002. That is a cumulative advantage of almost 68% for Wellesley. If you had an all-stock portfolio during the tech crash, did you ride out the volatility, or did you sell near the bottom? The majority of investors we talk to sold near the bottom.
OK, so maybe you are in the minority. You rode out the tech crash. Your doc gave you an Ambien prescription so you could get through the night without waking up in a cold sweat. How were you rewarded for your patience? Soon after the S&P 500 recovered its tech-crash losses, the credit crisis hit. The S&P plummeted 56% from its peak. It fell 37% in 2008. More Ambien, please.
How did Wellesley fare during the credit crisis? Wellesley didn’t escape unscathed. After all, the credit crisis had a more severe impact on some bond markets than on the stock market, but Wellesley still bested the S&P 500, falling only 10%. In two of the worst bear markets in history, Wellesley Income investors escaped with only minor scratches.
But bear markets aren’t the only time that a balanced approach shines. Even comparing the YTD performance of the S&P 500 and Vanguard Wellesley Income fund, one can see the advantage of a balanced approach. My chart compares the YTD performance of the Vanguard Wellesley Income fund to the S&P 500. I’m not showing the chart to point out that Wellesley Income has outperformed the stock market YTD. Though it has, you shouldn’t expect a balanced approach to always beat stocks. What I want you to focus on is the much lower volatility of the Wellesley fund. Compare the smooth uptrend in Wellesley to the wild swings in the S&P 500. Which portfolio would you rather own?
Jeremy Jones, CFA
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