Using alternative investments to diversify the traditional 60:40 portfolio

By Jo Bentham29th April 2022

The revered 60:40 portfolio allocation has been a staple for many investors for decades, with the split of 60% equities and 40% bonds (or something close to this) often relied upon to generate stable, steady growth. But this tried and tested method appears to be losing traction, and it may not be keeping pace with today’s market conditions.

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In the 1980s and 1990s in particular, the 60:40 portfolio – whereby lower-risk bonds act as somewhat of a protective blanket against the fluctuations of higher-risk stocks – performed well, but more recently its viability has been called into question.

Both stocks and bonds remain an important consideration for a balanced portfolio, but many experts now agree that to contend with today’s landscape, an experienced investor’s portfolio should be more diversified, incorporating asset classes outside of the typical stocks, bonds and cash. 

The recent Coronavirus pandemic and current soaring inflation have served to highlight this need for diversification.  

Whilst interest rates available on cash savings accounts have slowly started to rise as the Bank of England (BoE) have increased their base rate several times since it was dropped to an all-time low 0.1% in March 2020, the best rate available on an instant-access account at present is still just 1.5%. 

This is clearly well below inflation, which is now at a new three-decade high of 7%, and cash savers run the risk of their capital being eroded over the long-term with its purchasing power diminished.   

Meanwhile, the performance of global equity markets has fluctuated – and expectedly so – as they respond to today’s ever-changing conditions. 

As an example, on 13th April 2022 – the day UK inflation was revealed to have reached its current 30-year high – retail-focused stocks in particular were down, with rising inflation and the cost of living crisis spurring fears over household spending power. As a result, the likes of Tesco, Sainsbury’s and Marks and Spencer saw shares sharply decline. 

And as the intense volatility of the equities market was brought to the forefront during the peak of the Coronavirus pandemic in particular, alongside rock-bottom interest rates, it’s unsurprising that the question has been raised as to whether alternative assets could prove more attractive to experienced investors. 

In research conducted in 2021, NextGen Cloud found that when asked, 43% of UK investors – all with a portfolio value in excess of £10,000 – were now more likely to consider alternative investments compared to pre-Covid-19, most notably due to the low interest rate environment now witnessed.

 

Adding alternative investments to a diversified portfolio

Whilst the potential of alternative investments has been apparent to many experienced investors for some time, their growing popularity can be attributed to several factors. 

One factor is the democratisation of investments of this type for which access was once much more limited, and another is the unappealing nature of some mainstream investments amidst the current landscape. 

For experienced investors with the appropriate appetite for risk, there are an abundance of alternative assets to consider – from highly publicised cryptocurrencies and popular venture capital, through to property bonds, a hands-off method of gaining exposure to the UK property market. 

A well diversified portfolio should incorporate a mixture of alternatives, but there are some that could prove particularly beneficial to investors looking to adjust their 60:40 portfolio weighting due to stock market volatility and low-yielding Government bonds and alike. 

One of these are the aforementioned property bonds, which can offer set target returns often in excess of 7% and are typically fixed-term for a period of two to four years. These could prove an attractive alternative to traditional, lower target return bonds – but remember, their higher potential returns compared to the likes of Government bonds reflect their higher risks. 

Whilst most sectors were negatively affected by the Coronavirus pandemic, the UK’s housing market boomed, with 2021 the market’s busiest year in over a decade. With this in mind, it’s no surprise that it continues to be such a favoured asset of investors, showcasing strong resilience during a period of unprecedented economic instability. 

When investing via property bonds, experienced investors are able to reap the benefits of this in a hands-off, impact-driven manner, as the alternative finance provided by property bonds is more important than ever as the UK faces a widening gap between supply and demand

There is also potential to invest into property bonds tax-efficiently as they are often Innovative Finance ISA (IFISA)-eligible. The IFISA – introduced in April 2016 – opened the ever-popular ISA market up to alternative investments after investors were restricted to just cash and equities for its first 17 years. 

Rendering all returns completely free from income and capital gains tax, utilising the tax-free ISA allowance to invest is key for maximising potential returns – something that is clearly more important than ever.

 

Building a balanced investment portfolio

The economic landscape is ever-changing and it’s important to regularly assess your investment portfolio to ensure it continues to work towards meeting your investment objectives. 

For experienced investors amidst today’s conditions, this may mean diversifying your asset allocation away from the 60:40 portfolio to include alternative investments that have the potential for stronger capital growth than traditional bonds (and certainly cash), without the fluctuating nature of equities.