March 24, 2009
It’s time for a better benchmark for “Balanced” funds. Way back when, there were two dominant investment assets: US stock and US bonds. These two assets became the mainstay ingredients in balanced funds, with the typical ratio being a 60% allocation to large-cap US stocks and a 40% allocation to bonds.
News flash: it’s not 1959 anymore. Today, there are multiple mainstream asset classes that should be considered when building a diversified balanced benchmark. Shown below are 12 asset classes that should be included in a 21st century balanced fund. The 12 ingredients that belong in a balanced fund fall within seven core asset groups: US equity, Non-US equity, Real Estate, Resources, US Bonds, Non-US Bonds, and Cash. Within the seven core asset groups are 12 specific sub-assets (see “Balanced Remix”).
Balanced Remix
Approximately 65% of the Portfolio Allocation in Equity and Diversifying Assets |
Approximately 35% of the Portfolio Allocation in Bonds and Cash |
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US |
Non-US Equity |
Real |
Resources |
US |
Non-US Bonds |
Cash |
Large Companies |
Developed Markets |
Global |
Natural Resources |
US Aggregate Bonds |
International Bonds |
US Money Market |
Medium-sized Companies |
Emerging Markets |
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Commodities |
Inflation Protected Bonds (TIPS) |
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Small Companies |
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Balanced funds are one of two structures meeting the requirements of a qualified default investment alternative (QDIA) under the provisions of the 2006 Pension Protection Act (PPA). The other QDIA is a target date fund. In addition to their built-in “glidepath” (i.e., dynamic asset allocation model) a common attribute of target date funds is broad diversification across many asset classes. Balanced funds don’t have a glidepath because their allocation stays at or near the 60/40 level over time. However, balanced funds should be utilizing multiple asset classes to gain the benefits of true diversification. The current reality is that most balanced funds are not broadly diversified because they are based on an outdated model which typically employs only two asset classes: US large-cap stocks and US bonds. You know the drill: 60% S&P 500 and 40% Lehman AGG (now Barclays Capital AGG). We can do better.
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