Is the 60/40 portfolio dead?

The time-tested 60/40 formula for buy-and-hold investment portfolios got off to its worst start since World War II.

The value of the 60/40 portfolio — split between the S&P 500 Index of stocks (60%) and 10-year U.S. Treasury bonds (40%) — fell about 20% in the first half of 2022, the biggest decline on record for the start of a year, according to Goldman Sachs Research. Such “balanced” portfolios often have different formulations, such as a mix of corporate credit or international stocks. But virtually all of them had one of their worst starts to a year ever, according to Christian Mueller-Glissmann, head of asset allocation research within portfolio strategy at Goldman Sachs.

As consumer prices and wages have accelerated, central banks like the Federal Reserve scrambled to reverse their policies and raised rates. These changes have resulted in one of the biggest-ever jumps in real yields (bond yields minus the rate of inflation). And as policymakers try to contain skyrocketing inflation, stock investors are increasingly concerned that those efforts will slow growth, potentially tipping large economies like the U.S. into a recession. Indeed, investor concerns have recently shifted from inflation to recession as soaring inflation expectations have fallen, but it might be too early to neglect inflation risks, at least in the medium term, says Mueller-Glissmann.

This backdrop of slower economic growth and higher inflation is a difficult mix for balanced portfolios.

Although it stumbled this year, the stalwart 60/40 has been the optimal ratio on average since 1900 to maximize the risk-to-reward for a portfolio made up of only stocks and bonds (although the optimal allocation of equities has varied materially over time depending on broader macro conditions), according to Goldman Sachs Research. However a portfolio with a slice of real assets, like gold and real estate, performed even better over the long run.

In that case, the optimal strategic asset allocation since World War II has been closer to one-third equity, one-third bonds and one-third real assets, Mueller-Glissmann says. Things like residential real estate can generate profits that exceed inflation. Precious metals and even fine art and classic cars can help protect purchasing power when consumer and commodity prices are climbing quickly.

Find out more about asset allocation when inflation is running high in the full story.

Small businesses are the life blood of the U.S. economy, but the current economic environment is proving to be especially challenging for them.

At last week’s 10,000 Small Businesses Summit, more than 2,500 small business owners convened in Washington, D.C., to share their entrepreneurship experiences and advocate for meaningful policy changes. In the latest episode of Exchanges at Goldman Sachs, recorded on site at the Summit, Asahi Pompey, president of the Goldman Sachs Foundation, and Joe Wall, a managing director in the firm’s Office of Government Affairs, joined host Allison Nathan and two small business owners, Natalie Kaddas and Merv Cutler, to talk about the crucial tests small companies are facing — and the opportunities they see.

Hiring challenges are an especially big concern for small business owners. Cutler, who founded San Diego-based Cutler Engineering & Technology Services in 2014, says he has been looking for an IT engineer for two and a half months but can’t compete with the larger companies. “My challenge has been how much money do I spend?” Cutler says. “So it’s really, really challenging for the small business community to keep up with that kind of demand when I’m going against large businesses that have that resource internally.”

Supply chain delays and rising prices are forcing small business owners to change their strategies. “We’ve also absorbed quite a bit of costs. From a supply chain perspective, we’re purchasing differently. So we’re intentionally purchasing a lot more inventory, and we’re carrying that,” says Kaddas, who runs a plastics manufacturing business in Salt Lake City. “The good side to that is we’ve been able to win business because others haven’t been able to deliver, so we have won some contracts that way. But it does tie up your cash flow, and it’s a balancing act that we’re looking at on a daily basis.”

Addressing small business owners’ challenges will take a multifaceted, multiyear approach. “There’s not sort of a silver bullet,” says Wall, who says a step in the right direction would be for Congress to upgrade federal programs for small businesses. “The number one issue on our agenda is that the Small Business Administration, the federal agency that is charged with providing small businesses with the resources they need, has not been reauthorized by Congress in the past 22 years,” Wall tells host Allison Nathan. “And so we view that as the umbrella to fix a lot of the problems, whether it’s providing more workforce-related resources to small business, child care resources, retirement benefits.”

Despite the hurdles, small business owners are pivoting to meet the challenges. “One of the most interesting things that we’re seeing as I talk to business owners across the country is that we’ve moved beyond the pivot to the permanent,” Pompey says. “Business owners who pivoted as a result of the pandemic are finding that a lot of the changes that they made, those new products that they introduced, those new services that they’re offering, they in fact are pretty good, they’re working well, and they want to keep them.”

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“There is still a suspicion that sustainability is a distraction from ‘pure’ business,” according to Bertie Whitehead, managing director and EMEA head of ESG (environmental, social and governance) in investment banking at Goldman Sachs. “That couldn’t be further from the truth: It’s about maximizing your operating potential as a company,” he says.

Investors are increasingly asking if companies are tapping into growth areas such as the energy transition and the waste-reducing circular economy, Whitehead says: “We used to call these megatrends, but it’s simply growth investing. This is where capital is going.” That’s driving M&A pivots, according to Whitehead.

Here are some of the key takeaways from the conversation:

• “Private equity funds are racing to create sustainable funds. In Europe alone, ESG private equity assets under management have grown from 13% of funds in 2015 to 17.5% in 2020. If market expectations are correct that this will rise to be more than 20% in 2025, it means that more than 60% of new PE flows will need to be into ESG funds.”

 • The data shows the sustainability “premia in action,” says Whitehead. “Our observations of sustainability-themed transactions show multiples commonly in excess of the average [LBO transactions between 2017-2021], with some more than 50% above.”

• The flip side of this effort is identifying and managing risks. “The long-term impact of Russia’s war in Ukraine is a much greater understanding of energy security and resilient supply — through self-generation or trusted partnerships — including the use of hydrocarbons in the near term. It’s quite telling that the largest IPO in Europe since Russia’s invasion was for a hydrogen company, De Nora, that we led,” Whitehead says.

•  “Sustainability and ESG at scale haven’t traveled through a true recession yet. If the early stages of the pandemic are any guide, what we saw was an acceleration towards these factors — in particular the S and the protection of colleagues,” Whitehead says. Generally speaking, he thinks “people vastly underestimate how far public opinion has progressed on issues related to climate, governance and inclusion.”

Fundamentally, Whitehead believes “focusing on sustainability and ESG is good business practice…Treating employees well means lower staff turnover. Having inclusive hiring policies will yield the best people. Minimizing your environmental footprint can make for increased sales because customers are now really prioritizing the issue.” And over the long term? “Capital will flow to those companies that can prove themselves to be risk insulators and growth companies,” he says.

Read the full interview here.

What can a room full of financial professionals learn from two-time WNBA champion Candace Parker? In short: A lot.

In a recent episode of Talks at GS, the basketball star joined Goldman Sachs’ Susie Scher to discuss success and how to develop a winning mindset. Parker has worked relentlessly to become one of the most decorated female basketball players in history, and to change the game for future generations of female athletes. On top of that, she enjoys a multiyear deal as a sports commentator, launched her own production company and has her own signature basketball sneaker.

But success didn’t come easy. She’s had to break down barriers and overcome adversity.

“Winning is one of those things that when you win a championship, you want to do it again,” Parker said. “I come from an extremely competitive family…and one thing that my parents always instilled [in me] is that you can do and be anything that you work for. That you belong to walk into any room and you don’t have to fit into a certain mold.”

Her impact goes above and beyond sports. Earlier this year, she produced a documentary to celebrate Title IX’s role in advancing gender equality. “So many times we look at Title IX as just sports or just things like that. But it’s not about being professional in a sport. It’s about learning the necessary skills to survive in the world,” she said. “I would not be sitting here today if Billie Jean King, if Lisa Leslie, if they didn’t pave the way so that other young girls would be able to have the skills to live in this world.”

Parker is a trailblazer for both racial and gender equality. However, she believes allies are needed in the pursuit of diversity and inclusion.

“There’s not many 6′4″ Black women that have a wife that are walking into rooms. And so, I think it’s being unapologetic about it. I think it’s being unafraid about it…But I think it is important when you are that only one, it is your responsibility to not always have to start those conversations,” she tells Scher. “It’s people around you understanding that it is necessary. The burden is not just on us.”

Learn more about Candace Parker’s journey by watching the full interview.

After appearing on Talks at GS, Oaktree Capital Management’s Howard Marks also joined us for our Exchanges at Goldman Sachs: Great Investors podcast to discuss his investment strategies. Here are some key takeaways from his interview with Goldman Sachs’ Katie Koch:

• Good investing is not about buying good things, according to Marks. It’s about buying things well. “You have to understand the difference. It’s not what you buy, it’s what you pay,” he says.

• An economic crisis or meltdown is not necessarily something to be afraid of but an opportunity, according to Marks. He’s navigated several crises and often emerged from them successfully. In the 2008 financial crisis, “there was rampant pessimism [which was a] necessary condition for tremendous bargains,” he says. “But I also felt that if we bought and then the whole financial system melted down, it wouldn’t matter what we had done.”

• Marks emphasizes the importance of collaboration and partnership. He commends his co-chairman Bruce Karsh and says their partnership was founded in “shared values and complementary skills.”

• He says the current market is in a “reasonable place” and suggests the current disparity between public and private markets could be an opportunity. “One way or the other, investment is the discipline of relative selection. We have choices…if it’s true that public markets go down and private markets do not go down correspondingly, [then you would say that suggests to me] that public assets are cheaper and private assets are more expensive and you should wait till they catch up.”

•  Marks is also known for his investment memos (and incidentally quoting Mark Twain, who is credited with saying “history doesn’t repeat itself, but often rhymes.”) He’s been writing memos for more than 30 years and isn’t planning on quitting. “Writing memos is my creative outlet…Every once in a while somebody writes to me and says, ‘You changed my life.’”

Interested to learn more about Marks’ investment philosophy? Listen to the full interview.

Inflation is soaring and so are rental markets from London to New York City. For this week’s BRIEFINGS Brainteaser, can you tell us the average monthly rent in Manhattan in June? 

A) $3,801
B) $4,578
C) $5,058
D) $5,424

Check the answer here.