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Stock/Bond Ideal Allocation
Old 09-28-2010, 12:22 PM   #1
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Stock/Bond Ideal Allocation

I know that an investor's stock/bond allocation depends, in part, on his/her personal investment style, age, risk tolerance, etc. However, is there an "ideal" percent allocation between stocks and bonds- a mix that generates the highest rate of return with the lowest amount of risk?

I thought I read a research paper that suggested a 50%/50% allocation between stocks and bonds was the "sweet spot" for maximizing return while minimizing risk, but I can't find it now.

I appreciate your thoughts on this issue.
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Old 09-28-2010, 12:39 PM   #2
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Originally Posted by midnighter777 View Post
I know that an investor's stock/bond allocation depends, in part, on his/her personal investment style, age, risk tolerance, etc. However, is there an "ideal" percent allocation between stocks and bonds- a mix that generates the highest rate of return with the lowest amount of risk?

I thought I read a research paper that suggested a 50%/50% allocation between stocks and bonds was the "sweet spot" for maximizing return while minimizing risk, but I can't find it now.

I appreciate your thoughts on this issue.
Check John Greany's site The Retire Early Home Page. IIRC, he has info on this subject. Again, IIRC, the sweet spot for potential gain vs increased risk was more like 20/80 but it's been years since I looked at this stuff. The recent "unpleasantness" may have changed that somewhat in any case. Be sure to do all your homework on this before taking anyone's word for anything. Just my opinion, of course.
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Old 09-28-2010, 12:48 PM   #3
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The book "The Four Pillars of Investing" by William Bernstein has a table in it that shows asset allocation from 0/100 to 100/0 and the risk/return for each 5% band.

We settled on 60/40 based on the table combined with the balance of our investing timeline and profile.

Our library has the book, so you might check yours. It's a very good read.
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Old 10-14-2010, 05:54 PM   #4
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My ¨sweet spot¨is 60% stocks and 40% fixed income. Because I think bonds are more expensive than stocks right now, I´m sitting at 70/30. When interest rates go up, I plan to ease back to that sweet spot.
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Old 10-14-2010, 06:06 PM   #5
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Originally Posted by midnighter777 View Post
I know that an investor's stock/bond allocation depends, in part, on his/her personal investment style, age, risk tolerance, etc. However, is there an "ideal" percent allocation between stocks and bonds- a mix that generates the highest rate of return with the lowest amount of risk?

I thought I read a research paper that suggested a 50%/50% allocation between stocks and bonds was the "sweet spot" for maximizing return while minimizing risk, but I can't find it now.

I appreciate your thoughts on this issue.
The answer is yes there are optimal allocations but they depends on quite a bit of factors. Duration of the portfolio among others. Attached below is one of Bernsteins charts showing an optimal portfolio for different retirement duration spans. Notice that for longer time frames the allocation tilts towards equities over bonds.

Some people. like Bogle et. al., like to estimate the present value of expected pensions and Social Security streams of income as part of the bond allocation.

I would add that these aren't ordinary times. Your mileage may vary !
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Old 10-14-2010, 06:27 PM   #6
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Originally Posted by midnighter777 View Post
I know that an investor's stock/bond allocation depends, in part, on his/her personal investment style, age, risk tolerance, etc. However, is there an "ideal" percent allocation between stocks and bonds- a mix that generates the highest rate of return with the lowest amount of risk?

I thought I read a research paper that suggested a 50%/50% allocation between stocks and bonds was the "sweet spot" for maximizing return while minimizing risk, but I can't find it now.

I appreciate your thoughts on this issue.
I think it was in one of Bernstein's books in which he says a 50/50 allocation captures 85% of the return and half the risk of a 100% equity allocation. I think he also said that a 100% cash allocation had more risk than a 25/75 allocation. Of course its possible my recollection is wrong.
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Old 10-14-2010, 06:32 PM   #7
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I think it was in one of Bernstein's books in which he says a 50/50 allocation captures 85% of the return and half the risk of a 100% equity allocation. I think he also said that a 100% cash allocation had more risk than a 25/75 allocation. Of course its possible my recollection is wrong.
he probably showed a stock-bond allocation chart such as shown below. In that case your numbers are approximately supported by the chart. Notice also that a 100% bond allocation has about the same risk as a 40/60 (stock/bond) portfolio but the mixed 40/60 portfolio has much better expected returns.

The data must be historical data. I don't know anyone getting 9-10% bond returns these days.

I would add yet again though. These aren't ordinary times. Your mileage may vary !

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Old 10-14-2010, 07:29 PM   #8
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I've found the following two Merriman articles helpful for thinking about asset allocation. The "fine tuning your asset allocation" article shows historic performance and standard deviations for diversified portfolios containing various stock /bond allocations.

FundAdvice.com - The Ultimate Buy-and-Hold Strategy - 2010 Update

FundAdvice.com - Fine Tuning Your Asset Allocation - 2010 Update
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Old 10-14-2010, 07:35 PM   #9
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he probably showed a stock-bond allocation chart such as shown below. In that case your numbers are approximately supported by the chart. Notice also that a 100% bond allocation has about the same risk as a 40/60 (stock/bond) portfolio but the mixed 40/60 portfolio has much better expected returns.

The data must be historical data. I don't know anyone getting 9-10% bond returns these days.

I would add yet again though. These aren't ordinary times. Your mileage may vary !

Yeah, I think that was from his book "The Intelligent Asset Allocator", and yes, times have changed.
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