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Fund Spy

Has Your Moderate-Allocation Fund Turned Aggressive?

Is it chasing equities' returns, or prudently avoiding bonds?

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Unless you've been living under a rock, you probably know that interest rates have been kept well below their historical norms for years by the Federal Reserve in an effort to stimulate the economy in the wake of the Great Recession that began in late 2007. This situation presents a conundrum for moderate-allocation funds, which invest 50% to 70% of their assets in stocks and historically have stashed much of the rest in government bonds. While equities are typically more attractive in a low-rate environment, owning more of them tends to goose volatility, and these funds are often marketed to relatively risk-averse investors. On the other hand, low yields often make rate-sensitive bonds more risky, as Treasury bonds' swoon in the summer of 2013 illustrated: From May 1 through Aug. 16, while the yield on the 10-year Treasury bond rose from 1.6% to more than 2.8%, the typical intermediate-bond fund lost 4.4%. Meanwhile, the S&P 500 gained 4.4% during that span.

Moderate-allocation funds have generally responded by owning more equities. At the end of February 2009, just before the end of the bear market, the typical moderate-allocation fund invested 55.3% of its assets in stocks. By the end of November 2013, that figure had crept up to 60.2%. True, that matches the weighting of the classic balanced fund (60% stocks/40% bonds), but the category contains many other offerings. And given that the equity stakes of moderate-allocation funds, as defined by Morningstar, fall in a fairly narrow 20-percentage-point range, that increase is significant.

Greg Carlson does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.