Sorry, the trusted 60/40 portfolio might not save your 401(k) from this silent wealth killer

By Brett Arends

The risk of a calamitous "lost decade" for investors is higher than you think

Most investors fear a massive stock-market crash, like the one in 1929 that supposedly caused the Great Depression.

But in the real world, the much bigger risk to your retirement plans and college funds is surely that much slower, silent killer of investment returns: the lost decade.

That's when even the standard, so-called balanced portfolio of 60% U.S. large-cap stocks and 40% U.S. bonds ends up going exactly nowhere over a period of 10 years, or even longer. There's no single, massive, earth-shattering crash; instead, there are years of frustration, and the loss of years that you can never get back. In a lost decade, if you make money in one year, you end up giving it all back the next. And over time, your portfolio barely keeps up with inflation - let alone fees and taxes.

These disasters are more common than many people realize, warns Ben Inker, the co-head of asset allocation at fund company GMO, in a new letter to clients. Looking back over a period of more than 120 years, to 1900, GMO's analysts found multiple such periods.

"There have been six periods, averaging 11 years each, in which an investor in a 60/40 portfolio would have either broken even relative to inflation or, even worse, lost money in real terms" over that time, Inker warns. "Those chapters share something in common - they all followed exceptionally strong periods of return for the traditional portfolio and thus began when either or both stocks and bonds were trading at extremely high valuations."

They included a nine-year period in the 1960s, an 11-year period from the early 1970s to the early 1980s, and a 10-year period at the start of this millennium. Total gains, after inflation, since December 2021 have also been minimal so far.

("Real" terms means after deducting for inflation. If your portfolio rises 20% in a year, but all the prices in the economy also go up 20%, your real return is 0%.)

GMO's warning is timely. Inker reckons that the market today is showing many of the classic signs that another "lost decade" looms. While U.S. Treasury bonds look "reasonably" valued compared to inflation expectations, he says, corporate bonds are expensive, and by historic measures U.S. large-cap stocks - at 60%, the bulk of the portfolio - are very expensive indeed.

Meanwhile, as it had just before previous lost decades, the 60/40 portfolio is coming off a prolonged period of returns that were way above average.

"From early 2009 through the end of 2021, this passively allocated 60/40 portfolio delivered about 9.4%" a year in real, inflation-adjusted dollars, Inker notes. That is about twice the historical average since 1900, which for a 60/40 portfolio has been just 4.7% in real terms.

If the stock market plunges and then rebounds, the ultimate costs (to those who stick with their investments) may be small. Actually, those who buy more stocks in a selloff - as in 2008-09, 2018, 2020 or 2022-23 - will end up benefiting, as they get to buy stocks more cheaply.

But a lost decade (or more) is very different. Someone who invested 60% of their money in the S&P 500 SPX and 40% in U.S. Treasury bonds BX:TMUBMUSD10Y in 1968 - with instructions to their broker to do nothing but rebalance the portfolio annually, while they went away to a desert island for 15 years - would have returned at the end of 1983 to discover that their portfolio was worth no more, when adjusted for inflation, than when they left. (Before fees and taxes, too.)

This raises the obvious question: What, if anything, can investors do to minimize the risks?

The good news is that we have options. Inker himself points out that other assets probably offer better returns than the S&P 500 and U.S. bonds. This includes unfashionable "value" stocks as well as international stocks, especially those in Japan JP:NIK.

"An abundance of assets ranging from fairly valued to downright cheap underpins this outlook from an absolute-return standpoint, while appealing valuation spreads within asset classes present us with the best relative asset-allocation opportunity we've seen in 35 years," he writes. (His bold type.)

"Markets in the rest of the world ... are trading at or below their long-run averages, creating a huge gap in relative valuations to the U.S.," Inker adds. While U.S. large-cap "growth" stocks are expensive, unfashionable "value" stocks - both here in the U.S. and overseas - are cheap compared to history. Japanese stocks "represent a compelling opportunity ... particularly in small value stocks, which trade at historically wide discounts and are poised to benefit from both structural tailwinds and an undervalued yen (USDJPY)."

Other commentators, incidentally, have pointed out that while large U.S. stocks may appear expensive, small-cap U.S. stocks RUT seem much cheaper.

Wise investors know we cannot control the future, but we can control our risks. Will these assets outperform the S&P 500 over the next decade? Nobody can really be sure.

But it's hard to argue with Inker's core point. The so-called 60/40 portfolio, restricted to U.S. large-cap stocks and U.S. bonds, is nowhere near as "safe" as many assume. It has failed to produce real gains for a decade or more many times in the past - and there are ominous signs it might do so again.

This is a serious threat to ordinary investors. But they can reduce this risk through diversification, especially by adding unfashionable assets like small-company stocks, value stocks and international stocks to the mix.

-Brett Arends

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10-25-25 1026ET