CharlesPassy

One of the most time-honored strategies in investing may have finally run its course.

Generations of investors and financial advisers have relied on the so-called 60-40 asset allocation model, which calls for a portfolio with 60% invested in stocks—often via a broad index like the Standard & Poor’s 500—and 40% in government or other high-quality bonds, with regular rebalancing to keep proportions steady. But after a decade or more of out-of-the-ordinary market conditions, many investment professionals are tweaking the model or abandoning it altogether.

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The 60-40 strategy is rooted in modern portfolio theory, first popularized in the late 1950s, which holds that diversification among asset classes helps boost returns. The problem, in a nutshell, is that low bond yields—driven by the Federal Reserve’s policy of keeping borrowing affordable—combined with historically low stock dividends have thrown the model out of whack.

Advisers who are turning away from the 60-40 strategy say they don’t see the situation improving significantly in the longer term. They point out that rising interest rates will have the effect of depressing bond prices.

Indeed, a 2012 study by Chris Brightman, head of investment management at Research Affiliates, a Newport Beach, Calif. firm that develops allocation strategies, predicts that a 60-40 portfolio will yield a 4.4% annual return from 2011 to 2020. If that turns out to be true, it would mark one of the worst decades ever for the strategy. In the periods 1981-1990 and 1991-2000, in contrast, the strategy yielded annual returns of 14.3% and 14.4%, respectively.

Such a slowdown could cause problems for adherents, especially when it comes to retirement planning. “You should not plug in an assumption that [a 60-40 portfolio is] going to return 7% or 8%,” Mr. Brightman says.

To replace the strategy, some financial professionals are turning to alternative investments—like commodities, foreign currencies, real estate or even private equity—that weren’t easily accessible or widely used when 60-40 method became popular. “Today’s tool kit is better,” says Steve Blumenthal, founder of CMG Capital Management in Philadelphia.

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The conundrum is that there now are seemingly as many approaches to asset allocation as investment managers. Some experts advocate the “permanent portfolio” approach, developed by the late investment analyst Harry Browne, which splits money evenly among four asset classes: U.S. stocks, long-term U.S. Treasury bonds, precious metals and cash.

Other pros are looking at the Norway model—based on how that country invests its pension fund—that slices the portfolio into 60% stocks, 35% bonds and 5% real estate (half of the stocks are outside the U.S. and the managers target small and value stocks.)

Mr. Blumenthal advocates an even split among three buckets: stocks, bonds and a final grouping he calls “tactical and alternative,” meaning it blends alternative and other investments and can be adjusted as conditions merit.

Some experts say 60-40 still can work, if investors rethink what is in the 60 and the 40. Among the tweaks they suggest: Shifting some money from U.S. to international stocks and from U.S. Treasurys to “junk” bonds, keeping the stocks to bonds ratio intact. And it may be worth keeping, suggests Art Steinmetz, chief investment officer at Oppenheimer Funds, because it “remains a powerful frame of reference for advisers and investors.”