The Effects of Asset Allocation

Stock funds for growth, bond funds for stability

The Vanguard Total Bond Fund VBTLX passed through the Great Recession in good shape, even though it typically holds about 25% mortgage-backed securities. First and foremost, it’s a bond fund with low stock market correlation. But it also held higher quality bonds and more U.S. Government securities than other bond funds.¹

This portfolio backtest compares three portfolios from 2004 to 2014:

1. 100% Vanguard Total Stock VTSAX,
2. 50% Vanguard Total Stock VTSAX and 50% Vanguard Total Bond VBTLX, and
3. 100% Vanguard Total Bond VBTLX.

This is the growth chart of $10,000 in those portfolios. The chart, and the summary table in the report, show why you need bonds in your portfolio:

Portfolio Returns, 2004 – 2014

Portfolio	Initial	Final	CAGR	Stdev	Best Year	Worst Year	Maximum Drawdown	Sharpe Ratio	Sortino Ratio	US Mkt Correlation
1	$10,000	$24,541	8.50%	14.72%	33.52%	-36.99%	-50.84%	0.54	0.76	1.00
2	$10,000	$21,253	7.09%	7.38%	17.43%	-15.92%	-25.07%	0.78	1.16	0.97
3	$10,000	$16,487	4.65%	3.33%	7.69%	-2.15%	-3.94%	0.95	1.64	0.02

The maximum drawdown, or high to low account balance, was 51% and 25% for the two portfolios with stocks (November 2007 to February 2009). For the portfolio with only bonds, it was 4% (April 2008 to October 2008).

Basic Allocation Model

Now you can’t build a retirement portfolio with only bonds, because the returns are too low. A 50/50 stock/bond split is what John Bogle called the “Older Distribution” phase of his basic asset allocation model. Basic because it had only four phases, from 80/20 to 50/50.² My stock/bond split in early retirement is 60/40, or what Bogle called the “Younger Distribution” phase. 

Bonds are held “to smooth the wild and volatile ride of stocks. We are not seeking performance from our bonds, we are seeking a counter-weight.”³ Stocks for growth, but bonds for stability.

Making your portfolio more stable makes it easier to buy and hold before retirement, and to withdraw during retirement. Decreasing stocks and increasing bonds as you age reduces your risk, as the time for your portfolio to recover from losses shortens. 

Disclaimer

This is my personal experience, and not professional investing advice. For that you should talk to a Certified Financial Planner, preferably for a fixed fee and not a sales commission. Make sure you ask how the advisor gets paid. Does her agreement promise to meet a fiduciary standard?

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Footnotes

1. J.L. Collins, “The Bond Experiment: Return to VBTLX,” 12/20/17 ↩︎
2. John Bogle, Bogle on Mutual Funds, Dell Publishing, New York, 1994, pg. 238. ↩︎
3. Collins ↩︎