The pros and cons of opting for a 60/40 balanced portfolio strategy

“The problem [with balanced funds] is you miss out on the risk of alternatives, which can give you a good diversification and protect you from equity risk to a certain extent. Most balanced funds tend to be heavy on equity risk, because it’s the only lever they use to add value.”

Read: Pension plans are navigating the bumpy road to recovery

Amid the coronavirus pandemic in 2020, he says that a lack of diversification particularly impacted balanced funds focusing on value stocks, when the asset class underperformed by as much as 10 per cent. “In a market condition where everything’s balanced and grows in value at a similar rate, it’s no big deal, but that rarely happens. Last year, you’d be unlucky to have a manager who only invests in those stocks.”

Diversification is also important to consider in the fixed-income portion of a balanced fund, which typically favour Canadian bonds, says Ian Riach, senior vice-president and portfolio manager at Franklin Templeton Investment Solutions. “As interest rates have declined, it’s been more difficult to get the types of yield from a fixed income portfolio, so people have been willing to stretch more and with it comes more risk. Some of the portfolios have evolved to where the overall bond portion of the portfolio needs a single-A rating.”

Changing the balance

One example of a diversified balanced fund is the one offered in the University of British Columbia Faculty Pension Plan. Orla Cousineau, executive director of pensions at the UBC, says the fund, which currently sits at $2 billion, invests in a variety of asset classes including Canadian equity (20 per cent), global equity (30 per cent), fixed income (40 per cent) and real estate (10 per cent).

Read: Real estate investments balloon as the future of the retail, office sectors remain up in the air

While real estate isn’t typically associated with balanced funds, Cousineau says the plan is looking to increase allocation in that asset class to 15 per cent, widening the scope of that particular investment strategy for members. “We started off with only Canadian real estate. As of Jan. 4 this year, we had our first draw-down on a commitment to U.S. real estate and we’re going to be adding global real estate as well.”

While the balanced fund dates back 50 years, a new range of options under the main fund first became available to Canadian institutional investors in 1993. In addition to the main balanced fund, the UBC also offers a low-carbon balanced fund option to members that launched in April 2020 and currently sits at $55 million, she says.

Cost and convenience

Among smaller plans, Pirou says a balanced fund offers the advantages of convenience and cost-effective service, adding that plan sponsors need to ensure their managers are proficient in each of the asset classes they invest in. “You have one point of contact, you sign one agreement and you don’t have as many meetings. It’s easier when you’re looking to rebalance cash flows and if you need cash to pay benefits, you only have to deal with one manager. It also tends to be cheaper than a multiple-manager solution. You have all of your assets with one manager so there’s economies of scale there. Balanced funds also tend to invest in cheaper public asset classes like bonds and equities.”

Dealing with a single manager also allows pension plan sponsors to establish a relationship and tailor their investments accordingly, Riach says. “It starts with getting to know the nature of the plan, including the demographics, the risk tolerance, the return objectives and whether they’re looking for liability matching or if they want growth.”

Read: Should institutional investors consider a balanced portfolio 2.0?

And for defined benefit plans, he says, a balanced fund can help plan sponsors avoid top-up payments if growth is sufficient to meet funding obligations.

What the future holds

Cousineau says that the UBC balanced fund also provides plan members with a means of decumulation, with 70 per cent leaving their money in the balanced fund after retirement, taking advantage of the fund’s oversight and low fees. It’s for those reasons that the university has chosen to keep the balanced fund instead of a target-date fund.

“Our total fees on the balanced fund is 0.4 per cent, including all operating expenses. [Members are] confident in the fund and in retirement, they don’t need to make any changes.”

Read: UBC faculty pension plan offers fossil fuel-free investment option

And while the balanced fund may not disappear entirely, Riach says it will be subject to increased diversification in the future, citing the broadening of the risk spectrum for Canadian pensions and subsequent developments like the decline of home-country bias in both the bond and equity portions.

“The smaller plans are starting to realize the benefit of having assets that aren’t correlated with equities and bonds. If interest rates start rising, the bond portion won’t provide that robust correlation benefit to equities as it has in the past. Risk is becoming a larger part of the conversation.”

Blake Wolfe is an associate editor at Benefits Canada.