The traditional 60/40 portfolio, which once served as the ideal vehicle for the analog economy by ensuring growth from equities and bonds to manage risk, is now facing a new era. In the past, equities provided the much-needed returns in good times, while bonds captured the drawdowns in bad times. However, with inflation above 2% and high interest rates on the horizon, it's time to reassess this classic portfolio structure.

Unlock the Potential of the 60/40 Portfolio with Bitcoin

Equities and Bonds in the Traditional 60/40 Portfolio

The traditional 60/40 portfolio is split into equities (60%) and fixed income (40%). This division was designed to create a diversified and balanced portfolio, managing both risk and growth simultaneously. For example, in the MSCI World Index, iShares Core MSCI World UCITS ETF USD was chosen for equities. In the FTSE World Government Bond – Developed Markets index, Xtrackers Global Sovereign UCITS ETF 1C EUR hedged was selected for bonds. Since 2014, an initial investment of euro 10,000 ($10,500) has essentially doubled in 10 years, showing decent returns.However, as global interest rates have continued to decline in the last four decades, bonds have thrived, especially during the post-2008 zero-rate policy environment. But since 2021, interest rates have risen, and bonds have suffered significant drawdowns. Take the BlackRock iShares 20-plus Year Treasury Bond ETF (TLT) as an example; it has witnessed a 54% drawdown from its 2020 peak to the 2023 trough.

The Impact of Bitcoin on the 60/40 Portfolio

Adding bitcoin to a 60/40 portfolio can significantly increase returns. When we analyze different bitcoin allocations within the portfolio, we see that as the allocation increases, so does the return. For instance, a 1% allocation in bitcoin leads to a 0.5% decrease in both equities and bonds to maintain the split. But a 10% bitcoin allocation yields over euro 70,000 ($73,000), more than a 3x return compared to the traditional equity allocation. Just for fun, adapting the original 60/40 portfolio to include 60% equities and a 40% bitcoin allocation instead of bonds shows a whopping 50x return of nearly euro 500,000 ($526,000).Bitcoin's risk-off monetary properties, such as having no CEO or central point of failure, make it a diversified entity within the 60/40 portfolio. It also provides greater annual returns than gold since its inception. For example, Bitcoin Breaks $64K While Gold Soars and the ETH/BTC Ratio Slid to Lowest Since April 2021 highlight the unique characteristics of bitcoin.

The Changing Landscape of Inflation and Interest Rates

The U.S. Consumer Price Index (CPI) inflation year-over-year has been above the Federal Reserve's mandate of 2% since February 2021. As of Nov. 13, CPI inflation was 2.6%, a 0.2% increase from the previous month. This inflationary environment has put pressure on traditional portfolios. Interest rates globally have also continued to rise, affecting bond prices. Beating inflation has become a crucial goal for investors worldwide, as seen in the bond market where the U.S. 10-year yield climbed to its highest level since July after the Fed's first rate cut in September, now at 4.4% from 3.6%, crushing bonds.In conclusion, the 60/40 portfolio is undergoing a transformation, and bitcoin is emerging as a potential game-changer. By carefully considering the role of bitcoin within the portfolio, investors may be able to achieve better returns in this new economic environment.