Is a Balanced Mutual Fund Really Balanced?

The "balanced mutual fund" is often marketed for its simplicity, built-in diversification, and risk-adjusted returns. The benefits of a single investment product that delivers a fair mix of complementary securities, at face value, are clearly appealing—stocks can allow investors to participate in market gains while bonds can cushion potential losses.

But the term "balanced" may not always reflect the actual risk profile of the fund, given how flexible its definition is in our industry. Many funds marketed under this label lean significantly more toward equity than investors might assume. At times, they can hold upwards of 70% in stocks. This inherent skew can subtly expose investors to a level of market volatility and downside risk that contradicts the idea of stability.

To be clear, we aren't making a sweeping generalization. Some products are closer to the traditional definition of "balanced" than others. Therefore, it's crucial to take a closer look at the actual mechanics of what you're investing in to ensure it genuinely meets your risk tolerance, expectations, and long-term goals.

Equities & Fixed Income: Not Always Even

The traditional image of a balanced fund often evokes a near-equal split, perhaps 60% stocks and 40% bonds (60/40) or even a perfect 50/50. While some adhere closely to these classic models, many deviate, sometimes significantly. These cases usually involve leaning into equities. The question is why?

Several factors come to mind. To attract and retain investors, fund managers are often expected to deliver competitive absolute or relative returns. Stocks have historically offered higher long-term growth potential than bonds, meaning they can enhance return potential during growth periods.

It might be effective during bull markets, but it also introduces another issue. Simple market appreciation can cause the equity portion of a fund to grow disproportionately over time if not actively rebalanced back to a target weight—an effect known as "market drift" that increases one-sided risk.

The consequence for investors is a potential mismatch between expectation and reality. An equity-heavy fund will behave more like a growth fund, particularly during market turbulence. Instead of providing the anticipated cushion during downturns, its value could decline more sharply, amplifying losses rather than mitigating them. Although past performance doesn't promise future returns, it can be an indicator of how a manager handles different stages of the market cycle.

Due Diligence: A Prospectus Helps

Labels are useful at a glance, but they're not exactly comprehensive. Fortunately, finding the true composition of a balanced fund isn't that difficult, but it does require looking at the right documents. The most reliable sources are the fund's official prospectus and its fund fact sheet. If you're having a difficult time tracking them down, a simple Google trick can help to automatically filter for PDF documents—start your search with filetype:pdf followed by the company or fund name.

Look for the breakdown between equities (stocks), fixed income (bonds), cash or cash equivalents, and any alternative assets. In fact, take a look at the types of assets within those broad categories. What is the geographic region? How much is invested in North America, Europe, Asia, or emerging markets? What are the key sector weights within the equity portion? Is there any form of tax efficiency baked into the structure?

Crucially, you must align the fund's actual risk profile, as revealed by its composition, with your personal risk tolerance, risk capacity, and investment timeline. A younger investor might comfortably handle a higher equity weighting for greater growth potential. Someone nearing retirement likely needs a more conservative approach with an emphasis on capital preservation and income generation through bonds. There's a reason dividend growth investing is popular among older cohorts—regular income distributions can be enjoyed without giving up the possibility for capital appreciation.

Tactical Asset Allocation: Proactive, Reflexive & Inactive

While traditional balanced funds often imply a relatively fixed allocation, a more dynamic approach known as tactical asset allocation offers improved adaptability. Instead of following a strict mandate, managers can actively adjust a portfolio's blend of stocks, bonds, and other assets.

Management style is a wide spectrum, but for today's purposes, we'll group them into two basic categories:

• Active: Combines planning ahead for the future and adapting to today’s market changes. Managers aim to protect your money while it grows steadily in a diversified portfolio. A discretionary approach works to seize opportunities when markets rise and reduce losses when they drop.

• Passive: This hands-off management style typically aims to mirror an index. They often lack an in-depth strategy and manager involvement, leading to lower fees or expense ratios. The downside is that your portfolio is completely reliant on index performance, and there's not much room to add value in other ways.

If your goal is to find stability, long-term growth, and someone who understands the optimal asset mix isn't static, a proactive manager might suit you best. While this active management often comes with slightly higher fees than passive index-tracking funds, the goal is to achieve long-term growth by actively managing risk with confidence.

Diversification: Thinking Globally and Beyond Public Markets

Two critical dimensions of diversifying portfolios are often underrepresented in balanced mutual fund compositions: global reach and exposure to alternative investments.

Going Global: Breaking Free from Home Bias

Many investors, and consequently many balanced funds—especially those marketed specifically for a Canadian or U.S. audience—exhibit a strong "home bias" and invest disproportionately in domestic stocks and bonds. This localizes country-specific risks.

Global diversification involves spreading investments across various countries and regions—including developed markets like Europe and Japan, as well as faster-growing emerging markets. The key benefit is reduced overall portfolio volatility.

Economies can behave in opposition to each other; for example, a downturn in North America might coincide with growth in Asia or stability in Europe. A country could raise interest rates, and their neighbour could cut them. A natural disaster could strike one country, while a revolutionary technological breakthrough could occur in another. The chart below shows how difficult it can be to predict these factors accurately.

Expand Horizons: Embracing Alternative Investments

We suggest looking beyond the publicly traded stocks and bonds that most mutual funds rely on. Private securities, as the name suggests, aren't traded on public exchanges. Examples of alternative investments include:

• Private equity: investing in non-public companies

• Private credit: lending directly to companies

• Infrastructure: toll roads, data centres, direct real estate holdings, and more

With a low correlation to public markets, these products can enhance portfolio resilience, particularly when public markets are underperforming. Private assets can also offer attractive returns, stable income streams, and a degree of inflation protection.

They have some points to keep in mind. They are relatively illiquid, meaning they cannot be easily bought or sold quickly. They're also often reserved for institutional investors due to their minimum investment requirements and complex workings. Consequently, most standard balanced mutual funds offer little to no exposure to private markets.

Investors hoping to elevate their portfolios with alternatives often need a point of access, such as a portfolio manager that can properly integrate these opportunities into an overall portfolio. Strategically selected public securities can offset the disadvantages of private investments with the right expertise. There’s been a growing trend of talented investment managers suggesting that the classic 40/60 portfolio might be outdated, and that a (re)balanced portfolio with an alternatives sleeve is gaining popularity for a reason.

This is a common theme for diversification—securities that complement one another lead to portfolio-wide solutions.

Conclusion: Balance is Relative

Balanced mutual funds can certainly play a valuable role in an investment strategy, offering a convenient starting point for diversification. The label, however, doesn't always tell the full story and might lead to a false sense of security. A balanced portfolio that is genuinely designed for your specific needs requires a more proactive and discerning approach.

Tailoring all-weather portfolios is an ongoing process, but one that is fundamental to achieving long-term financial stability and growth. Helping our clients do so is one of the most rewarding parts about our work.