Our post 60/40 strategy – how’s it going so far?

28 April 2022

David Jane
Premier Miton Macro Thematic Multi Asset Team

Last year we wrote a series of notes regarding the highly prevalent belief in the 60/40 model of portfolio construction, our view on its inappropriateness going forward and alternative approaches that might be more successful. Given that 6 months have nearly passed since that series, we thought it would be worth considering how things are playing out.

Our view is that in an environment where inflation has become a more important issue going forward, bonds would not only perform poorly, but become positively correlated with equities. This is clearly playing out as expected. The chart below shows the long-term correlation between S&P 500 Index and US Treasuries, with the green section showing positive correlation and the red section showing negative correlation. The two most important asset classes are now positively correlated.

Correlation between S&P 500 Index and US Treasuries – 1975-2022

Source: Bloomberg, 31.01.1975 – 25.04.2022.

Inflation continues to surprise to the upside and the correlation of bonds and equities is becoming hard to ignore. Inflation looks set to remain a dominant issue going forward, given policy response on both the fiscal and monetary sides are still hardly disinflationary, and the supply chain issues remain intractable. Our basic hypothesis looks to have been correct, what about our suggestions?

In bonds, we highlighted our belief in the positives of short-dated bonds versus longer dated ones and that one could seek returns from credit spreads rather than duration. This has worked reasonably well, although gains have been hard to come by. Longer dated government bonds have been particularly poor and are also becoming correlated to equity.

In equity, we suggested the dominant growth themes of the past decade would face a strong headwind as rates rose, impacting their valuations and the market would switch to preferring value type equities. This has certainly been the case. Our materials, agricultural and energy equities have done well over recent months, although financials have been less good. Obviously, the Ukraine situation has given these areas a further boost of late, but the hypothesis has certainly been right. Asset based businesses have done much better than growth.

Our final suggestion was to look again at some other potential diversifiers of portfolios, notably gold and other commodities such as base metals, agricultural commodities and REITS, as well as other asset backed structures. These have provided some of the biggest winners in our portfolios over recent months, particularly as both equities and bonds have trended lower. Exchange Traded Commodities have provided inflation protection, without the margin and volume worries of the miners and fertiliser stocks.

We think the underlying longer term environment will remain inflationary for some time, making for an ongoing headwind for those strategies based on the old normal. The downtrends in bonds may occasionally reverse, but in the long term, have the potential to be one of higher yields. Barring occasional bear market rallies, a mainstream approach to bonds will often be loss making in real terms in our opinion. Over time, we believe that more and more investors will come to realise that the old consensus approach is a thing of the past.

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Risks

The value of stock market investments will fluctuate, and investors may not get back the original amount invested.

Equities (shares) can experience high levels of price fluctuation.

Government and corporate bonds generally offer a fixed level of interest to investors, so their value can be affected by changes in interest rates. When central bank interest rates fall, investors may be prepared to pay more for bonds and bond prices tend to rise. If interest rates rise, bonds may be less valuable to investors and their prices can fall.

Commodity prices can fall and rise sharply depending on supply and demand, the economic background and financial market conditions. Exposure will never be direct to any commodity.

Forecasts are not reliable indicators of future returns.

IMPORTANT INFORMATION:

For Investment Professionals only. Not for onward distribution. No other persons should rely on any information contained within this document.

Whilst every effort has been made to ensure the accuracy of the information contained within this document, we regret that we cannot accept responsibility for any omissions or errors. The information given and opinions expressed are subject to change and should not be interpreted as investment advice.

All data is sourced to Premier Miton unless otherwise stated. Persons who do not have professional experience in matters relating to investments should not rely on the content of this document.

For your protection, calls may be monitored and recorded for training and quality assurance purposes.

Financial Promotion is issued by Premier Miton Investors. Premier Portfolio Managers Limited is registered in England no. 01235867. Premier Fund Managers Limited is registered in England no. 02274227. Both companies are authorised and regulated by the Financial Conduct Authority and are members of the ‘Premier Miton Investors’ marketing group and subsidiaries of Premier Miton Group plc (registered in England no. 06306664). Registered office: Eastgate Court, High Street, Guildford, Surrey GU1 3DE.

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