As traditional 60/40 portfolios get riskier, BlackRock says investors should rethink their allocations

BlackRock's new fall outlook advises investors to retool traditional 60/40 portfolios, citing a significant post-pandemic shift where stock-bond correlations have increased, with bonds now moving in the same direction as stocks 70% of the time. To enhance diversification and income, the firm recommends a deliberate approach: in fixed income, focus on 3-7 year duration, international bonds, selective high-yield (B/BB), BBB investment grade, and securitized products like CLOs; for equities, favor large-cap growth driven by earnings (especially AI), and add international exposure. Critically, BlackRock stresses the increasing importance of alternatives (e.g., digital assets, gold, private credit, liquid alternatives) to combat correlation issues, noting a projected shift to 8% allocation to alternatives by 2025.

Analysis

BlackRock's fall outlook signals a structural shift in portfolio construction, advising a 'retooling' of the traditional 60/40 model due to heightened risk from increased stock-bond correlations. Post-pandemic, stocks and bonds have moved in the same direction 70% of the time, a sharp reversal from the pre-pandemic norm of 50%, fundamentally undermining the diversification role of fixed income. Consequently, the firm advocates for more deliberate risk sourcing. In fixed income, the recommendation is to target income in the 'belly' of the curve with 3-7 year durations, tactically move down in credit quality to BBB-rated investment-grade and select B/BB-rated high-yield bonds, and utilize securitized products like high-quality CLOs, which can offer yields around 6% with mitigated interest-rate risk. For equities, the focus remains on large-cap growth, particularly the AI theme, justified by its strong earnings expansion which is deemed the 'North Star' for allocations. Finally, a critical component of this revised strategy is an increased allocation to alternatives to combat correlation issues; BlackRock's analysis shows market flows are projected to shift to an 8% allocation to alternatives by 2025, from virtually none between 2016-2019, utilizing assets like gold, private credit, and liquid market-neutral funds.

Key Decisions for Investors

• Investors should review traditional 60/40 portfolio structures and consider reallocating a portion, such as the projected 8% market shift, towards alternatives like gold, private credit, or market-neutral funds to counter the heightened positive correlation between stocks and bonds.
• In fixed income portfolios, consider shortening duration to the 3-7 year range and searching for yield by selectively adding BBB-rated investment grade, B/BB-rated high-yield, and floating-rate securitized products like high-quality CLOs.
• For equity allocations, maintain a strategic overweight in large-cap growth stocks, particularly those with strong earnings momentum in themes like AI, and view potential September market volatility as an opportunity to add to these fundamentally strong positions.
• Enhance portfolio diversification by increasing exposure to both international equities and unhedged international bonds, which may also benefit from a potential multi-year weakening cycle in the U.S. dollar.