First Quarter 2021 Economic & Market Outlook: Looking Beyond the Traditional
In a year that offered a pandemic and an election as reasons for investors to bail on risky assets, 2020 turned out to be a great year for those that stayed the course. A 60/40 portfolio of diversified stocks and bonds increased by a double-digit percentage, exceeding what would be expected on a historical basis even without a pandemic crippling the global economy.
Looking through the asset classes shown in [Exhibit 1], one would be hard pressed to find “doom and gloom” in returns for the most recent quarter or the full year. Even real estate and commodities bounced back in the fourth quarter. Most dramatically—and most optimistically—small caps’ fourth-quarter performance catapulted them in front of large caps for the year taken as a whole.
As we look forward to 2021, we see a favorable backdrop for markets. We expect a synchronized recovery in the global economy, sales and earnings are expected to grow in all sectors and monetary and fiscal policy are expected to remain supportive. However, markets reflect a lot of this good news already, so returns in 2021 may not keep up with the improvement in the economy as prices tend to reflect future data with a six to nine-month lead time.
Looking longer term, investors are facing a challenging investment environment. Intermediate-term bonds are yielding about 1% and stocks trade at valuations that imply low to mid-single-digit annual returns over the next 10 years. As a result, investors are looking beyond the traditional 60/40 stock/bond portfolio to successfully meet their income and return goals.
Looking Beyond the Traditional 60/40 Portfolio
- Allocate to complementary investments as substitutes for bonds and/or stocks to manage risk and/or enhance returns.
- When the risk is justified, tactically allocate to non-traditional bond strategies such as high yield and emerging market bonds, which offer the opportunity for higher returns.
- Employ opportunistic portfolio rebalancing to capture gains in stocks when sentiment runs hot, so portfolios have the capacity to reinvest when pessimism returns.
- Stress-test estate plans and financial plans for the below-average returns that may occur over the next 10-15 years.