Rethinking Public Market Exposure for a Post-60/40 World

Dynamic public market strategies operating within a systematic investment framework have the potential to deliver equity-like returns with significantly lower drawdowns.

In Brief

• Stop obsessing over correlations. If you have an asset that goes up when another goes down, that sounds like a diversifier. But how much up and how much down matters more.

• The US Aggregate is the wrong bond allocation for most investors. Swapping the

  Agg for cash in a 60/40 portfolio from 2006 to 2024 delivered nearly identical returns

  and risk (see page 6). You actually want some volatility in your bond allocation.

• Static allocations don’t work. A rigid 60/40 structure crumbles when markets move

  in unexpected ways. A dynamic multi-asset strategy embraces the chaos.

• You don’t have to sacrifice liquidity—there’s an alternative to alternatives. Start with

  better ingredients, add some dynamism and you can get a blend of liquid, public assets

  that can generate an attractive return with real downside protection—all while keeping

  the liquidity that does not exist in the crowded private credit and private equity space.

60/40 Enters the 24/7 Breaking News Cycle

The 60/40 portfolio is back in focus.

One awful year, some hand wringing over flipped correlations and here we are, ready to

embrace a world where privates and alternatives become the diversification antidote for

public portfolios.

Not so fast.

Ditching the traditional 60/40—60% S&P 500, 40% US Aggregate—is the right move.

That portfolio is a blunt instrument. Dump equities and bonds into a pot, stir once and

forget about it, then call it diversification. A kitchen-sink approach to asset allocation.

Toss that out.

But giving up on public markets altogether? That’s another mistake—especially if the

alternative is crowded private credit and private equity strategies, where capital is piling up

and liquidity is scarce.

Maybe there was a time, post-2008, when middle-market private strategies had real

advantages—high “barriers to entry” and genuine “market inefficiencies” that created

favorable lending conditions for those with the right expertise and network. But today?

When $15, $20 billion is being raised for a single private fund? If you still believe the

same edge exists, I’ve got a timeshare to sell you.

Balanced public market portfolios are not dead. They just need a modern makeover.

Start by fixing the ingredients, add some dynamism and you get a blend of liquid,

public assets that can potentially do what investors hoped the original 60/40 would

do (but never could):

Generate an attractive return with less volatility than equities and with real downside

protection. All while keeping the liquidity that does not exist in the crowded private

credit and equity space.

60/40 Portfolio Construction: The Ingredients Have Spoiled

For decades, the 60/40 portfolio allocation model has been top-of-mind for

long-term investors who want growth and stability. This mix of public equities

and fixed income was designed to balance growth and stability and provide the

diversification benefits of assets with low correlation to each other. And for a while

it worked just fine.

But ease of construction and an easily explainable investment thesis gave rise to

complacency. “You’ve got your equities for growth and your bonds for income and

safety in periods of weakness.”

The 20-year market cycle prior to 2022 did nothing to disabuse investors of the

wisdom of this base allocation. In fact, it worked all too well as subdued inflation

and periodic disasters kept correlations between the two asset classes in negative

territory.

Equities could deliver growth, and bonds could deliver a bit of income and protect

on the downside:

2022 was a wake-up call:

Yes, 2022 was a really bad, awful year and yes, maybe the 60/40 didn’t hold up

but what would?

Outside of trend-following strategies and maybe some gold, 2022 was lousy for

everyone. And ever since, investors have been hyper focused on correlations.

It’s true that correlations flipped. But that’s a red herring. Here’s why.

Stop Obsessing Over Correlations

The S&P 500 and the US Aggregate indices have had a long term-correlation of

around 25% over the past 50 years.

What does that tell you? Over that time, both asset classes have tended to move

in the same direction. Beyond that, not much.

Correlations describe directional movement not magnitude. If you have an asset

that goes up when another goes down that sounds like a diversifier. But how much

up and how much down matters.

If every time your stocks go down a lot and your bonds go up a little, what’s the point? You might as well own risk-free rocks. Magnitude matters.

Correlations are not simple or stable.

The narrative around the death of the 60/40 portfolio often oversimplifies history.

While many point to the changing relationship between stocks and bonds – negative

correlation during the calm inflation years of the 2000s and 2010s, positive correlation

in the inflationary 1970s and 80s—the reality is far more nuanced. The relationship

between stocks and bonds has always been dynamic, influenced by multiple factors

including monetary policy, economic growth, and market structure.

Correlations are backward-looking and not very useful for determining asset allocation.

Correlations are constantly shifting and can be obscured by how data is presented. The

chart below shows the rolling 1-year average of the 5-year correlation of the S&P 500

and the Agg. It looks like a nice steady line with clearly defined trends. Positive in the

1990s, mostly negative in the last 20 years until 2022.

Correlation Is in the Eye of the Beholder

But if we roll the 1-year average of the 1-year correlation of the two indices it looks like:

The truth is messier than a simple correlation regime shift.

Let’s face it, negative returns for 2022 were almost unavoidable if you owned risky

assets. Anything from short duration to high yield to high beta equity . . . maybe if you

had privates your GPs would avoid marking them to market and you could bury your

head in the sand and assume positive returns?

So, diversification has its merits. But diversification for diversification’s sake won’t give

investors what they’re looking for. And what is that exactly? Outside of large institutions

with very nuanced liability profiles, most investors need something that will give them

the long-term upside potential of equities with drawdowns that don’t cause them to

panic along the way. And if it’s liquid, all the better.

In other words, obsessing over correlations distracts from the real problem that the

60/40 approach has had from inception. When it comes to delivering equity-like

upside without panic-inducing downside, it’s a mediocre strategy.

The Problem(s) with the 60/40

#1 The US Aggregate Index might be the wrong bond allocation for most investors!

Too much diversification is not always a good thing, just as too little volatility is

sometimes a bad thing.

If I give you every investment grade bond in the US, you get the Aggregate. Roughly

a third corporate bonds, a third Treasuries and a third mortgages. 27 trillion dollars of

diversification. It’s all there. Low credit risk, lots of diversification, steady income.

True diversification requires volatility on both sides of the 60/40, and the Agg is too tame to counter equity risk—long Treasuries pack the punch to make diversification actually matter.

It’s a decent benchmark for some investors. Mainly pension funds with moderately short

time horizons, and maybe the odd retail investor who prefers low risk, regular cashflows

and not much in the way of return. On the one hand, your allocation has low volatility

and will be with you forever. On the other hand, your allocation has low volatility and

will be with you forever.

The Agg is a great benchmark for institutional money managers. There are plenty of

ways to disguise the fact that your excess return is not alpha but beta. Just own 10%

more corporates than the benchmark and over the long-term you’ll beat it handily.

Hire lots of credit analysts, tell everyone you do a lot of bottom-up analysis, mumble

something about yield curve and mortgages and there’s a business.

But for most investors? The Agg is nothing more than a low-returning placeholder

that distracts from the fact that it adds almost nothing. In fact, you might as well own

cash (or rocks).

#2 The Equity allocation dominates the discussion

The correlation of the Agg and the S&P 500 is low.

However, the higher volatility of the S&P 500 means that the return stream of a

balanced strategy looks very similar to an equity only allocation. In other words, the

balanced allocation moves in lock step with the equity portion. Yes, you have lower

volatility, but that lower volatility comes with lower return and without any significant

downside protection in risk off periods:

The problem is that you actually need more volatility in your bond allocation.

So, let’s introduce a bond allocation that has some volatility and can hold its own

in a conversation with equities. Say hello to long Treasuries.

Long Treasuries Enter the Chat

Long Treasuries have volatility in spades and better than low correlation with equities—

they have a negative correlation. They might not be attractive from a pure return

standpoint, but they are there when you need them in a crisis and they have enough

juice to make that diversification matter.

Look at that negative correlation! Look at that volatility . . .

Long credit might seem, at first glance, like a good replacement for the Agg. It does

offer more volatility and higher returns. However, the correlations, low as they are,

remain too high for optimal portfolio construction.

This positive correlation stems from credit risk—precisely what creates vulnerability

during risk-off periods. Similarly, within the Agg, credit and mortgage risk generate

excess returns over Treasuries and higher correlation to equities, which limits potential

upside during market stress.

You simply don’t need this exposure. The excess return over Treasuries—and the credit

and convexity risk that generate it—are not needed in your bond allocation. Your equity

holdings already provide more than sufficient risk exposure.

Don’t believe me? See below:

By substituting long Treasuries for the Agg you get:

• More return

• Almost identical volatility (and much lower than equities alone)

• Less drawdown and real left-tail protection

• Reduction in correlation to equities

The magic of low correlation, diversification of risk away from credit, and higher volatility.

So that’s it then? Swap out the Agg for long Treasuries in your 60/40 portfolio

and call it a day?

Not exactly.

Long Treasuries may be a better building block for the bond portion of a static

60/40 portfolio. But this allocation of stocks and long Treasuries doesn’t solve

the drawdown issue. 2022 still would have been a disaster. This highlights another

enormous flaw of the 60/40 approach. If you want equity-like returns with lower

drawdowns, static allocations don’t work—no matter what building blocks you use.

Building a Systematic Dynamic Model Portfolio (Add a Dash of Momentum)

The second piece of the puzzle is to replace the rigid 60/40 portfolio with dynamic

strategies that actively allocate between broad public asset classes based on prevailing

market conditions.

When markets crash, you want ballast—not just theoretical diversification. Dynamic public market strategies operating within a systematic investment framework have delivered equity-like returns with significantly lower drawdowns.

What does a dynamic 60/40 portfolio look like?

Here’s one simple, systematic framework:

• 60% S&P 500 (if momentum is positive), otherwise Cash

• 40% Long Treasuries (if momentum is positive), otherwise Cash

• Momentum = Price (index value) above 12-month moving average

Bonus:Transaction costs are de minimis—that’s the beauty of trading in liquid public markets!

The result? You get a more resilient portfolio without sacrificing upside returns:

And in left tail periods, you avoid the worst of the drawdowns, especially with long Treasuries as the anchor:

A dynamic multi-asset strategy delivers similar returns to a traditional balanced

portfolio—but it can slash volatility and drawdowns and can do so with far less

correlation to a pure equity allocation.

And once you add a dynamic tilt to the 60/40 portfolio, you have more freedom to play

with the bond allocation.

Why not amplify growth and combine long Treasuries and the Nasdaq 100?

What about an allocation with a mineral that can keep up with inflation?

The Future of Public Market Investing

The limitations of the traditional 60/40 portfolio are clear—its static nature and stale

ingredients leave investors overexposed to periods of extreme market stress, while

private market alternatives come with their own liquidity constraints and crowding risks.

A better approach is not to abandon public markets but to rethink how they are utilized.

A rigid 60/40 structure crumbles when markets move in unexpected ways. A dynamic

multi-asset strategy embraces the chaos, helping investors in three critical ways:

• They allocate flexibly, adjusting exposure to broad public sectors in real time to

  exploit market dislocations or mitigate risks.

• They prioritize absolute returns, targeting gains across all market environments

  while reducing the likelihood of drawdowns.

• They enhance diversification, acting as true portfolio ballast when risk markets

  are stressed.

We showed what was possible using just one simple factor: momentum. Even with this

single input, portfolios saw reduced drawdowns and improved risk-adjusted returns.

But momentum is just the beginning. Emerging quantitative technology enables

investors to systematically incorporate multiple inputs—e.g., macroeconomic factors,

sentiment analysis, credit spreads—to build a more comprehensive understanding of

the relationships between market factors and asset prices.

This dynamic approach shifts the focus from piecing together a static portfolio to

outsourcing relative value decisions to investment managers with the tools and

expertise to adapt dynamically within a systematic investment framework—all without

sacrificing the liquidity of public markets.

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