How to Protect Your Portfolio in a Changing Market

Christine Benz: Hi, and welcome to 2026 Diversification Insights: Portfolio Strategies for a Changing Market. I’m Christine Benz. My colleagues, Amy Arnott and David Reyna, are with me today. We all co-authored a white paper for Morningstar along with Jack Shannon in 2025. It’s called Diversification Landscape. You can find a link to the paper in the attachments tab if you’re viewing this on BrightTalk, or in the comments section if you’re watching this on LinkedIn. We’ve been producing this research for the last several years. Amy is a Morningstar veteran with a tenure of more than 30 years. She’s worn many hats over the years and is currently a portfolio strategist and helps lead our research efforts on portfolio construction and personal finance. Dave is a senior analyst on Morningstar’s multi-asset and alternatives manager research team. Amy and Dave, thank you so much for being here.

Amy Arnott: Great to see you.

Benz: Before we begin today’s conversation, we want to take a minute to make sure you get the most from our presentation. Today’s webinar will be recorded and available on demand after the live session. All registrants will be emailed a link to the playback following the presentation. I’d like to note for our audience that this webinar has been accepted by the CFP Board for one continuing education credit for CFP designations. Lastly, you can ask us any questions you’d like using the question button on BrightTalk, or if you’re viewing this on LinkedIn, leave us a comment. After the presentation, we’ll address as many of those questions as we can. We’ll also be dropping some poll questions into the session as we go along, so get ready to vote, and we’ll start with the first one right now. The question is: What do you see as the biggest challenge to portfolio diversification today?

The choices are: correlations rising during market stress, inflation and interest rate uncertainty, concentration risk in US equities, finding effective diversifiers beyond bonds, and finally, client expectations during periods of underperformance. Go ahead and cast your vote there, and then we will take a look at the poll results at the end of the session. Amy, I want to start with you because you have been a fixture on this research since we’ve started doing it. Can you talk about the goal of the research, what we’re trying to achieve, and who the intended audience is for it?

Arnott: We really had three main goals. We wanted to take a really broad view of performance across a variety of asset classes and look at correlations between those asset classes and how those correlations might have changed over time, and then what that means for putting together portfolios. The audience is anyone who might be building a portfolio, so both individual investors and financial advisors.

Benz: OK. So all of us, really. Dave, let’s talk about how we measure correlations and what asset we use as the core building block to regress those correlations against.

David Reyna: Sure. We use the Morningstar US Market Index as the baseline, and we choose to do that mainly because this paper took a US-investor-centric approach, and that kind of represents a broad basket of equities—US equities—that an investor would be allocated to. That being said, you can see up right now that there’s the chart of correlations that column one represents, that US Morningstar Market Index, and the subsequent rows correspond to the various asset classes against which we run those correlations. For example, you can see some of the lower-correlated items, which represent good diversification to that US market index, include things like gold, commodities, and cash. And then some of the higher correlations are things like US small caps as well as high-yield bonds.

Benz: This is the three-year snapshot through the end of 2025, but you can look at this over any number of periods. One question we sometimes get from the audience, from people who read the paper, is where they can get their hands on these types of correlation charts. What do you say about that?

Reyna: Sure. This data is all available through Morningstar Direct. If you have access to that platform, you’re able to create a list of different products, asset classes, and run a correlation matrix, which is available through the interactive charts feature on Morningstar Direct. You’ll be able to run it for whatever time series you want against whatever asset classes you want and get that same data.

Benz: OK. Indexes, fund categories, all those things.

Reyna: Correct.

Benz: Amy, maybe you can talk about how individual investors and advisors should be using this research.

Arnott: Well, one way would be as a cross-check on different asset classes and whether they actually diversify as well as you are hoping that they would. Another way is to take a deep dive into specific asset classes and the role they might play in a portfolio. And then just thinking broadly about the types of asset classes you might want to include or not include in a portfolio.

Benz: OK. These data series are backward-looking, and a question is like, how much should I rely on them to carry forward? What do you say to that question?

Arnott: Yeah, I would say correlations definitely change over time, and that’s one of the big things we focus on in the paper, is looking at trends and correlations and how they might have shifted. But I think in kind of a directional way, they do tend to be somewhat predictive, and usually we don’t see correlations flipping back and forth from negative to positive or vice versa.

Benz: Let’s delve into the key findings. You described the 2025 experience as a real vindication for diversification, for long-suffering fans of diversification. Can you talk about that? What were the major asset classes that came to the fore last year?

Arnott: Yeah. We set up a test portfolio that we used as a benchmark for a more diversified approach to portfolio construction. So it includes not just US stocks and US bonds, but also things like international stocks, emerging markets, high-yield bonds, commodities, gold, et cetera. So, a really broad range of asset classes. Last year, that test portfolio was up about 18.5%, which was about 5 percentage points ahead of the basic kind of plain-vanilla version of a 60/40 portfolio. That was the best showing for the more diversified portfolio since 2009. So definitely, as you said, people who had been using more diversified asset classes like international stocks, I think, were really starting to question the value of diversification since it had been a drag on performance. Last year was a vindication of sorts, I would say. Some of the asset classes that did particularly well last year were gold, which was up about 70%.

International stocks, including both developed and emerging markets, were up about 30%, US stocks still had a pretty good year at about 15%, and then bonds also did fairly well and really kind of returned to their traditional role as portfolio ballast and being able to cushion returns during periods of market volatility, like we had early in the year with the tariff announcements. You can see on the chart we’re showing here the rolling correlation trend of that diversified portfolio that I just talked about versus the US market index. Over the past few years, we’ve actually seen the correlations trending down for that diversified portfolio, which means you’re getting more bang for the buck in terms of improving risk-adjusted returns by taking a more diversified approach.

Benz: We’re going to delve into several of the themes that you’ve just referenced, Amy, but before we do that, I’m wondering if you can discuss 2026 so far. The research measures the period ending at the end of 2025, but are we seeing diversification continuing to have a moment so far this year?

Arnott: Yeah. So far this year, that diversified test portfolio is up about 7.6% versus more like 5% for the basic 60/40 portfolio. Diversified asset classes are still generally performing well, and some of the asset classes that have fared particularly well this year have been commodities, emerging markets, and REITs. Gold has been not as strong as last year. It’s had some ups and downs, but overall, the diversified portfolio has still done well.

Benz: How about the longer-term view that US 60/40 has been pretty unassailable for investors? What do you see when you look at the long-term data over, say, the 20-year period, and how that better-diversified asset mix looks relative to that plain-vanilla 60/40?

Arnott: If you look back over the past 20 years, it has generally been a tough time for diversified asset classes until recently. So over that 20-year period, the basic 60/40 portfolio had better returns and also lower risk than the more diversified portfolio. But one thing I’d point out is that these things tend to go in long-term cycles. There are times when the more diversified portfolio has added more value over a multiyear period, and other times when 60/40 has really come to the fore. I think it’s helpful to look at performance over really long time periods, not just 20 years, but even further back than that.

Benz: That’s a wonderful overview, Amy, but we’re going to go to another poll question at this time. The question is: What asset class do you currently have the highest confidence in as a portfolio diversifier? The choices are: high quality bonds, cash or short duration fixed-income instruments, international equities, gold/commodities, and alternative strategies is the final choice. Go ahead and vote on that one. We are going to summarize the results at the end of the session. Now we’re at that awkward juncture in the presentation where you’re going to turn the tables on me because I did work on a few sections of the paper, Amy, and maybe we can talk about what we’re seeing when we look at the fixed-income landscape.

Arnott: Sure. As you mentioned, you worked on that section on fixed-income asset classes. What are some of the key trends that you wrote about there?

Benz: One of the big ones is that, leading up to 2022, the correlation relationship that you could take to the bank was that high-quality fixed income was a good ballast for equities, that if equities were down, especially in recessionary environments, high-quality bonds were a good place to be. In 2022, though, the wheels came off on that thesis, and we saw correlations because of rising rates, bothering both stock and bond prices at the same time. We saw correlations between high-quality fixed income and stocks come much closer together, become much higher during that period. The good news in the very recent past, so over the one-year period through the end of 2025, was that we started to see correlations widen out again, and that fixed income again appeared to offer good diversification for that all-equity portfolio. That is, I think, a positive thing for investors using those core building blocks.

Another recurrent theme of the past several years of research is just that cash appears to be a really good diversifier for that stock/bond portfolio. The year 2022 really showed that in stark relief, where we had stocks down, bonds down; cash as a cash investor with higher yields coming online, you were the winner in that environment because you actually got to have a higher return in a period that was hurting other core asset classes. Those are kind of the headlines from the 2025 experience.

Arnott: What have we been seeing so far in 2026?

Benz: It’s interesting. It’s been a bit of a tough go of it for fixed income. I think there are concerns that the Fed may be a little less accommodative in the face of higher inflation, and so it’s something worth keeping an eye on. We’ve seen long-duration bonds get crunched during this period. The good news for fixed-income investors, though, is because yields are higher, even if their prices suffer some short-term dislocations in periods of higher yields, you at least have your higher yield to cushion the blow to help reduce the downward pressure on prices. So, that’s a plus for fixed-income investors.

Arnott: If you’re looking across the fixed-income landscape, which asset classes have been the most helpful or the least helpful in terms of offering diversification for someone who owns US stocks?

Benz: Generally speaking, the high-quality fixed-income instruments, mainly those anchored in US government bonds, agency-backed bonds, those have been some of the best ballast for equities, especially in those recessionary bear markets for stocks. They’ve been quite reliable, not every day. There have been some short-term price dislocations, but they’ve been pretty good ballast for equities. They will tend to be vulnerable, though, in those rising rate shocks like we saw in 2022. If you’re looking for that category that will provide you with some solace in a long-running bear market for your equity portfolios, high-quality fixed income is a good place to be. Cash, as I mentioned, while not a bond, is still something worth holding as well alongside your fixed-income investments. In the category of things that have been less helpful, it’s about what you would expect. So, those equitylike fixed-income investments, especially high-yield bonds, anything lower quality, bank loan investments, will tend to be less effective ballast. You might hold them because of their attractive yields or for other reasons, but they wouldn’t be the thing that you would want to hold to diversify your equity exposure.

Arnott: The paper also includes a section on municipal bonds, and one of the interesting takeaways there is that muni bonds, even though they might be attractive for people in higher tax brackets who are focusing on income, haven’t provided as much diversification as other types of fixed-income securities. Can you expand on what’s driving that?

Benz: Yeah, it was a little bit of a head scratcher to me, Amy, because high-quality municipal bonds are really considered second only to Treasury bonds in terms of their creditworthiness, but we have seen the correlations between municipal bonds and equities increase quite a bit since the 2022 period, and unlike high-quality taxable bonds, they’ve remained tightly correlated. We haven’t seen correlations come down in the way that we have with taxable bonds. I think it may be that the municipal market is less liquid than is the case for taxable bonds, certainly US government bonds. And there also is more issuance in the intermediate and long duration area. If we’re concerned about rising rates, maybe that is driving some of the continued high correlations there.

Arnott: And how have munis been holding up so far this year?

Benz: Well, it’s pretty similar to the story that we’ve been seeing in the taxable-bond space, where the intermediate and long-term munis have gotten crunched a little bit here, but like with taxable bonds, they have the advantage of today’s higher yields that help cushion some of those price losses.

We’re going to get into, David, some of your sections of the paper here at Morningstar. You have a focus on alternative assets, and one investment type that sometimes gets tucked under the alternatives umbrella: commodities. I’m hoping you can talk about, when you look at the correlation data, how commodities have done to diversify stock and bond portfolios.

Reyna: Well, they’ve done extremely well over the recent time. We’ve seen the correlations come down, and it’s been something where they provided some pretty strong diversification effects in a traditional equity as the risk asset portfolio. We’re looking at gold a lot lately because of all the headlines around gold and how it compares to some of the broader commodities, and they have behaved quite differently. I think when you look at the commodity bucket, you really want to concentrate on what is the main macro driver for each one of these specific commodities. Gold represents that kind of safe-haven historical asset, whereas some of the broader commodity buckets kind of work more as specific macro hedges or inflation hedges or things of that nature. We looked at it, and obviously, across the board over the last year, it was extremely strong, and the diversification improved, and the correlations came down.

Benz: OK. Commodities have been on fire so far this year. Let’s talk about what you’re seeing there in that landscape.

Reyna: Sure. Obviously, energy is the big story. I mean, that’s been the headline as of late for obvious reasons. And I think that while that is an impressive story, there’s other things happening commodities as well, particularly around infrastructure and the amount of value that that’s creating in some of the kind of industrial metals, such as copper, and even some of the precious metals like silver that get used for both a safe haven asset as well as being used in solar and EV and other kind of data center type applications. You’re seeing a lot of activity in commodities that’s continuing to look strong.

Benz: When you think about the whole category of commodities as well as precious metals, say a gold allocation, do you have a preferred prescription? How should investors approach this allocation? Because the data do look pretty compelling.

Reyna: Yeah. I think, like a lot of things in finance, it depends. It really depends on what role you’re trying to have that diversifier play in your portfolio. For example, as I stated, I think of gold as like the fire extinguisher in the house. It’s just that kind of protection that you have when you need it, and it kind of keeps the portfolio kind of ballast at a certain level when you need it most. That’s obviously a major contributor to diversification benefits, and that’s—so, gold is always going to be first and foremost when you’re looking at commodities. The broader commodity buckets, like I said, kind of act more as specific macro hedges. You’re going to look at things like inflation or supply and demand characteristics. They’ll have very specific drivers. When you’re looking at diversifying a portfolio, if you’re looking to diversify specific things, then maybe looking at specific commodities or a broader commodity basket might be helpful, but for like an overall portfolio hedge, gold has obviously been the king.

Benz: OK. You also took a look at the alternative assets for the paper. Can you talk about the major investment types that fall under that heading?

Reyna: Sure. So, alternatives is a very, very broad subset. You have a lot of very differentiated products under that umbrella. For example, managed futures, also referred to as trend following or CTAs. Those kind of bet on trends, and they can go long or short, so they can take advantage of trends going in either direction, and that’s been very helpful to portfolios in the past. You have macro traders who are also kind of taking directions on macro themes and ideas through specific trading strategies. And then you have other strategies that are more kind of taking both sides of something, like a market-neutral strategy or a merger-arbitrage strategy. I think the main takeaway from alternatives is when you hear alternatives, you think different from stocks and bond, you think an alternative to that. Some of them behave quite like stocks in a portfolio.

You really have to be careful when you’re choosing within alternatives. You don’t want something that’s too correlated or acts like a kind of differentiated equity beta.

Benz: You note that it doesn’t make sense to measure the merits of alternatives based on their returns alone. We’ve had a strong stock market. A lot of people say, “Well, the alternatives really haven’t earned their keep.” What should we be measuring alternatives on?

Reyna: Obviously, the correlation equities is first and foremost, I think. When you’re looking at an alternative product, you want something that provides that differentiation from what you already hold. You’re really looking for that portfolio ballast, and so correlation equities is key. I think one factor is drawdown, our stress period, how it behaves during those times. You want something that not only is differentiated throughout normal periods, you want something that can protect the portfolio potentially during a drawdown. There’s historical evidence of things like managed futures or macro trading or things of that nature that can kind of keep those drawdowns minimized by having a convexity or sort of an opposite behavior during those stress periods. So think, draw down on stress period behavior, and just how it interacts with the portfolio in general. You just want something, while it might be weak from a return perspective on its own, when pulled into a portfolio can still improve the Sharpe ratio and give you a little bit more peace of mind and calm down the volatility quite a bit.

Benz: You mentioned a lot of different categories that fall under that alternatives umbrella. Assuming I don’t want 11 different alternatives funds in my portfolio, do you have any favorites that stand out from the standpoint of doing any of those positive things that you just talked about?

Reyna: I think in our research and my history in this space, obviously, the 60/40 portfolio performs very well. I think if you’re there, getting alternatives might not be the necessity. You don’t really need that in your portfolio. However, if you’re interested and you have specific risk things that you’re trying to control, I think managed futures is something that’s worth a look, just because historically, while performance last year was not great, it has worked out very well in stress periods. You had 2008, 2022; you can see where people who had allocations to managed futures really benefited at that time. The problem being that during other times it’s kind of difficult to hold it. It is a long-term view. It’s something that you would get in and kind of hold over a longer period.

Benz: Let’s talk about the practical implementation questions with these alternatives. Do you have a bias toward using an active product in this context, or are investors OK using some sort of market tracking ETF in an effort to lower their costs?

Reyna: It depends. The world of alternatives has typically benefited from that active management due to the fact that these are very complex instruments. There’s a lot of risk management involved. There’s a lot of use of derivatives and other things that can bring a lot of complexity to the strategy itself. So, having active management, I think, has been something that’s been crucial for these types of alternatives. However, the costs coming down in some of these ETF vehicles, I think it really depends on, you still have to do your due diligence when you’re getting a vehicle, regardless of the wrapper. It’s all about understanding what the strategy is, how it’s implemented, and that it makes sense in what they’re doing. Regardless of the wrapper, you can get a good ETF that can do that, or you can get an active manager who has a real edge.

Benz: OK. Amy, I want to go back to equities. You looked at the various squares of the Morningstar Style Box. Can you talk about what you see from the standpoint of correlations and diversification there?

Arnott: Yeah. It’s interesting, as we’ve seen the overall market become more tech-driven by the Big Tech stocks and very concentrated in large growth, the whole value column of the style box, so large value, mid-value, small value, those areas have all had the best diversification benefits. If you look at the correlations over the past three years for those three squares, they’re all below 0.8. If you do add value exposure to your portfolio, you’re getting some decent benefits in terms of diversification.

Benz: OK. You also have some questions for me on my research about sectors.

Arnott: Yes. You took the lead on the sector portion of the paper. Are there any sectors that stand out as particularly good from a diversification standpoint?

Benz: Yeah. For the past few years, energy has looked quite solid as a way to potentially say your total market index is your US equity exposure to … You could potentially augment it with a bit of energy exposure. We’ve seen a very different performance pattern from energy stocks relative to the US broad market. Utilities are another category; while a small part of the total market, they’ve tended to behave pretty differently as well. I would say, Amy, though, that these correlations tend to be pretty ephemeral; that we have seen them move around a lot, but at least right now or through the end of 2025, energy looked like the best way to diversify US equity exposure.

Arnott: What about on the flip side? Are there any sectors that have been disappointing from a diversification perspective?

Benz: Yes. There are a few sectors that have quite high correlations with the broad US market. As you might expect, US technology stocks are not a good way to diversify your US market exposure. They kind of duplicate your exposure. The consumer cyclical sector was another one that didn’t appear to bring a lot to the party. The correlation was very high, and then the industrial sector as well was another category where it doesn’t appear that you would want to amplify your US equity exposure with that industrial exposure.

Arnott: You also took a look at international diversification, and as we discussed earlier, one of the biggest trends we’ve seen is that we have seen a much bigger benefit from international diversification than we had seen for a long time. Can you talk about what’s been driving that?

Benz: Yeah, two major factors. One is the fortunes of the dollar relative to major foreign currencies. We’ve seen the dollar drop a bit relative to other large foreign currencies, so that’s been a key driver. The other key factor is just some undervaluation in non-US names, certainly in 2025 and perhaps persisting so far this year. Those two forces have been a wonderful tailwind for long-suffering international equity investors. You’ve had better returns if you’re a US investor investing in non-US stocks than you have been in investing in US stocks.

Arnott: It’s interesting, we’ve also seen correlations actually trending down in international markets. Some signs of maybe deglobalization or global markets not moving as closely in tandem as they did a few years ago.

Benz: Exactly. I was looking at correlations, actually. They’re at their lowest point, correlations—US relative to non-US—they’re at their lowest level in a decade. I don’t know whether it’ll be a persistent trend, but it’s certainly a positive trend.

David, I want to turn it back to you and talk about the hot topic these days, private equity and credit. The paper does include a section on the potential benefits of adding private investments. Can you talk about first, before we get into the findings, what are the most common types of private investments that people might be looking at?

Reyna: Sure. When we’re talking private investments, we’re talking private equity, we’re talking private credit. Basically, private equity being that you’re investing in private companies. You’re not picking a publicly traded company, you’re investing in a private. Private credit is where small and mid-sized companies are taking loans on the private market. Real estate, so the unlisted REITs, things that are not on publicly listed REITs, people trade those, and then infrastructure as well, trading things outside of the public space.

Benz: OK. When you look at the data, what do they say about the value, the merits of adding investments like these? Maybe you can take them category by category. If I have this plain-vanilla portfolio of public equities and public bonds, are there merits to adding the privates?

Reyna: It’s a complicated story, I think is the real gist. They look very attractive in a lot of ways, mainly due to the smoother performance. You’re seeing a lower volatility in the performance, and that really can be misleading because it really doesn’t mean lower risk. It just means that the valuations and the way these things are valued and the time frame upon which these are valued is very different than what we’re used to in public markets. You can have these private equity products, for example, they kind of behave like small-cap-leveraged stocks, with a lockup, is kind of how Jack and the paper put it. You’re seeing retail investors kind of come into these spaces, and they’re going to see very smooth returns, but that can kind of mask the risk that’s underneath. Institutions historically who have been in these products for a long time can kind of handle that illiquidity better.

The problem with privates potentially is that the timing of these liquidity issues can correspond to crisis times or things where public markets aren’t doing well, therefore being the worst case scenario. I think you have to understand the liquidity concerns, you have to understand the higher fees, which a lot of these products have. The access to the assets matters, and the timing of that, too.

Benz: OK. Can you talk about private equity in an equity market shock? If we look back on periods, whether 2022 or further back to the great financial crisis, how do private investments, private equity in particular, look in periods like that?

Reyna: Yeah. 2022, you’re seeing it—or let’s talk about 2020 first. During covid, you had a situation where the private markets looked a lot smoother. The US market index that we referenced earlier was down about 20% in 2020 at a certain point, and the privates had just a moderate loss reporting at the same time. Now what happens is that, basically, they’re under the same pressure. It’s just that the way they display that pressure is different. You eventually saw that a lot of these people weren’t able to get their money out of these portfolios. They were having liquidity issues, and the valuations eventually got there after a bit of a lag period. Some of these 2020 vintages are still underwater today. This is really the risk that you run when getting into these kind of illiquid products.

Benz: OK, good overview. Thank you for that. We want to show another poll question at this time, and we’re hoping you can vote on this question. What worries you most about diversification over the next five years? The choices are: stocks and bonds staying positively correlated, inflation remaining structurally elevated, overconcentration in mega-cap US equities—picking up on a bit of a theme there—liquidity risks in private markets, and finally, geopolitical and tariff-related fragmentation. Go ahead and cast your vote there, and we will revisit some of the results at the end of the session.

Amy, I want to talk to you about some research that you’ve led the way on, where you look at how asset classes and different portfolio types behave in various economic regimes. One of those regimes is interest rate pivots. Oftentimes, when interest rates are rising, that can be a pain point for various core asset classes. Can you talk about some of the key headlines there?

Arnott: One of the big trends we saw when we looked at these historical interest rate pivots or periods of stress on interest rates is that correlations between stocks and bonds tend to move much higher and that was definitely true during this most recent round of, we had a rapid series of interest rate hikes from kind of early 2022 through early 2024, and we saw correlations between bonds and stocks flip from negative to pretty positive, up to about 0.7. On the performance side, typically, obviously rising rates are bad for bonds. We tend to see some of the weakest performance from bonds and especially long-duration assets like long-term Treasuries. Rising rates are generally bad for stocks, too, but the impact is not quite as direct as on the fixed-income side. I think other asset classes have been a mixed bag, as you can see on the slide here, where we’ve highlighted areas of more positive returns in the green and negative returns in the red.

It’s really been a mixed bag, but I would point to gold and REITs, in particular, as two asset classes that can suffer when rates are rising just because they become less attractive in comparison. They’re kind of competing asset classes for interest-bearing securities.

Benz: OK. You might hold them for other reasons, but don’t hold them to be protection in any sort of interest rate shock. Let’s talk about inflation, which is top of mind, I think, for many of us or our viewers today. Let’s talk about what you see when you look back on various periods of inflation and US market history. What asset classes help protect us, and where do you tend to be particularly vulnerable?

Arnott: In general, inflation is a negative, not just for all of us as consumers, but also for equities, because what it means is their underlying costs are increasing. Whether that is the wages and benefits that they have to pay to employees or the cost of components that are going into their products. We’ve typically seen lower returns for stocks during periods of high inflation and especially when inflation has been particularly high or unexpected. Periods like the early 1970s or late 1970s, when we had really high, painful double-digit inflation, have also been really difficult periods for stock returns. Higher inflation can also be challenging on the fixed-income side, but the relationship is a little less direct. Usually, if inflation is spiking, we might eventually see interest rate hikes, but not necessarily immediately. A couple of other asset classes that tend to suffer during periods of high inflation are international stocks, both developed markets and emerging markets.

On the positive side, I would point to commodities and gold as two areas that tend to hold up better, and then obviously things like TIPS, or Treasury Inflation-Protected Securities, can be very beneficial during periods of rising rates, although they do often have a fair amount of volatility because of their sensitivity to interest rates.

Benz: Right, right. As in the past, I’ve taken the lead on the section about recessions, and Amy, I know you have a question or two for me on that front.

Arnott: Yeah. If you look at previous recessionary periods, what are some of the asset classes that tend to hold up well during recessions? On the other side, what are areas that tend to not hold up as well?

Benz: On the positive side of the ledger, one thing I referenced earlier was just how helpful high-quality bonds can be in an environment like that in a bear market for equities, driven by recessionary worries. The high-quality fixed income in eight of the eight recessionary periods that we examined had positive returns during those periods of economic contraction, so that’s the plus side. Stocks, somewhat to my surprise, weren’t universally poor in recessionary environments. I think they were negative in five of those eight recessionary periods. Not necessarily bad, but that’s one takeaway is that you probably shouldn’t look to them to be stable in recessionary environments. They may well get hit. One interesting dimension within the recessionary fixed-income discussion was just that being short versus long, it wasn’t clear that you were better off being long, where I had often heard if a recession is looming, go long because you have some expectation that rates will go down and that will be a benefit to you as a long-term bond investor.

The data are very mixed from the standpoint of where you’re better off. I would say for investors, don’t be a tactician on this front, hold high-quality fixed income, probably broadly diversified. Gold also looks good through the lens of recessions, that in a number of the recessionary environments that we looked at held its ground pretty well. Commodities less so. That’s a takeaway from the recessionary section.

I have some concluding questions for you, too. I want to encourage everyone in the audience to go ahead and submit questions because we will be tackling some of them. Amy, as I noted, you have been a fixture on this research. You’ve told me that it’s one of your favorite papers that we work on. What are one or two or three key things that you would like to work on in future versions of this paper?

Arnott: One of the things that we expanded in the most recent edition of the paper was the discussion about asset class performance during different types of economic environments, periods of high inflation, or rising interest rates, or recessions, as we just discussed. I think that is an area that would be interesting to explore in future periods. I think another interesting thing that stands out to me is that having a low correlation coefficient isn’t necessarily enough to merit adding something to a portfolio. I think it’s worth digging into what’s driving that correlation if it is low. As Dave mentioned, in some cases, like with cryptocurrency, where historically correlations have been very low, but that diversification value has at times really been swamped by the extreme performance volatility. As Dave mentioned, with other asset classes like private equity and private credit, you may be getting very low correlations and a potential diversification benefit, but during periods of market stress, that may or may not hold up. So, those, I think, are some interesting things that we’ll continue expanding on in future additions.

Benz: Yeah. In the case of privates, you may be seeing low correlation, but it could really just be kind of a reporting issue that you’re not seeing the actual—

Arnott: Right. You’re getting stale prices in a lot of cases.

Reyna: Yeah.

Benz: Dave, how about for you, when you think of key takeaways that you want people to bear in mind as they think about, implement this research, what are some that jump out at you?

Reyna: I think from my section, some of the takeaways I thought about were, first off, gold versus kind of the broader commodities. I thought that gold behaves quite differently. You talked about it during recessionary periods, doing quite well versus broad commodities, which may not be so much. There’s a lot of differentiation there. When you look at commodities, you really have to kind of dig down in kind of what the fundamental drivers of each one of those commodities are, the macro drivers. I think on the alternatives side, I think one takeaway that I really didn’t discuss yet to this point was that a lot of the alts kind of behaved like equities in a pretty substantial way. They had high correlations, they kind of had kind of a high beta as well, which is kind of the worst case scenario for a diversifier. If you’re looking for diversification, there might be other reasons to invest in those alternatives, but from a diversification standpoint, things like hedged equity or things of that nature, that might not be the first place you want to look.

Benz: Amy, in terms of your take-home points that you would like to leave people with, what would you say they are?

Arnott: I think one key takeaway for me is that diversification is obviously a good thing, but more isn’t necessarily better. If you’re trying to build a diversified portfolio, I think it can often be a little overwhelming just with the number of potential asset classes and especially with kind of the explosion of products that are available to investors now, with growth in ETFs and mutual funds of every imaginable type that you could add to a portfolio. If you are someone who is, you have certain goals that you’re trying to save for, like saving for retirement or kids’ college education, you want a diversified portfolio; it doesn’t really have to be complicated. I would say most people probably want to have US stocks, international stocks, and investment-grade bonds as well as some cash for emergencies, but beyond that, I think adding additional asset classes is optional. You don’t have to own 10 or 15 asset classes unless you want to.

Benz: As I said before, we are going to take a look at some of the results of those poll questions. To the first question, which is: What do you see as the biggest challenge to portfolio diversification today? The winner there appears to be—I don’t know if it’s a winner—but the concentration risk in US equities. It appears that people are concerned about the US market being overly concentrated in those large-cap growth stocks, US tech stocks especially. The second poll question was: Which asset class do you currently have the highest confidence in as a portfolio diversifier? It looks like international equities, and I guess their recent performance is a bit of a tailwind there. A fairly large share of the audience is saying that they have confidence in non-US equities as a diversifier. Final question we asked: What worries you most about diversification over the next year? It looks like overconcentration again in US equities, mega-cap US equities, was the area of concern from the standpoint of building diversified portfolios.

My hope is that we’ve given you all good food for thought on those issues during the course of this conversation. Now we are going to tackle some of your questions, and my hope is that you’ve been submitting them as we’ve been going along here. Here’s a question: To what extent could the study’s findings regarding bonds as best performers have been affected by the fact that bond investments are easier to track as an asset class than other types of diversifiers, such as dividend stocks? Seems like a good question. Amy, any thoughts on that?

Arnott: I think, yeah, certainly bonds are widely held, and especially for investment-grade bonds, it’s very easy to figure out what the performance has been. You have intraday reporting on interest rate trends and things like that. I would say dividend stocks are also relatively widely held and widely reported. I think potentially bonds might have a slight edge in terms of frequency of performance updates, but I think it’s an interesting question.

Benz: Here’s another question. I’m going to tackle it because this is something I’m interested in, but then I want to get Amy and Dave’s responses as well, if they have a thought on this. The question is: How should an individual think about adjusting the degree of diversification during the course of their investment and wealth management journey? Should they choose one approach and stick with it based on certain market events?

My bias is for people to put the asset class decisions front and center when they’re making decisions. If, say, equities are a big share of the portfolio for a younger investor, for example, you’d want to spend more time thinking about how that equity piece is diversified across the whole spectrum, and then the opposite would hold true as the investor evolves and gets older and needs his or her money, that you would spend more time thinking about diversifying the fixed-income sleeve. That’s how I would think about it, but I’m wondering if either of you has a thought about lifecycle. Amy, it may be something that you’ve worked on.

Arnott: Yeah. I think certainly as you get closer to retirement or are in retirement, you probably want to have some TIPS exposure as part of your bond portfolio. I think to some extent, if you’re a very young investor who’s just getting started and you don’t have retirement assets and you’re just sort of starting from scratch, diversification is, I think, less of an issue. I think the main thing to do in that situation is just get started, and you probably want to have a lot of equity exposure, maybe even 100% of your retirement assets in equities. From that perspective, I think it does make sense to, when you’re very young, just keep things simple, focus on saving as much as you can and as you get older and start to build up a bigger portfolio, I think it does make sense to spend a little bit more time making sure you’re diversified, especially if you have equity in your employer, that can certainly add a layer of complication to making sure your portfolio is diversified.

Reyna: I think the issue I had with that question was that it was adjusting based on market events. I think being able to time things like that is going to be, people judge themselves as being much better at that than they actually are. I think keeping with a stable portfolio that kind of keeps those things in mind at the beginning of the portfolio creation is better than trying to adjust it on the fly based on market events.

Arnott: Right. I think it’s always tempting to look at what’s going on in the world with inflation or the economy and try to tailor your portfolio. As we’ve seen with tactical allocation funds, even professional investors have had a really difficult time shifting their portfolio allocations based on market events.

Benz: Yeah. Don’t be a tactician.

Arnott: Right.

Benz: Here’s a question, Dave. I’m wondering, and I know Jack worked on the private section of the paper, but the question is, how do private infrastructure funds do during inflationary or recessionary periods? Did we look at that?

Reyna: I don’t remember specifically if Jack wrote anything about this, but I do know that, as we talked about in the past, the lag, there’s obviously a reporting lag. Having some sort of drawdown or issue in the public markets will eventually impact these private products. They’re not immune to that risk. The risk is just kind of buried in the illiquidity and the valuation process that they manage. It may look like it’s behaving differently during these periods, but you’re still getting access to a very similar product to what you are in the public markets, and it can behave very similarly, just with a lag.

Benz: OK. There was a question about income annuities and how they might affect someone’s bond portfolio, so I’ll tackle that. That’s something I’ve thought about, which is that if someone wants to use some sort of very basic income annuity, I would factor it into the asset allocation at the front end of the process. Assuming this is someone who’s getting close to retirement and looking for some sort of income stream in retirement, oftentimes to augment Social Security, I would take that as a way to address total income needs in retirement, and then the portfolio that’s left over, I would allocate that according to the demands that I would be placing on that portfolio going forward. If adding that income annuity alleviates how much the client will be tapping that portfolio on an ongoing basis throughout retirement, then that would, all else being equal, probably call for a more equity-heavy portfolio, less in fixed income, because simply, you would be tapping that portfolio less frequently. You’d have less in cash and less in bonds. That would be my thought.

Here’s a question. Amy, I’m thinking you can take this because you did look at the style box. The question is: Thinking about diversification within US markets, is adding growth-oriented active strategies to a portfolio that already has the S&P 500 a redundant allocation in your view?

Arnott: Probably yes, especially as I mentioned earlier, as we’ve seen the S&P 500 become more concentrated in the mega-cap technology and communications stocks, to the extent that a growth-oriented active manager is kind of mining the same area, you might end up with a lot of overlap in your portfolio. That’s something that, before you add a growth-oriented active manager, you could play around with our portfolio X-ray tool just to take a look at how that might impact your underlying sector exposure as well as your exposure to individual stocks.

Benz: Amy, we got another question about stagflation, and I’m wondering if you can take a look at what the data show. There haven’t been that many stagflationary periods, but it’s generally not a great environment for a lot of reasons. Can you talk about what the data say?

Arnott: We really haven’t seen stagflation recently. You have to kind of go back to the 1970s to see a really bad example of stagflation, when inflation was in the double digits, and at the same time, economic growth was very sluggish or declining. I think performance trends in those types of environments have been kind of mixed. In the 1970s, gold and commodities both did quite well relative to other asset classes. REITs did well in the late 1970s but not in the early 1970s. Stocks have also had a mixed performance, so it’s hard to draw a strong conclusion because the asset class performance has been so mixed during different periods of stagflation.

Benz: OK, that’s helpful. Thanks, Amy. Dave, here’s a question for you: Gold and silver have behaved very differently from broader commodity exposure in recent years, especially with silver increasingly tied to industrial and technology demand, which you alluded to. Should advisors start thinking about precious metals less as a single inflation-hedging bucket and more as two distinct portfolio exposures with different diversification roles?

Reyna: Yes, I do think that that’s the case. Precious metals, when you look at silver versus gold, they obviously both behaved very well from a return perspective and a diversification perspective in 2025. However, the way they got there, the economic drivers were substantially different. Silver was very dependent on kind of again, the industrial use, the kind of solar, the EVs, the data centers, things that require that as part of the input, whereas gold is again, purely that kind of safe haven play and broad diversifier.

Benz: OK. Here’s a good audience question. I think I’ll tackle this one. In 2022, TIPS got hammered. Amy, you referenced this. Despite inflation being 9.1%, does this mean TIPS are not a good hedge for inflation and retirement? I think time horizon is important here, that like stocks to some extent, TIPS are not a one-to-one hedge, especially if you’re holding some sort of a TIPS fund in part because you get that element of interest rate sensitivity baked into your pricing. That’s a risk of going with a core intermediate or longer-term TIPS fund that you do have that interest rate-related noise alongside your inflation protection. I think if your plan is to hold that investment long enough, you should experience more of the direct inflation benefits, but over short time periods, you will have that price dislocation. That’s one reason why I’ve tended to like the short-term TIPS funds because there are more inflation protection and less interest rate-related noise.

Arnott: Yeah. If you’re in retirement, I think a TIPS ladder can be really attractive, and that way you’re guaranteed to get the inflation protection because you’re matching with specific bonds to different years of your retirement spending needs, and you’re also getting a pretty decent yield on a TIPS ladder.

Benz: Yeah. That’s a topic that we explore in our retirement income paper.

Arnott: Exactly.

Benz: I think that’s all we have time for. Before we close today, I want to remind you that there is a URL. It’s in the attachment section that you can use to access this research and our report. I would also like to mention that our 2026 Investment Conference is coming up this June, and I’ll add that June is one of our nicest months here in Chicago. February, not so much, but June is beautiful. You can find a link to register for that conference in the attachments tab or scan this QR code. I know Amy and Dave, you’ll both be there. We’ll all be there. Thank you so much for taking time out of your schedule to join us today, and we’ll see you soon on Morningstar.com, where Amy, Dave, and I are regularly posting content. Thank you so much for joining. Enjoy the rest of your day.