Portfolio Construction
Key takeaways
- U.S. large cap stocks took the lead for the second year in a row, outperforming cash, bonds, and international stocks.
- Duration surprised to the downside in 2024, but “plus” sector bonds rode a healthy U.S. economy higher.
- Looking ahead to 2025, stocks may continue to outperform other asset classes, though diversification from tactical bond strategies and alternatives could come in handy.
2024 Market Recap
The S&P 500 does it again
As we close out the year, 2024 has proven to be another great year for risk assets, though the strength of the U.S. economy – and magnitude of the stock rally – may have been a pleasant surprise for many.
As of December 3rd, the S&P 500 is up over 28%, handily outperforming cash and bonds, in addition to international and smaller cap stocks.
Source: Bloomberg as of 12/3/24. Growth as represented by S&P 500 Growth Index; S&P 500 as represented by S&P 500 Index; Small as represented by Russell 2000 Index; International as represented by MSCI ACWI ex USA Index. Index performance is for illustrative purposes only. Index performance does not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.
The Mag 7 played less of a role in S&P 500 returns this year, as performance broadened out amongst U.S. equities in the second half. While small caps haven’t quite caught up to large caps, they’ve rallied through the second half of the year, serving as a timely reminder to portfolio builders not to get too concentrated in any one exposure: it’s always valuable to have at least some broad market exposure as diversification when momentum shifts.
Source: Bloomberg as of 11/30/24. Large cap growth refers to S&P 500 Growth Index; large cap value refers to the S&P 500 Value Index, and small cap refers to the Russell 2000 Index. Index performance is for illustrative purposes only. Index performance does not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results.
Duration surprises to the downside
Most advisors polled in January were ready to extend duration this year: falling inflation and expectations for Fed rate cuts suggested that 2024 would be a great year for bonds. After all, bonds have historically done well when the Fed has cut rates.
But a stronger-than-expected U.S. economy stymied bond returns as expectations for future rate cuts got dialed back. Longer-term bond yields actually rose following the Fed’s first rate cuts in September.
The Fed cut interest rates, but longer-term bond yields rose
Interest rates
Source: Bloomberg as of 11/30/24. Index performance is for illustrative purposes only. Index performance does not reflect any management fees, transaction costs or expenses. Indexes are unmanaged and one cannot invest directly in an index. Past performance does not guarantee future results
While duration has been painful to own this year, shorter duration and “plus” sector bonds have performed quite well. While duration was a detractor to bond index returns, higher yielding sectors capitalized on tightening credit spreads in addition to higher yields to outperform both cash and traditional core bonds.
Income outperformed duration
YTD bond index performance
Source: BlackRock as of 11/22/24. Cash defined as Bloomberg Treasury Floating Rate Bond Index, Agg as Bloomberg U.S. Aggregate Bond Index, IG Credit as ICE BofA US Corporate Index, and HY Credit as ICE BofA US High Yield Constrained Index.
Alternatives put the “plus” in “cash plus”
Core bond funds may have struggled to outperform cash, but “cash plus” diversifying alternatives – those that target cash returns plus any alpha that they’re able to generate – had a great year. Interest rate volatility was high, but many diversifying alternatives maintained reasonably low volatility levels due to their low correlations with stocks and bonds, while also delivering on the cash plus alpha returns they targeted.
Diversifying alternatives delivered cash plus returns
YTD returns through 12/3
Source: Bloomberg as of 12/3/24. Cash defined as the Bloomberg US Treasury Bills TR Index, Agg as the Bloomberg US Agg TR Index, BIMBX as the BlackRock Systematic Multi-Strategy Fund, PBAIX as the BlackRock Tactical Opportunities Fund, and BDMIX as the BlackRock Global Equity Market Neutral Fund. Click here for the most recent standardized returns for BIMBX, PBAIX, and BDMIX.
Performance results reflect past performance and are no guarantee of future results. Investment return and principal value of shares will fluctuate so that shares, when redeemed, may be worth more or less than their original cost. All returns assume reinvestment of all dividends. Performance information shown without sales charge would have been lower if the applicable sales charge had been included. Performance during periods of exceptional market conditions should not be expected to be repeated in a normal market environment. Current performance may be lower or higher than the performance data quoted.
Three market predictions for 2025
While no one truly knows what the next year in markets will bring, based on our experience, here’s what we’re anticipating:
Stock market predictions: U.S. equities may continue on their tear
The U.S. economy has continued to defy expectations, showing resilience in the face of restrictive interest rate policy. The recession that everyone predicted in 2023 has yet to materialize, and positive economic data suggests that 2025 could be another good year. While stock market valuations are certainly high, a look through index P/Es reveals plenty of value still out there. And with tax cuts potentially on the horizon due to a change in the balance of political power, corporate earnings could rise, further justifying today’s high valuations and creating space for additional price gains.
Security selection and curve positioning could drive bond gains
The strong economy may keep interest rates higher for longer. As Tactical Opportunities PM Tom Becker likes to say, if the American consumer is making money, they’re spending money. And the American consumer is indeed both making and spending money, which could keep prices (inflation) high. With inflation potentially higher, and the economy far from a recession, the Fed may settle at a higher neutral rate than previously anticipated.
This could lead to some distress among floating rate debtors and borrowers who will have to refinance at higher rates. While the strong economy makes us comfortable with today’s tight credit spreads, selectivity across credits could be critical to minimize default risk. As an example, the iShares High Yield Systematic Bond ETF (HYDB) attempts to screen for higher quality bond issuers.
The potential for higher U.S. deficits – in addition to that expectation of a higher neutral rate – may also limit the upside of longer-dated bonds. These longer-dated bonds are more volatile by nature and may not be worth the risk if the economy stays strong (though they may do quite well if we see a recession after all). Instead, PMs like Rick Rieder, CIO of Fundamental Fixed Income, are avoiding long-dated U.S. bonds and prefer the higher income found in shorter-maturity bonds and the diversifying potential of intermediate bonds.
Our municipal bond team expresses a slightly different outlook due to the different shape of the muni curve: they like a barbell of short and long-dated munis that allows them to benefit from monetary policy easing and take advantage of attractive yields further out on the curve. They also like the higher yields in high yield munis, believing that they could offer a higher risk/return profile in today’s environment.
My prediction: while core bond indexes should do just fine in 2025, strategies that can take a more tactical approach to the bond universe may be poised for an even better year. A balanced portfolio should have allocations to both, but today’s risk/return outlook may call for a higher allocation to the tactical strategies than in years past.
Two tactical strategies that we lean on in our model portfolios include the BlackRock Strategic Income Opportunities Fund (BSIIX) and iShares Flexible Income Active ETF (BINC).
Alternatives expected to provide valuable diversification
The risk that inflation stays high – or even potentially rises in response to policy changes – suggests that bonds may not be enough to diversify stocks in 2025. While stock/bond correlations typically fall once the Fed starts cutting rates, if inflation resurfaces, these correlations could rise once again.
Diversifying alternatives – that is, strategies with low correlations to stocks and bonds – may then prove to be even more critical to portfolio constructors. Investors have appreciated alternatives’ strong returns over cash, and with interest rates projected to stay high, those “cash plus” returns could continue to be meaningful. But don’t forget about the risk side of the equation, either – it’s worth double-checking your strategies to make sure that those that promised to deliver uncorrelated returns were able to do so. BlackRock’s Global Equity Market Neutral Fund (BDMIX), as an example, has delivered 12.3% annual returns over the last three years with a correlation to stocks and bonds of just .02 and .01, respectively. (Source: Bloomberg as of 12/3/24). Click here for the most recent standardized returns for BDMIX.
Getting your portfolios ready for 2025
As we enter a new year, it’s always valuable to step back and revisit portfolio assumptions. A few questions to ask:
- How are you benchmarking your portfolio performance? Do you have the right benchmark in place?
- How much have your portfolio’s returns differed from the benchmark index(es) you selected? Have the returns remained within a comfortable range?
- Have your fund managers delivered on their objectives?
Answering “no” to any of these questions should trigger a portfolio review. After all, high dispersion creates opportunities for active decisions to have a significant impact on portfolios, but that axe can swing both ways.
For those who find that embedded gains are keeping them from their target portfolio, it’s also worth taking a look at direct indexing and options overlay strategies that may be able to help rebalance in a more tax-efficient way.
And of course, BlackRock is here to help. You can always reach out to your market partner or call 877-ASK-1BLK if you have any questions on translating markets into the right portfolio implications for you.
Explore the Advisor Outlook – BlackRock’s monthly market outlook for financial advisors – for more details on our latest market and portfolio insights.
Subscribe for the latest market insights and trends
Get the latest on markets from BlackRock thought leaders including our models strategist, delivered weekly.
Please try again
Thank you
Thank you for your subscription
Carolyn Barnette
Head of Market and Portfolio Insights for BlackRock’s U.S. Wealth Advisory business.
Related Resources
More articles loaded. Use Shift+Tab keys to browse.
Total articles:
Access exclusive tools and content
Obtain exclusive insights, CE courses, events, model allocations and portfolio analytics powered by Aladdin® technology.
Investments
Insights
Practice Management
Tools
Resources
About Us
Definitions:
Cash-plus: Cash plus often refers to strategies with a return target at a defined level above the rate of the return of cash investments.
Benchmark: A benchmark is a standard or measure that can be used to analyze the allocation, risk, and return of a given portfolio.
Tracking error: Tracking error determines the difference between the return fluctuations of an investment portfolio and the return fluctuations of a chosen benchmark.
Mag 7: The Magnificent Seven stocks are a group of high-performing and influential companies in the U.S. stock market: Alphabet, Amazon, Apple, Meta Platforms, Microsoft, NVIDIA, and Tesla.
Indices:
S&P 500 Growth Index: an unmanaged index that is generally considered representative of the U.S. stocks in the S&P 500 index that have market valuations greater than their earnings, on a total return basis.
S&P 500 Index: an unmanaged index that is generally considered representative of the U.S. stock market on a total return basis. Included are the largest 500 stocks by market cap.
Russell 2000 Index: an unmanaged index that is generally considered representative of the 2,000 largest stocks in the entire U.S. stock market on a total return basis.
MSCI ACWI ex USA Index: an unmanaged index that captures large and mid cap representation across 22 of 23 Developed Markets (DM) countries (excluding the US) and 24 Emerging Markets (EM) countries.
S&P 500 Value Index: an unmanaged index that is generally considered representative of the U.S. stocks in the S&P 500 index that have market valuations lower than their earnings, on a total return basis.
Bloomberg Treasury Floating Rate Bond Index: an unmanaged index that is generally considered representative of the U.S. floating rate Treasury market on a total return basis.
Bloomberg U.S. Aggregate Bond Index: an unmanaged index that is generally considered representative of the U.S. bond market on a total return basis.
ICE BofA US Corporate Index: an unmanaged index that tracks the performance of U.S. dollar-denominated, investment grade (IG) corporate debt publicly issued in the U.S. domestic market.
ICE BofA US High Yield Constrained Index: an unmanaged index that is designed to provide a broad representation of the U.S. dollar-denominated high yield corporate bond market.
Key risks:
Carefully consider the Funds' investment objectives, risk factors, and charges and expenses before investing. This and other information can be found in the Funds' prospectuses or, if available, the summary prospectuses which may be obtained by visiting www.iShares.com or www.blackrock.com. Read the prospectus carefully before investing.
Fixed income risks include interest-rate and credit risk. Typically, when interest rates rise, there is a corresponding decline in the value of debt securities. Credit risk refers to the possibility that the debt issuer will not be able to make principal and interest payments.
Non-investment-grade debt securities (high-yield/junk bonds) may be subject to greater market fluctuations, risk of default or loss of income and principal than higher-rated securities.
BINC is actively managed and does not seek to replicate the performance of a specified index. The Fund may have a higher portfolio turnover than funds that seek to replicate the performance of an index.
Asset-backed securities are subject to credit, interest rate, call, extension, valuation and liquidity risk and are subject to the risk of default on the underlying asset or mortgage, particularly during periods of economic downturn. Small movements in interest rates may quickly and significantly reduce the value of certain ABS.
Stock and bond values fluctuate in price so the value of your investment can go down depending on market conditions. International investing involves special risks including, but not limited to political risks, currency fluctuations, illiquidity and volatility. These risks may be heightened for investments in emerging markets. Principal of mortgage-or asset-backed securities normally may be prepaid at any time, reducing the yield and market value of those securities.
Obligations of US government agencies are supported by varying degrees of credit but generally are not backed by the full faith and credit of the US government. Investments in emerging markets may be considered speculative and are more likely to experience hyperinflation and currency devaluations, which adversely affect returns. In addition, many emerging securities markets have lower trading volumes and less liquidity. The funds may use derivatives to hedge its investments or to seek enhanced returns. Derivatives entail risks relating to liquidity, leverage and credit that may reduce returns and increase volatility.
Effective 1/4/19, the Alternative Capital Strategies fund name was changed to the “Systematic Multi-Strategy Fund”. The Fund’s information prior to September 17, 2018 is the information of a predecessor fund that reorganized into the fund on September 17, 2018. The predecessor fund had the same investment objectives, strategies and policies, portfolio management team and contractual arrangements, including the same contractual fees and expenses, as the fund as of the date of reorganization. As a result of the reorganization, the Fund adopted the performance and financial history of the predecessor fund.
Asset allocation strategies do not assure profit and do not protect against loss. Investing in small- and mid-cap companies may entail greater risk than large-cap companies, due to shorter operating histories, less seasoned management or lower trading volumes.
The issuers of unsponsored depositary receipts are not obligated to disclose information that is, in the United States, considered material. Investing in long/short strategies presents the opportunity for significant losses, including the loss of your total investment. Such strategies have the potential for heightened volatility and in general, are not suitable for all investors. The fund may engage in active and frequent trading, resulting in short-term capital gains or losses that could increase an investors tax liability. Short-selling entails special risks. If the fund makes short sales in securities that increase in value, the fund will lose value. Any loss on short positions may or may not be offset by investing short-sale proceeds in other investments. Investing in small- and mid-cap companies may entail greater risk than large-cap companies, due to shorter operating histories, less seasoned management or lower trading volumes.
There can be no assurance that performance will be enhanced or risk will be reduced for funds that seek to provide exposure to certain quantitative investment characteristics ("factors"). Exposure to such investment factors may detract from performance in some market environments, perhaps for extended periods. In such circumstances, a fund may seek to maintain exposure to the targeted investment factors and not adjust to target different factors, which could result in losses.
If the Fund invests in any underlying fund, certain portfolio information, including sustainability characteristics and business-involvement metrics, provided for the Fund may include information (on a look-through basis) of such underlying fund, to the extent available. The Fund is actively managed and does not seek to replicate the performance of a specified index. The Fund may have a higher portfolio turnover than funds that seek to replicate the performance of an index. There may be less information on the financial condition of municipal issuers than for public corporations. The market for municipal bonds may be less liquid than for taxable bonds. Some investors may be subject to federal or state income taxes or the Alternative Minimum Tax (AMT). Capital gains distributions, if any, are taxable.
Securities with floating or variable interest rates may decline in value if their coupon rates do not keep pace with comparable market interest rates. The Fund’s income may decline when interest rates fall because most of the debt instruments held by the Fund will have floating or variable rates. Mortgage-backed securities ("MBS") and commercial mortgage-backed securities ("CMBS") are subject to prepayment and extension risk and therefore react differently to changes in interest rates than other bonds. Collateralized Debt Obligations ("CDOs") carry additional risks including, but not limited to: (i) the possibility that distributions from collateral securities will not be adequate to make interest or other payments; (ii) the risk that the collateral may default or decline in value or be downgraded, if rated by a nationally recognized statistical rating organization; (iii) the Fund may invest in tranches of CDOs that are subordinate to other tranches; (iv) the lack of a readily available secondary market for CDOs. An investment in the Fund is not insured or guaranteed by the Federal Deposit Insurance Corporation or any other government agency and its return and yield will fluctuate with market conditions. The Fund's use of derivatives may reduce the Fund's returns and/or increase volatility and subject the Fund to counterparty risk, which is the risk that the other party in the transaction will not fulfill its contractual obligation. The Fund could suffer losses related to its derivative positions because of a possible lack of liquidity in the secondary market and as a result of unanticipated market movements, which losses are potentially unlimited. There can be no assurance that the Fund's hedging transactions will be effective.
Funds that concentrate investments in specific industries, sectors, markets or asset classes may underperform or be more volatile than other industries, sectors, markets or asset classes and than the general securities market.
This information should not be relied upon as research, investment advice, or a recommendation regarding any products, strategies, or any security in particular. This material is strictly for illustrative, educational, or informational purposes and is subject to change. This material represents an assessment of the market environment as of the date indicated; is subject to change; and is not intended to be a forecast of future events or a guarantee of future results. This information should not be relied upon by the reader as research or investment advice regarding the funds or any issuer or security in particular.
The information and opinions contained in this material are derived from proprietary and nonproprietary sources deemed by BlackRock to be reliable, are not necessarily all-inclusive and are not guaranteed as to accuracy. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by BlackRock, its officers, employees or agents. This material may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projections and forecasts. There is no guarantee that any of these views will come to pass. Reliance upon information in this material is at the sole discretion of the viewer.
The information provided here is neither tax nor legal advice. Investors should speak to their tax professional for specific information regarding their tax situation.
Past performance information indicated herein is neither a guarantee nor indicative of the future performance or investment returns of any strategy and actual events or conditions may not be consistent with, and may differ materially from, historical or forecasted events or conditions. Investing is subject to various risks, including a risk of total loss.
Prepared by BlackRock Investments, LLC, member FINRA.
© 2025 BlackRock, Inc. or its affiliates. All Rights Reserved. BLACKROCK, ISHARES and ALADDIN are trademarks of BlackRock, Inc. or its affiliates. All other trademarks are those of their respective owners.
USRRMH0125U/S-4202644