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00;00;00;00 - 00;00;20;11
Aaron Task
When the facts change, I change my mind. What do you do? John Maynard Keynes’ famous quote has arguably never been more relevant than it is right now. Higher for longer interest rates, a greater dispersion of returns, and the tightest stock bond correlations in a generation has many advisors wondering, what do you do?
00;00;20;13 - 00;00;34;09
Aaron Task
In this episode, we try to answer that question with Bart Sikora, head of portfolio consulting for the Americas at Blackrock. I'm Aaron Task and this Is in the know.
Aaron:
Bart, welcome.
00;00;34;11 - 00;00;35;05
Bart Sikora
Thank you for having me.
00;00;35;05 - 00;01;00;22
Aaron Task
And thank you for being here. So, I started with the Keynes quote. I'm going to read you another quote from Thomas Becker, who's a portfolio manager on BlackRock's global tactical allocation team. He recently wrote, quote, “the aftermath of the global pandemic upended many of the previous decades’ asset allocation rules of thumb, including the primacy of bonds as an uncontested complement to equities.” End quote. So given that what what do you do?
00;01;06;05 - 00;01;25;03
Bart Sikora
Great question. I love both of the quotes that you gave us, and I'm going to take us on a little history lesson here. And I think it's worth it. Right. So over the last 40 years we lived in a wonderful world of great moderation. We can think of it as starting roughly around 1990. Diversification was the main theme of portfolio construction, right?
We had bonds and we've come to rely on bonds for three strong reasons: diversification that they offered, capital preservation and income. Now, after global financial crisis, those three reasons got even stronger, although income did shrink a little bit due to quantitative easing. But you could still say that it was higher than cash. Therefore you still went to bonds for income. You absolutely went to bonds for diversification.
Diversification is defined as negative correlation between stocks and bonds. That's what makes portfolio construction exciting. You put two asset classes like that together. Your risk goes down. And then after COVID a complete change. And I don't want to overuse the term regime, but this was a regime change from a portfolio construction perspective.
We no longer have diversification. Correlation of stocks and bonds is now positive, occasionally goes to zero -- it doesn't really get negative. We have a lot of macro volatility. We have a lot of market volatility. All of that is coming from just uncertainty where things are going. Inflation is a very big theme. There was really a variety of things that are going on, variety of reasons. There were some structural shifts, but it could be said that whatever we've come to rely upon over the last 40 years, which was really below target inflation was not the norm, was the exception. It was just a really long exception. We've really got a very long period where most of us in this industry really don't remember the period before that, right, depending on how long you've been in it.
But you could argue that that was really a very prolonged exception. And now we are going back to the norm. And the norm is going to be that inflation will be a potential problem for quite a while. And that means that this whole construction benefit of bonds from a diversification perspective, has potentially gone away for quite a while.
And we essentially have a new environment to which we have to adapt to.
And what this means is that asset allocation decisions are still important. They're still even more important than they used to be. Now that there is a great cost to being wrong, if you get this whole stock-bond mix wrong, you're going to be essentially, your portfolio is going to pay the price that was much more significant done in the past. Now, of course, there is also the opposite of that. If you get this right, your portfolio is going to benefit.
So I don't want to discount the importance of bonds. I still think they have a very important role. But you could argue this environment has become more dynamic. And that means we have to adapt and we can adapt through essentially paying better attention, closer attention, more frequent portfolio monitoring, doing some stress test, outcomes on the portfolio.
But also there is a new cast of portfolio participants that could potentially be needed. And we call this category liquid alts.
00;04;16;19 - 00;04;38;02
Aaron Task
Okay. So a lot to unpack there. As I mentioned, you’re head of portfolio consulting for the Americas of Blackrock, and as I understand it, primarily what you do is consult with our institutional clients. So how have you seen them adjust to this new regime as you as you call it? And where do these alternatives that you just mentioned fit into that?
00;04;39;10 - 00;05;00;28
Bart Sikora
Yeah, and I think it's worth spending a couple minutes essentially describing the categories of alts and what we mean by alts. But if you think, broadly speaking, from an alternative, perspective, institutions have always loved alternatives. We can go back to ‘80s or even ‘70s. Alternatives have always been in demand from institutions. The larger the institution, the bigger the portion of alts. Part of the reason is that large institutions can open doors to alts. They can also afford the illiquidity of alts right? Generally speaking, there's two alts categories: alternative assets like private equity, venture capital, private credit, and alternative strategies. Today's conversation is going to be about that second category alternative strategies.
And what are alternative strategies?
They're essentially traditional investments that are held in nontraditional way. And this is what makes them alts but also makes them liquid. We are talking about taking stocks or bonds individually, or as a category, and going long or short. That's, generally speaking, what most of liquid alts will be doing. Right. So, institutions will be pursuing both alternative assets and alternative strategies.
But for today's conversation we will focus on alternative strategies. Liquid alts is just a name. It's a Morningstar category. It's just a term. That term can be a little bit charged, but I really want to focus on the benefits and how to use it in a portfolio.
00;06;05;21 - 00;06;06;10
Aaron Task
Thank you for differentiating. Because frankly, you know, when I heard when I hear the term alts, I think of private equity or fine art or, you know, any number of other things that aren't typically in the playbook for most of I would think of our financial advisors -- certainly retail investor. So I like that distinction of, you know, the liquid versus the less liquid or illiquid, as you put it.
So what is the role that you see for liquid alternatives in a portfolio today, given the environment you described at the beginning?
00;06;39;15 - 00;07;02;00
Bart Sikora
Now knowing what we learn about bonds, which is bonds are not as reliable from a diversification perspective or even capital preservation at times. Right. We still have the income, but you pay a pretty big price in terms of risk or volatility for that income. Diversification is not there. This is where liquid alts can come in as a source of portfolio diversification.
The reason why they're a source of portfolio diversification is essentially the structure of a typical liquid alt fund going long, short and either removing market exposure or minimizing market exposure. It makes the return of that given instrument, typically speaking -- and I have to generalize a little bit because there's categories quite broad right.
You know, generally speaking they're all going to behave differently from each other. But, the objective is that the best liquid alts from a portfolio diversification perspective will be uncorrelated to the sources of risk in the portfolio. They're going to be uncorrelated to both stocks and bonds. And I think 10 years ago, that would be interesting. But right now it is extremely valuable.
Why is it valuable. Because bonds used to serve that role. And now all of a sudden you have a new category of assets or really funds, right, that are offering something that bonds stopped being able to offer in this new regime. And from a portfolio perspective, we're essentially looking for assets that are going to help to right-size the portfolio risk.
You can now choose what level of risk you can run in your portfolio by selecting what kind of a liquid alt you're going to put in and how much you're going to put in. And also what do you fund it by? Some liquid alts can be funded by bonds, some by cash, some even by by stocks. Right. So all these possibilities now give us more levers to pull that historically were not available prior to this change in the regime. Right. Bonds used to be more attractive, but also now we have higher interest rates, higher for longer or high for longer, whichever you want to call it.
00;08;51;22 - 00;09;08;22
Aaron Task
I'm going to ask you to drill down on that because, you know, again, as we sit here today, money market assets are at an all-time high. A lot of people are saying, well, I can get nearly 5% from the two-year treasury. Why shouldn't I just sit there?
How does that actually help make the case for these liquid alternatives that you were just starting to describe?
00;09;11;22 - 00;09;31;08
Bart Sikora
I'm, to switch my focus to discussion on the return structure. So we're putting diversification on the side for a second. Diversification still very useful, but I just want to, promptly move through each important category. Returns, I didn't speak to much before, but typically liquid alts are going to have a cash plus alpha type of return.
If you have a skilled manager, we're talking top quartile. You're expecting to have alpha being generated by the strategy. But the starting point is cash plus alpha. When cash is at 4 or 5%, you have a higher floor for that return. So you're going to have essentially a cash return plus a certain alpha return. Now why is the cash, the sort of embedded benchmark of a liquid alts? That is because liquid alts, as strategies are either going to deploy derivatives and post cash as collateral and earn a higher cash rate, or they're going to be shorting individual securities and essentially are funding that portfolio structure from the short side by sitting in cash and posting that cash.
So, money market return is a component of a liquid alts structure. From a benchmarking perspective, alpha is what you expect to get from the talent of the top quartile manager, right? Cash plus alpha means we have two separate things separate things that are both attractive, higher cash and also higher alpha.
Why is alpha higher in this environment. It's not necessarily going to be higher for all of the managers, but the top quartile managers are now playing in the world with greater dispersion, which means if you're skilled at picking stocks that are going to go long and go short, you can technically free top quartile manager on a hypothetical level - generate higher level of alpha if you're successful right now, this also means opposite.
A not successful liquid alt manager can have a more negative alpha, right? So I don't think the average alpha is going up, I just think that dispersion of stocks results in a dispersion of potential alpha that good and bad managers can generate. Right. So higher cash and more alpha, if we picked a successful manager, this is why we are looking at liquid alts as an attractive return strategy.
That's a lot of interesting things right. We bring back what we discussed about bonds. Bonds are no longer as attractive. That actually makes liquid alts even more attractive. Right. So that's that's in essence what we're looking at.
00;11;59;21 - 00;12;00;06
Aaron Task
All right. So before we get to the implementation of this one more sort of broad general question here about this category: for advisors who certainly, you know, many of them have clients who are at or near retirement or individuals in that point in their life. Why do you think this is such an important tool in the toolkit right now?
00;12;20;15 - 00;13;06;15
Bart Sikora
Yeah. So historically, we know that investors, or any financial advisors who have investors who are approaching retirement, we have historically counted on bonds to essentially deliver, certain prospects in retirement -- a certain uncertainty and essentially, portfolio behavior or maybe, a limitation of unexpected portfolio drawdowns. Now with, essentially bonds being less reliable to to accomplish this, it's tough for everybody and anybody to constructing portfolios, but it's additionally tough for investors and financial advisors with investors heading towards retirement, because the greater bond proportion is now even more potentially unreliable in a portfolio construction.
When somebody has a 20% bond allocation, sure, diversification would have been nice, but you can still make it through. You have a long time horizon. But when you're looking at 80% bond allocation and you want that certainty of returns, this is where I think financial advisors with investors close to retirement, with clients close to retirement. This is where
the risk of essentially missing your objective is even higher.
Aaron Task
Okay And Bart before we wrap, for those listening who might be interested in pursuing some of these strategies, what would your approach be in terms of implementing this?
00;13;41;17 - 00;14;00;11
Bart Sikora
Every portfolio is different, right? This is really specific to an individual allocation. I'm just going to give you one hypothetical example on how, one would do it. Right. You can either go with a single liquid alts strategy or you can combine few of them.
If you select the right ones on a going forward basis, they should complement each other.
They should be uncorrelated to each other, and they should have an additional level of portfolio benefits.
So the example that I'll give in this case, we have an equity liquid alts that is essentially going long-short on traditional global equities. and this fund should have a fairly low level of correlation to stocks and bonds, and that alpha should be essentially uncorrelated, but the general sources of economic risk.
And for us that fund is BDMIX, which is the Global Equity Market Mutual Fund. Now, I'm going to pair this hypothetically with a fund on a fixed income side. And that fund here is called Systematic Multi Strategy BIMBX. Both of these funds are liquid alts from a traditional perspective of low correlation to stocks and bonds and also low correlation to each other.
So now let's imagine a hypothetical allocation where you go 5% one 5% of the other. And you fund that maybe equally from stocks and bonds. But you also have a choice to fund that fully from bonds. Or you can fund it from cash. You have essentially, a lot of levers to pull in your portfolio. Every portfolio is different.
So you can essentially choose how you're going to allocate. But that's just one idea of how we would think through portfolio implementation. Two tickers, in this case a very simple 50/50 weighting. But there is infinite numbers of ways to implement it. It really is portfolio specific.
00;15;32;01 - 00;15;43;00
Aaron Task
All right. And I don't know about infinitely, but I'm sure we could discuss this further. We do have to leave it there.Our guest has been Bart Sikora, head of portfolio consulting for the Americas at Blackrock. Bart, thanks very much.
00;15;43;02 - 00;15;44;25
Bart Sikora
And thank you so much. Pleasure.
Spoken Disclosure:
Visit www.blackrock.com to view a prospectus, which includes investment objectives, risks, fees, expenses and other information that you should read and consider carefully before investing. Investing involves risk, including possible loss of principal.
Written Disclosure:
Alpha is the excess return of a fund relative to the return of a benchmark.
Correlation measures how two securities move in relation to each other. Correlation ranges between +1 and -1. A correlation of +1 indicates returns move in tandem, -1 indicates returns move in opposite directions, and 0 indicates no correlation.
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.blackrock.com. Read the prospectus carefully before investing.
Investing involves risk, including possible loss of principal. Diversification and asset allocation may not protect against market risk or loss of principal.
BlackRock Global Equity Market Neutral Fund (BDMIX): The fund is actively managed and its characteristics will vary. Stock 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 currency fluctuations, illiquidity and volatility. These risks may be heightened for investments in emerging markets. 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 use derivatives to hedge its investments or to seek to enhance returns. Derivatives entail risks relating to liquidity, leverage and credit that may reduce returns and increase volatility. 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.
Systematic Multi-Strategy Fund (BIMBX): The fund is actively managed, and its characteristics will vary. 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. Fixed income risks include interest rate and credit risk. Typically, when interest rates rise, there is a corresponding decline in bond values. Credit risk refers to the possibility that the bond issuer will not be able to make principal and interest payments. 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. 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. 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 fund 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.
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Bart Sikora, head of portfolio consulting for the Americas at Blackrock, explains the 'what, how and why' of the liquid alts category. That is: What are liquid alts…how do they fit in portfolio construction…and why more advisors might consider leveraging them for clients?
This popular financial podcast is designed for a wide range of professional and individual investors. The Bid breaks down what's happening in the world of investing and explores the forces changing the economy and finance.
Within just a few minutes, get a breakdown and clear takeaways about the latest market events. Count on webinar replays and videos for timely insights on markets, geopolitics and economics.
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Market take
Weekly video_20241216
Vivek Paul
Global Head of Portfolio Research, BlackRock Investment Institute
Opening frame: What’s driving markets? Market take
Camera frame
With a wide range of market and economic outcomes now possible, bonds less reliably shield portfolios against equity selloffs.
We look to expand our diversification toolkit. It’s not about replacing bonds, but introducing unique drivers of risk and return.
Title slide: Diversifying our portfolio diversifiers
1: Bonds less of a ballast
Sticky inflation has upended the historical negative correlation between stock and bond returns.
That’s why we think investors should consider adding new diversifiers alongside bonds – like gold and bitcoin.
2: The case for gold
We think gold has diversification properties because its value drivers are different than those for equity and bond returns.
Gold prices have surged this year as investors seek to bolster portfolios against higher inflation and some central banks seek alternatives to major reserve currencies.
3: The case for bitcoin
We think bitcoin should be less correlated with major risk assets over the long term because the drivers of its value are different than for traditional assets. Demand for bitcoin is based on its potential to become more widely adopted.
Outro: Here’s our Market take
We stay pro-risk headed into 2025 and see U.S. corporate profits staying strong even as U.S. growth moderates.
Yet if markets to flip-flop in their pricing of interest rates, bonds may not effectively hedge against any pullbacks in risk assets.
That calls for rethinking portfolio diversification.
Closing frame: Read details: blackrock.com/weekly-commentary
Market take
Weekly video_20241216
Vivek Paul
Global Head of Portfolio Research, BlackRock Investment Institute
Opening frame: What’s driving markets? Market take
Camera frame
With a wide range of market and economic outcomes now possible, bonds less reliably shield portfolios against equity selloffs.
We look to expand our diversification toolkit. It’s not about replacing bonds, but introducing unique drivers of risk and return.
Title slide: Diversifying our portfolio diversifiers
1: Bonds less of a ballast
Sticky inflation has upended the historical negative correlation between stock and bond returns.
That’s why we think investors should consider adding new diversifiers alongside bonds – like gold and bitcoin.
2: The case for gold
We think gold has diversification properties because its value drivers are different than those for equity and bond returns.
Gold prices have surged this year as investors seek to bolster portfolios against higher inflation and some central banks seek alternatives to major reserve currencies.
3: The case for bitcoin
We think bitcoin should be less correlated with major risk assets over the long term because the drivers of its value are different than for traditional assets. Demand for bitcoin is based on its potential to become more widely adopted.
Outro: Here’s our Market take
We stay pro-risk headed into 2025 and see U.S. corporate profits staying strong even as U.S. growth moderates.
Yet if markets to flip-flop in their pricing of interest rates, bonds may not effectively hedge against any pullbacks in risk assets.
That calls for rethinking portfolio diversification.
Closing frame: Read details: blackrock.com/weekly-commentary
Opening (00:00)
This is Mark Peterson with the December 2024 BlackRock Student of the Market update.
Slide 2 (00:08)
This month we'll hit a bunch of slides on stocks, talk about some timely issues, including something that's always near and dear to us, S&P envy, and we'll finish up with a couple on bonds and alternatives.
Slide 3 (00:22)
Let's begin on the stock side. First off, nice November post-election, up 5.9% for the S&P 500. Bonds bounce back as well, up 1.1% after a tough October where both were negative. And on the right side, I just thought it was interesting to highlight the returns by month for the year. Even going back to last November, that was the last time we had a return as good as we had this November, 5.9% versus 9.1% last November for U.S. stocks. And bonds as well, similar story. But I thought it was interesting. You can just see how good of a year this has been for U.S. stocks. Only two months that were negative, April really being the only meaningful month of a pullback. So very steady gains across the board for U.S. stocks so far this year.
Slide 4 (01:09)
Stepping ahead, talking about that S&P envy, what we mean by this, of course, is when the stock market does well, significantly outpacing the diversified balanced portfolio. In this case, we look at a 60/40 portfolio. Obviously, there can be some regret that you don't own more stocks and more risk assets because the gap between what U.S. stocks have done the last couple years in the diversified portfolio is pretty wide. And the diversified portfolio certainly has done well, but when you contrast it to how well U.S. stocks have done, oftentimes investors can get that feeling of S&P envy. So acknowledging that, I think that's something I hear most from investors and advisors across the country, is they have a lot of folks with that S&P envy where the portfolio has done well. But you know what's done a lot better? U.S. stocks. And that can create some of that envious feeling.
And on the right side, I always think it's important to highlight, if we do get a downturn, how much would it take for this diversified portfolio to catch up? Just looking at the math, just starting with the bull market from 2022 in October to the end of November of this year, you can see stocks are up about 74 percent. Diversified portfolio is up almost 47 percent in that environment. So not bad. You're capturing about 63 percent of the S&P market upside. So the question is, what would it take from a bear market standpoint to actually pull even or actually pull ahead for the diversified portfolio? And it's actually not as large as I thought it would be. It's only about a 34 percent drawdown, which is certainly significant, but not out of the realm of possibility. You can see the diversified portfolio would actually catch up and outpace the S&P 500, if that's what we experience. Assuming the same kind of capture on the drawdown, where you're actually protecting about 63 percent, only capturing about 63 percent of that bear market return on the downside as well. You can see you actually end up slightly ahead in the bottom right-hand corner with obviously a lot less risk in that diversified portfolio. So I think it's always important you can look at what happens with the diversified portfolio in a good market, but let's also think about why we diversify in the first place. It's to limit that downside. So if we did get a pullback greater than 34 percent, you'd be much better off in that diversified portfolio. I think it's good to set those expectations, remind folks why we build portfolios the way we do. You don't need all the upside of what the bull market brings. Just get a chunk of that upside. Limit the losses in a tough market, like if we were down 34 percent. That's how we build wealth over time. It's just tough to see. You get into some of these periods where the S&P envy feeling can be really revved up and can make folks feel like they're leaving too much money on the table. But again, remind them why we invest the way we do, why we asset allocate and diversify, and spread their investment eggs across a variety of investment baskets. It's all to get to that “winning more by losing less” feeling that you get on the bottom right-hand side of the slide.
Slide 5 (04:25)
Looking forward to 2025, I think one of the best indicators are just, for U.S. stocks anyways, is what's happening with flows and flows into mutual funds and exchange traded funds. It's been pretty modest this year and last year as well. You think about that we're up over 25% this year. We're up over 26% last year in U.S. stocks. Yet inflows into mutual funds and exchange traded funds that are invested in stocks has been pretty modest. Last year was actually slightly negative, which is a really bullish sign by the way. And this year has been pretty modest. $81 billion so far through the end of October. You can see where that ranks historically. Nowhere close to what we saw in 2021 or some of the best inflow years that we've had. But you can see on the right side we just matched up this 30-year window. When you get some of your best inflowing years, that's actually when stocks do their worst in the next calendar year. You average 1.6% following periods where you get a ton of money flowing into mutual funds, exchange traded funds that are focused on stocks. You can see that if you invest following a worst outflowing year, like 2020 was a great example. Look at 2020. We all know stocks were up big in 2021. You average almost 24% in those worst 10 calendar flowing years for U.S. stock mutual funds and exchange traded funds. This year would qualify right in the middle. It's actually middle-bottom. $81 billion. And you figure if we do closer to $100 billion by year-end, that puts you right in the middle, which again is somewhat of a bullish sign, 14.6% in those middle years. So some optimistic news. It just shows that the sentiment overall in the retail market is not chasing this bull market in an enormous way. It's modest, but certainly not anything that's overboard like we've seen in the past.
Slide 6 (06:31)
We've talked a lot about the fact that stock and bond correlation has been pretty high. I think it's even higher than a lot of folks realize. Normally when stocks are negative, that's really the correlation you're most concerned about, right? You want support when stocks are negative. So those months where stocks lose money, and it happens about one out of every three months historically, so 32% of the time going back to 1926, stocks lose money. Bonds are positive more than half the time. So exactly what you'd hope for, right? You'd probably obviously love to see this even higher, but more than half the time bonds are positive since 1926. But look what's happened recently here on the right side of the slide. The last 13 months that stocks have lost money, and this happened in October, wasn't a huge loss, but stocks were down a little bit less than a percent. Bonds were down as well. And this has happened 13 consecutive times. Going back, the last time you can find a month where you actually made money in bonds when stocks lost was all the way back three years ago in November of 2021. 13 consecutive months. We went back to 1926 and we couldn't find a streak of more than six months in a row. Back in 1994 was actually when it happened where stocks lost money and bonds lost money as well. Six versus 13 today I think really highlights how in tune or at least in tandem stocks and bonds have been moving, which certainly has been frustrating I know for portfolios. Hopefully we get some relief here at some point because we have reset interest rates higher on the bond side, but we're just in a bad rhythm overall where stocks and bonds have never moved as much in tandem as they are today. Certainly something to keep an eye on and we'll talk about alternatives later. Maybe a case for adding alternatives as well.
Slide 7 (08:24)
Moving on to the small-cap space. Saw a great month for small company stocks here post-election in November. They were up 11% in the month of November versus large caps up about 6%. And you can see year-to-date though they still trail. Even after such a big performance month, they're still trailing year-to-date. And this is something we've noticed in the past is when you get some of this burst of performance for small caps, it tends not to be very durable. You can see even back in December of last year, December 2023, small caps were up 12%, large caps were up only 4.5% in that month. But obviously with the year-to-date number, large caps have pulled ahead again. So you get some of this burst of performance on the small cap side. You can see on the right side, bottom right-hand corner, the next year following periods where small caps have had a big shot of performance, it just doesn't carry through. Large caps have actually outperformed. Granted this has been a period large caps generally have done better, but this is a sentiment that we hear from a lot of our investors internally here at BlackRock that we still like large caps over small. Small cap earnings are a little bit more challenged than some of the large cap companies. So we think you're going to have these bursts of performance. It just tends not to be a great sign for small caps over the next 12 months.
Slide 8 (09:50)
And of course getting closer to tax season and coming into year-end tax selling, capital gains distribution is a huge issue for mutual funds, especially on the active side. You can see the…we just looked at the top 25 largest active equity funds out there. Over a hundred billion in assets. Most of them are in outflows. The average outflow is nine billion dollars, which is significant. That, coupled with turnover, means that you've got some portfolios that are going to kick off some gains. Especially because look at the average potential cap gain exposure for these largest mutual funds. Forty-three percent, almost half the fund, is actually embedded gains. So you get any kind of turnover or selling to meet outflows, you're going to trigger some of those cap gain distributions. So I think we all know this to be the case. Great when the market's up, but some of these funds are sitting on some enormous embedded gains. Especially those that are in outflows really have to sell to meet some of those gains, it can be a tremendous challenge. So something to keep an eye on. Of course we have our tax tool here at BlackRock that we're proud of. You can find it on the web. A great way to track some of those capital gain distributions and try to minimize the impact as much as you can on end investors.
Slide 9 (11:12)
Switching gears on the bond side, we've talked about this, but I think it's important to really highlight the fact that real yields on bonds are the highest that we've seen really since 2015. Almost 10 years. Of course real yields are inflation adjusted. So just taking the yield on the 10-year U.S. Treasury bond, adjusting for inflation, we're over 1.5 percent. And that's a pretty nice friendly territory for bonds and fixed income going forward. You can see on the right, whenever you have invested in bonds, whenever they have a positive real yield, you average 8.1 percent. And of course if you invest when they have a negative yield, which is really where we've been in the previous three plus years, your returns, all bets are off. And you're flat over that period when those real yields are negative. So bodes well for bonds going forward. We've reset interest rates to a healthy level. The fact that real yields are positive, history tells us that's a good time to put money to work into bonds and fixed income.
Slide 10 (12:17)
And the last slide on alternatives, we've highlighted this before, but we thought we'd dial it in a little bit more precisely. Just the fact that we think alternative funds are just a much better space today than they've been in the past. Look at the return standpoint. Some of this is due to the fact that cash rates are higher today than they were, especially versus 2004 to 2019, that five-year period. So returns on some of these alternative funds that can often be described as cash plus, are doing a much better job generating return. You can see just the average for all categories. So this is every dog and cat that fits in this alternative space, is up on average over this almost 5-year window, almost 5% for that entire period, 4.7%. And probably most importantly, look what's happened to the diversification piece. It's gotten much better as well, especially versus 2010, 2014. Correlations almost half of what they were during that period of time. So better returns, better diversification. We really like this alternative mutual fund space. Get cash plus returns that will diversify a portfolio, especially when stock and bond correlations are as high as they are, like we touched on earlier. We think it's a great story going forward into 2025.
Closing (13:41)
So that does it for our December version of BlackRock's Student of the Market Update. As always, if you have thoughts or comments or ideas for content, let us know on our web page. We have a space for comments and questions. Some of the best content comes from advisors across the country, so we certainly encourage that. But look forward to talking to you next time on BlackRock's Student of the Market Update. Thank you.
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00:00:01
Hi, I’m Carolyn Barnette, Head of Market and Portfolio Insights for US Wealth here with your recap of our September In the Know Webinar.
00:00:07
We talked about three things today. We talked about public policy, we talked about markets, and we talked about preparing portfolios in a – for capital gains season.
00:00:20
So, first up, talking about public policy and elections. We’ve got one presidential race coming up, we also have 468 congressional races coming up. We heard that 82% of you are not planning on making any changes around the election but staying invested through it even if we do see market volatility pick up a bit as the races sort themselves out. Next, we spent a lot of time talking about markets, and in particular, that the Federal Reserve just cut interest rates by 50 basis points with guidance for another 50 basis points of cuts in 2024, followed by another 100 basis points cuts in 2025. So, seeing that cash rates are coming down, and starting to look for opportunities in other income producing assets, asset classes to make up income, whether that’s dividend paying equities on the equity side, spread assets within bonds, or looking at option overlays to earn even more income in a more volatile environment.
00:01:20
We also talked a lot about our economic outlook, growth staying resilient. You know, kind of GDP growth is staying well above recessionary levels. So, we’re staying invested in equities, but within equities, we like large cap, high qualities over smaller cap securities. Our concern is that rates are not dropping yet enough to really support those smaller cap securities that are struggling with higher borrowing costs, and if we do see growth start to slow, and certainly, the Q4 GDP growth outlook is lower than the one for Q3 and what we saw for Q2. So, we’re continuing to prefer those larger cap, less volatile names.
00:02:02
And also spent some time talking about strategies for really nervous investors looking for, you know, whether it’s minimum volatility equities, buffered strategies or those high-quality dividend payers as ways to stay invested in volatile markets.
00:02:19
We also talked a bit about, you know, what the path forward for inflation and unemployment might look like and how the combination of uncertainty around that, plus the yield curve being in the process of disinverting, really creates opportunities to get active within fixed income. We see a lot of opportunity to take advantage of yields in the belly of the curve and just are not seeing a lot of opportunity in the longer end barring a recession.
00:02:50
Last piece within markets, a really good time to be diversifying your diversifiers amidst that uncertainty. A lot of reason to have uncorrelated assets that might be able to benefit from higher volatility and also a high degree of dispersion between assets.
00:03:07
And then we wrapped up In the Know talking about how to rebalance in a tax efficient way because in a year where a lot of assets are up and a lot of advisors are thinking about rebalancing going into the end of the year, it could be hard to do that in a tax aware way.
00:03:23
So, we talked through some best practices, keeping an eye out for capital gains distribution announcements, and also looking for opportunities to potentially tax loss harvest below the surface. You know, one of those things is looking at price returns rather than total returns when you’re evaluating which one of your holdings might have a loss to harvest. But also looking at individual stocks that could be opportunities below the surface. You know, every year, even though, even years that the Russell 3000 was up, there was still plenty of individual stocks in there that were down and were creating those opportunities for tax loss harvesting.
00:03:59
So, hopefully the main takeaways that you got from all of that is that we are here for you. We want to be a great partner for you in these times.
00:04:09
So, you can always look to our Advisor Center for tools and also timely insights, and you can also reach out to your BlackRock partners or call 877-ASK-1BLK if you have any questions or there’s anything that we can help you with you. So, thank you very much, and we will see you next time.
00:04:33
(END)
Watch a recap of our latest In the Know event where our top thought leaders gathered to share their perspectives around inflation, the intricacies of investing in an election year and portfolio perspectives to tie it all together.
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