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Don't overlook commodities in the current investment environment, says Wells Fargo

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(Kitco News) The traditional 60/40 portfolio blend of stocks and bonds is not what's best for the current market environment, said Wells Fargo, emphasizing commodities as a diversification tool.

This year, bonds and stocks performed poorly. And it might be the time to expand the investment horizons.

"We bring this up because 2022, if it continues on its current path, could be one of those rare years when both stocks and bonds are down. So far in 2022, a 60%-40% blend of the S&P 500 Index and the Bloomberg U.S. Aggregate Bond Index has a -25.97% annualized total return, second-worst only to 1932," said Wells Fargo's head of real asset strategy John LaForge.

In comparison, commodities — measured by the Bloomberg Commodity Index — were still up 12.74% as of October 18.

"Commodity prices performed well in 2021, similar to stocks and bonds, and we expect strong commodity performance in the future," LaForge wrote in a note this week.

The 60/40 split is not wrong and has been successful many times. It is just not something that fits the current investment environment.

"There are many types of investment portfolios, as investors' circumstances and goals are different. That said, most investment portfolios are a mixture of stocks and bonds. History suggests that combining these two asset classes can lower portfolio volatility, while providing strong risk-adjusted returns," LaForge described. "The higher returns and volatility of stocks are balanced against the typical lower returns and lower volatility of bonds … Over the past 95 years, stocks have had 32 down years, while bonds only 14. In the 32 down years for stocks, bonds followed stocks down only 5 of those years."

After this year's results, portfolio diversification is top of mind for many. "Portfolios can benefit from diversifying into other non-correlated areas, such as commodities and hedge funds. The bottom line is to keep an open mind when diversifying an investment portfolio," LaForge reminded investors.

In equities, Wells Fargo prefers U.S.-based, high-quality, and defensive assets. According to the bank, those assets are better at bearing a strong U.S. dollar, high inflation, rising interest rates, and an economic slowdown, said Wells Fargo's global portfolio and investment strategist Chao Ma.

"We believe the U.S. dollar can continue its upward trajectory over the next few months, as the current tailwinds may weaken but remain," Chao Ma wrote. "A rising U.S. dollar is typically a headwind to market prices across equities, fixed income, and real assets. This is due to the currency translation effect, as well as weakening international demand for U.S. goods and services."

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