A Core Approach to Portfolio Diversification, Lower Volatility | ETF Trends

The traditional 60/40 equities/bonds portfolio split may have seen better days, but some investors still crave a mix of stocks and bonds.

With interest rates at rock bottom levels, how that mix is obtained matters, and those low yields underscore the potential benefits of strategies such as the WisdomTree U.S. Efficient Core Fund (NTSX). The actively managed NTSX invests in large-cap domestic stocks and Treasury futures contracts.

The bulk of the Treasury contracts currently featured in NTSX are derivatives of bonds with maturities of two to 10 years, giving the exchange traded fund’s fixed income lineup an intermediate-term feel. Even with that, NTSX provides a fresher approach to the old school 60/40 split.

“Investors often rely on the diversification potential of a 60% stock / 40% bond portfolio in their asset allocation,” according to WisdomTree research. “NTSX incorporates this same logic seek to enhance the risk–return profile of a large-capitalization U.S. equity portfolio. Similarly, it can also be used as a 1.5x levered 60/40 strategy. NTSX seeks total return by investing 90% of its net assets in the 500 largest U.S. stocks by market cap, 10% in in short-term fixed income, used as collateral to target 60% notional exposure to U.S. Treasury futures.”

NTSX’s modern approach to 60/40 investing is notable because, unbeknownst to many investors, the 60/40 split has been highly correlated to broader equity benchmarks for years. That means that this methodology is likely subjecting investors to more volatility than they bargained for and not accomplishing the goal of adequate diversification.

That scenario highlights the allure of NTSX’s intermediate-term tilt because bonds in that maturity category are, historically, better diversifiers.

“Intermediate-term U.S. Treasuries, however, have stronger diversification potential. Over market cycles, U.S. Treasuries have fluctuated between periods of modestly positive and deeply negative correlations to equities. This has also been consistent across U.S., developed international, and emerging markets as well,” adds WisdomTree.

In fact, over long holding periods, intermediate-term Treasuries are actually negatively correlated to domestic stocks. Plus, NTSX already proved its mettle in a turbulent market environment.

“The performance and volatility witnessed in 2020 speaks for itself. NTSX outperformed with higher returns and less volatility than every market segment discussed previously, resulting in the highest measure of risk-adjusted returns over the period,” concludes WisdomTree.

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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.