In 1952, an economist named Harry Markowitz popularized the asset allocation model “quilt” through his Modern Portfolio Theory (MPT).[i] Using this model, Markowitz demonstrated that having a diversified portfolio proved to be less volatile than the sum of its individual parts.[ii]
A quilt chart is a technique for analyzing the performance of different asset classes, industry sectors, and fixed-income investments over a period of time.[iii]
Over the past ten years, according to the allocation quilt, inflation outperformed inflation-protected bonds (TIPS) by 0.8%, with an average inflation rate of approximately 2.9% and TIPS 2.1%.
For investors, this data is surprising since TIPS generally helps to cushion your portfolio against inflation as their principal values are indexed to the Consumer Price Index (CPI). So, how did it happen?
There were several drivers behind this startling data.
1) For about three years, nominal bond rates were significantly low, and instead of investors with interests in TIPS earning money from them, they were essentially paying the government to invest in the bonds. Nominal yields had a negative return.
2) Yields rose rapidly making TIPS act more like bonds than inflation-protection. Today, 10-year TIPS, for example, are yielding more than 2% nominally, therefore you will get 2% plus whatever inflation is in the future. That is positive, but to get here, investors had to endure quite a stretch of low yields and weak returns.
Another metric shows that over the past 10-years, cash outperformed bonds
Considering the nature of things today this is not surprising, at least in the short term. Over the long run (1926 to 2023), bonds have outperformed cash (treasury bills). As Barron’s says though, in the shorter periods, the very opposite is true. Cash is one of the most effective hedges against soaring inflation and interest rates. Simultaneously, cash yields have been greater than bonds for some time.
Cash has outperformed bonds over the last decade due to interest rates rapidly increasing causing the price of existing bonds to fall dramatically. As interest rates increased, investors saw their older bonds with lower yields decrease in value. Those with cash on hand could reinvest it at higher rates which many could view as a more appealing short-term strategy.
According to U.S. Bank, from October 2022 to December 2024, 3-month Treasury bill yields were higher than 10-year Treasury note yields. It was the longest period of an inverted yield curve in 45years.
Commodities struggled
Commodities had an unexpected weak performance considering the inflation spike was the highest in over 40 years. Generally, commodities perform solidly during bouts of inflation as their prices rise alongside general price increases in the economy, playing the hedge against inflation as the price of raw materials used to produce goods increases when inflation soars making them usually a hold during times of inflation.
In 2021 and 2022 investors saw a temporary price movement in the opposite direction of the prevailing market trend known as a “counter trend rally,” however, it was not enough to make up for the lack of performance in other years.
U.S. large caps wear the crown
The top performer of all the quilt assets in 4 of the past 6 years goes to the S&P 500. 2022 was the only year large caps weren’t in the top half of the asset classes. This trend doesn’t appear to be ending anytime soon. The large tech companies are currently the strongest corporations right now and only look to grow. They have numerous lines of business, are flush with cash , and are investing in the future such as artificial intelligence (AI).
However, as one learns over years of investing, past performance is not an indicator of future returns. Look at a snapshot of the first 10 years of the 21st century (2000-2010).
Now compare it to the decade, 2015-2025.
In the decade, from 2000 to 2010, notice that real estate investment trusts (REITs), not large caps, were the top performers even after the bursting of the housing bubble in 2008. Investors buffered their portfolios with good hedges on commodities, TIPS, bonds, and mid-caps. Large caps ended the decade with a negative return. In the decade from 2015 to 2025, US large cap stocks, represented by the S&P 500, generally outperformed other asset classes. There are no guarantees about what the future may hold so it’s pretty safe to say that the next 10 years could easily look quite different than the last 10. Nobody knows. Judging from past asset allocation quilts and their results, 2035 could be pretty interesting.
A financial professional can sit with you and help determine how these performance metrics help you with your investment and management strategies ensuring they align with your financial goals.
Important Disclosures:
This article was prepared by LPL Marketing Solutions
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Sources:
[1]Harry Markowitz: Creator of Modern Portfolio Theory
[1]Modern Portfolio Theory - GuidedChoice
[1]Updating My Favorite Performance Chart For 2024 - A Wealth of Common Sense
[1]US10YTIP: U.S. 10 Year TIPS - Stock Price, Quote and News - CNBC
[1]Cash vs. Bonds: When to Use Each For Your Savings - Barron's
[1]What does an inverted yield curve signal about the economy? | U.S. Bank
[1]War Chest: Exploring the Cash Holdings of Big Tech
[1]Asset Allocation Quilt Redux - A Wealth of Common Sense