Liz Looks at: Offense and Defense

In the Playoffs

Green Bay Packer fans are still riding the high of last weekend’s wild card win over the Dallas Cowboys, and rightfully so as the Pack became the only #7 seed to ever win a playoff game. Much like our experience with markets, no one predicted that game to go the way it did. And as with markets, one of the things we can count on every year is that there will be surprises.

Since we can’t predict what those surprises will be, the best we can do at the beginning of a year is make sure we have our team ready. In order for a team to succeed in the playoffs, both the offense and defense have to show up. This isn’t unlike allocating a portfolio, particularly in a year when the environment is likely to shift from monetary tightening to monetary easing, and the outcome of that shift is yet to be seen. As we learned in the Packers/Cowboys game, the outcome that most people expect to happen tends to be the one that doesn’t happen.

At its most basic level, the concept of offense and defense in a portfolio is the standard 60/40 allocation with 60% stocks and 40% bonds. The idea being that volatility in stocks can be dampened or offset by the more stable and defensive nature of fixed income. A blended portfolio should ideally provide a less volatile return pattern than a portfolio of 100% stocks, while still offering upside potential.

Despite a period of time when the crowd was shouting that 60/40 was dead, it has made a comeback and is again something investors can broadly consider. However, it’s important to drill down even deeper and identify the sectors and asset classes within broad categories that can play offense or defense, and have the potential to play well in 2024.

Points on the Board

One of the most frustrating charts to see right now is that of the S&P 500 from the beginning of 2022 to the beginning of 2024. We’ve had two very eventful years in markets, yet the index is basically back to exactly where it was in January 2022. Some may say the last two years were lost, but most investors don’t simply own the S&P 500, so the range of outcomes was wide depending on your timing and positioning.

In any event, we could also look at it as a clean slate. We’ve basically returned to the level we were at before recession fears were priced in. And since the prospect of not having a recession at all has become more commonplace, it’s rational to make sure your portfolio has an allocation to areas that can produce upside in the case of continued growth and no major drawdown.

As someone who’s been cautious for quite a while on the expectation that tightening would eventually result in economic pain, and that markets are not appreciating that risk enough, I also recognize that being present in markets is the only way to make money.

Offensive plays do not need to be hail mary passes or 75-yard punt returns. They can be a series of first downs that bring the ball across the field more methodically, while still resulting in the same number of points. In 2024, that’s the approach I would take on offense, and the spots I like in that bucket are large cap cyclical sectors such as Industrials and Financials, the Nasdaq 100, and Health Care.

More specifically, I would expect these areas to do well in the case of another period that seems to be late cycle behavior, but absent a recession. The cyclical sectors would have a chance to shine in an environment of continued spending and no major labor market concerns, while the Nasdaq 100 continues to be the darling of this cycle and is likely to do well on the expectation (or reality) of falling rates without a major contraction in growth.

Health Care is more of a contrarian play given that it tends to struggle during election years, and was one of the worst performing sectors in 2023. But these are peculiar times, so I’m willing to try a peculiar play. Health Care can be seen as defensive in the large cap space, but it’s also benefiting from growth and innovation in Pharma & Biotech, which I expect to continue in 2024. Not to mention, it’s a growth area of the market that isn’t nearly as sensitive to interest rate volatility as Technology, Communications, and Consumer Discretionary.

Defense Wins Games

Offense is important, but you don’t make it all the way without keeping an eye on risk management and protection. With that in mind, a portfolio in 2024 requires defense against the possibility of a drop in yields, a reignition of recession fears, or a reacceleration in inflation. Since the defense portion of a portfolio is one I’ve covered many times before, this part is pretty straightforward.

The difference in 2024 is that we are expecting the Fed to start cutting rates (when and by how much is a topic for another column), which could start to make those high yielding, low risk assets such as Money Market Funds (MMFs) less attractive as the year goes on. For the time being, MMFs are still generating attractive income. But if rates fall throughout the year, investors may want to consider other assets that can offer a yield and some price potential in times of stress.

Those assets in my opinion would be dividend paying stocks and Treasurys. I particularly like short-term Treasurys right now, but 10-year Treasurys can be an attractive asset for those worried about recession. As for dividend stocks, stay tuned for next week’s column that will be written by my research partner Mario… on dividend stocks.

Lastly, although we’ve made considerable progress on inflation, the risk of it heating up again remains. As such, investors may benefit from an allocation to precious metals and commodities. More specifically, I like Gold as both an inflation hedge and a stable defensive position. Other commodities such as Copper, Oil, and Lumber could have potential to rise if inflation does move higher again. A broad commodity basket would be my preferred way to own this part of the market in a diversified manner, keeping in mind that although I’m putting this in the “defense” bucket here, commodities tend to be cyclical and can be volatile in times of stress.

Next Round

We’re only halfway through January with a lot of year left, so it’s important to balance risks and opportunities, while keeping an eye on what the next surprise may be. In a period when the range of possible outcomes is wide, let’s start the game with balance and agility.

Communication of SoFi Wealth LLC an SEC Registered Investment Adviser. Information about SoFi Wealth’s advisory operations, services, and fees is set forth in SoFi Wealth’s current Form ADV Part 2 (Brochure), a copy of which is available upon request and at www.adviserinfo.sec.gov. Liz Young Thomas is a Registered Representative of SoFi Securities and Investment Advisor Representative of SoFi Wealth. Her ADV 2B is available at www.sofi.com/legal/adv.