Investment Strategy

The importance of managing return-to-risk in portfolios

Using bonds in a diversified allocation has historically been a way to effectively diversify equity risk in a portfolio. While that principle remains a cornerstone of asset allocation strategy, the structural shift in correlation between stocks and bonds in 2022 has left many investors concerned over the efficacy of using bonds as a diversifier.

Additionally, in recent years artificial intelligence (AI) has been a major driver of market returns, led by just a handful of companies. As equities have outpaced fixed income, without regularly rebalancing, allocations likely have drifted to include higher weights to Information Technology, Communication Services, and the mega-cap stocks driving the AI rally. Investors may also have ramped up allocations in those areas in order to keep up with the fast-growing equity market.

However, we would caution against abandoning fixed income or other diversifiers to chase performance, even as the AI theme dominates markets. We encourage investors to not only diversify their allocations to maintain the appropriate risk-and-return balance for their risk tolerance and investment objective, but to diversify their AI exposure outside of the U.S. technology space into other equity sectors and asset classes, and even into other asset groups.

Since the tandem decline in the stock and bond markets in 2022, the long-term correlation between equity and fixed income has shifted higher. This means that we’ve observed more instances of stock and bond prices moving in the same direction than in the past. The shift to a higher interest-rate environment prompted this change, and the long-term correlations appear to have settled at a higher level than in the previous decade that was characterized by near-zero interest rates.

Despite this structural shift, when compared to other diversifiers, like commodities and global hedge funds, fixed income remains a very low correlated asset class. Even with the increase in long-term correlation, bonds are less correlated with stocks now than during other periods such as the 1980s and can still prove to be valuable as part of an asset allocation strategy to help mitigate equity market risks and to help generate income.

Diversifying within and outside of equities does not mean abandoning themes that are driving market performance. Notably, investors may still participate in the long-term AI theme without concentrated exposure to just a few stocks in the U.S. large cap space and while still diversifying. Within equities, we are most favorable on Financials and favorable on Industrials and Utilities, which are crucial sectors that support financing or building out the infrastructure needed for data centers. Emerging Markets Equities have shifted from a commodity and manufacturing focus to being more centered on AI and technology investment and innovation, which should contribute to more sustainable performance for the asset class.

Looking outside of public markets, we favor Event Driven strategies, particularly merger arbitrage, which can capitalize on increased mergers and acquisitions activity in technology. In our view, Private Equity, Private Debt, and Private Infrastructure also provide avenues to target growth in AI-related businesses, including exposure to private companies building out data centers and laying the groundwork for AI integration. While alternative investments, such as these, require longer investment holding periods and less liquidity, we believe they can provide attractive diversification benefits while still participating in the AI theme.

Investing in commodities, which have tended not to move in the same direction as either stocks or bonds, is another way to diversify. We believe even modest allotments to commodities in a diversified allocation can help to reduce volatility and mitigate downside risk, which can potentially smooth returns over time.

Similarly, hedge fund and private capital exposure has historically provided some downside risk mitigation while enabling investors to participate in the upside during equity rallies. Inclusion of these diversifiers has historically improved the return-to-risk ratio by a combination of reduced risk and similar or even increased return over the long term (see Table 1). Based on this research, more broadly diversified allocations returned more for the amount of risk taken (Table 1), which we believe can make a difference over the long term.

Table 1. Diversification historically has helped reduce risk

Level of diversification	Allocation	25-year annualized return	25-year annualized standard deviation	25-year return-to-risk ratio	15-year annualized return	15-year annualized standard deviation	15-year return-to-risk ratio
Simple stock-bond split	50% Global Equities/50% Global Fixed Income	5.49%	9.42%	0.61	6.60%	9.17%	0.64
Stocks and bonds with the inclusion of commodities	Moderate growth & income liquid	6.33%	9.59%	0.69	7.78%	9.15%	0.71
Stock and bonds with the inclusion of commodities and alternatives	Moderate growth & income illiquid	6.26%	9.48%	0.71	7.60%	8.54%	0.79

Sources: © Morningstar Direct, All Rights Reserved, and Wells Fargo Investment Institute. Data from July 1, 2005, to June 30, 2025. Global Equities: MSCI All Country World Index (ACWI). Global Fixed Income: Bloomberg Multiverse Index. Performance results for Moderate growth & income illiquid and liquid are calculated using blended index returns. Moderate Growth & Income allocations are dynamic, and change as needed with adjustments to the strategic allocations. Index returns do not represent investment performance or the results of actual trading. Standard deviation is a measure of the volatility of returns. The higher the standard deviation, the greater volatility has been. The risk associated with the representative asset classes and the definitions of the indexes and the blended index composition are provided at the end of report. For illustrative purposes only. Risk and return results of the general portfolio blends [indexes] above do not represent investment returns or the results of actual trading, and are provided for the sole purpose of displaying potential effects of diversification in a portfolio. Index returns reflect general market results for the asset or product type, assume the reinvestment of dividends and other distributions, and do not reflect deduction for expenses or taxes applicable to an actual investment. Indexes used to represent allocations hedge funds are different than indexes representing publicly traded securities. Hedge fund indexes are typically comprised of information voluntarily reported by the fund managers that have chosen to participate, and therefore these indexes could reflect a bias towards funds with successful track records, leading to the appearance that the average historical fund performance was better than it actually was. Indexes used here cannot be invested in directly or indirectly, and therefore an actual investment in these product classes is not expected to be as diversified as their associated index. Actual investments will likely carry increased volatility relative to their index. Although adding alternative investments to an investment portfolio may further diversify the total portfolio, each alternative investment could carry higher risk than other investments within the portfolio. Investors should carefully consider the risks of each alternative investment product that they are considering for investment. Because different managers use a multitude of different strategies, an alternative index may not accurately reflect every investment in that asset class. Investors should carefully consider the asset class in which the product intends to invest to avoid inadvertently overexposing the portfolio to the risks of a particular asset class or economic sector. An investment’s offering documents will more accurately discuss all applicable risks. These offering documents should be read carefully before investing.

HFRI Fund Weighted Composite Index is a global, equal-weighted index of over 2,000 single-manager funds that report to HFR Database. Constituent funds report monthly net of all fees performance in US Dollars and have a minimum of $50 Million under management or a twelve (12) month track record of active performance. The HFRI Fund Weighted Composite Index does not include funds of hedge funds. HFRI Indices have limitations (some of which are typical of other widely used indices). These limitations include survivorship bias (the returns of the indices may not be representative of all the hedge funds in the universe because of the tendency of lower performing funds to leave the index); heterogeneity (not all hedge funds are alike or comparable to one another, and the index may not accurately reflect the performance of a described style); and limited data (many hedge funds do not report to indices, and, therefore, the index may omit funds, the inclusion of which might significantly affect the performance shown. The HFRI Indices are based on information self-reported by hedge fund managers that decide on their own, at any time, whether they want to provide, or continue to provide, information to HFR Asset Management, L.L.C. Results for funds that go out of business are included in the index until the date that they cease operations. Therefore, these indices may not be complete or accurate representations of the hedge fund universe and may be biased in several ways. Returns of the underlying hedge funds are net of fees and are denominated in USD. Funds that become ineligible are removed from the index in a manner consistent with real market options and practices within a timeframe reflecting actual market conditions. AUM will be redistributed among existing constituents or allocated to a new constituent or both. Due to mutual agreements with the hedge fund managers listed in the HFR Database, we are not at liberty to disclose the particular funds behind any index to non-database subscribers. 

Cautious holiday 2025 outlook as consumers seek out value

The holiday season — defined by the National Retail Federation (NRF) as November and December — is the most critical period for retailers, often accounting for up to 30% of annual sales. However, heading into the 2025 season, U.S. consumers appear more cautious amid economic uncertainty. Persistent inflation, rising costs for essentials, and stagnant income growth are straining household budgets, especially among younger consumers and those with high-fixed expenses.

Online sales are expected to hit another record, with Adobe¹ forecasting 5.3% year-over-year (YOY) growth — slower than last year’s 8.7%. Broader retail forecasts vary: NRF projects +3.7% to +4.2% growth, S&P Global +4.0%, International Council of Shopping Centers +3.5% to +4.0%, Deloitte +2.9% to +3.4%, while PricewaterhouseCoopers anticipates a -5% decline. Surveys² from Deloitte and NRF show planned per-person holiday spending down -10.0% and -3.9% YOY, respectively, driven by price sensitivity, inflation, and tariffs.

Despite headline growth projections, real spending — adjusted for inflation — may decline. The data paints a picture of a more frugal consumer, prioritizing essentials and value over discretionary purchases. Retailers should prepare for a competitive, promotion-heavy season shaped by cautious spending and digital dominance. Affluent households — those with a liquid asset of $100,000 or more — continue to account for the largest share of holiday sales and we expect them to drive the bulk of 2025 holiday sales, with expectations to increase overall spending. In contrast, the lower-income households are most likely to decrease their spending this year.

Chart 2. 20-year (2004-2024) holiday sales compound annual growth rate of 3.9%Sources: National Retail Federation and Wells Fargo Investment Institute. Data is for November and December combined, as of November 6, 2025. 

¹ Adobe: U.S. Holiday Shopping Season to Cross $250 Billion Online, Rising 5.3% YoY. October 6, 2025.

² National Retail Federation Holiday Survey, October 16, 2025, and Deloitte Holiday Retail Survey, October 14, 2025.

Emerging market debt resilient despite uncertainty

EM bond classes have exceeded our expectations for 2025 performance, given double-digit positive returns year-to-date as of November 18. Local-currency-denominated EM government debt has gained 16.8% (translated to U.S. dollar terms), while U.S.-dollar-denominated EM sovereign debt — which we maintain neutral guidance on — has delivered a total return of 12.2% (see Chart 3). Spikes in uncertainty, largely from Developed Market (DM) politics and fiscal and trade policies, have hurt DM assets more. EM countries, with improved policy credibility, lower external debt, and better fiscal discipline have been able to bolster real rates and their local currencies relative to DM countries.

We expect the rally to continue, given our base case of a U.S. economic slowdown coupled with further interest-rate cuts from the Fed. However, some gains could be pared back if the U.S. dollar appreciates due to a risk-off event or if market expectations for further Fed rate cuts diminish. In addition, valuations may not be as attractive given that EM debt yields have fallen from yearly highs of 8.4% in April 2025 to near 6.9% today, and spreads over U.S. Treasury yields have declined from 353 basis points (bps; a basis point is 1/100 of a percent) to near 242 bps today. In our view, the broader macro story around growth in global exports and adequate financial market liquidity may continue to support EM debt performance between now and year-end 2026, but headwinds from more in-ward looking policies by DM economies or limited action from EM central banks due to a stronger dollar could also create restrain, hence why we remain neutral on U.S. dollar EM bonds.

Chart 3. EM fixed income has displayed positive returns year-to-dateSources: Bloomberg, JP Morgan, and Wells Fargo Investment Institute, as of November 18, 2025. Emerging market local-currency bond returns are represented by the JP Morgan Government Bond Index, Emerging Markets (Global) Index (GBI-EM). U.S. dollar-denominated bond returns are represented by the JP Morgan Emerging Markets Bond Index Global (EMBIG). EM = Emerging Market. For illustrative purposes only. An index is unmanaged and not available for direct investment. Past performance is no guarantee of future results.  

Natural gas prices have surged

Natural gas prices have skyrocketed over the past month with prices increasing nearly 60% from October 16, 2025, to November 13, 2025. What happened and will the trend continue?

The recent cold weather has driven up heating and energy consumption, putting pressure on inventories and providing a strong tailwind for natural gas prices. Record U.S. liquified natural gas (LNG) exports driven in part by demand from Europe, which has shifted away from Russian natural gas in response to Russia’s war with Ukraine, have further tightened domestic supply amplifying upward price momentum.³

While exact timing and magnitude are unpredictable, price spikes during the winter season are common as consumption rises. Chart 4 illustrates natural gas consumption over the past 20 years. Although recent data is delayed due to the government shutdown, the trend remains clear: natural gas consumption is highly seasonal. Consumption increases as colder weather sets in and heaters are switched on, then declines in spring as temperatures warm — driving prices higher in winter and lower in spring. Despite this seasonality, overall consumption has grown, signaling a long-term upward trend as shown by the 12-month moving average. We expect this growth to continue, supported by rising power and demand from data centers — a key driver in the AI theme. This is part of the reason why we are favorable on the subsectors Midstream Energy and Integrated Oil of the S&P 500 Index.

Chart 4. Natural gas consumption has been rising over the past 20 yearsSources: Bloomberg and the Wells Fargo Investment Institute. Monthly data from December 31, 2005 to August 31,2025. 

³ As reported by Reuters referencing LSEG data.

Are you diversified?

We caution that strategies designed to mirror the S&P 500 Index is unlikely to deliver a broadly diversified portfolio, relatively insulated from the impact of sharp declines in a few individual stocks. While that assumption may have held true a decade ago, the rapid growth of passive investing has contributed to a notable shift, increasing concentration within the index, particularly among large technology-oriented companies.⁴ Today, the top ten constituents of the S&P 500 Index represent roughly 40% of its total value (see Chart 5), surpassing previous concentration records and raising questions about diversification. As this widely followed benchmark becomes increasingly top-heavy, investors may be surprised to learn their portfolios are far less diversified than they once believed.

One way qualified investors to address this concentration risk is by considering an allocation to private markets. Among companies generating annual revenues of $100 million or more, approximately 87% remain privately held (see Chart 5). In other words, most investors are likely focused on the public markets that represents merely 13% of this universe — and that 13% has grown increasingly concentrated over time. Similarly, of the $24 trillion U.S. commercial real estate market, approximately 94% resides in private hands. This landscape of potential opportunities beyond public markets warrants consideration for those seeking to mitigate risk and pursue long-term objectives.

While private markets introduce unique challenges — such as illiquidity and limited transparency — qualified investors who can allocate across both public and private markets may gain access to a broader set of opportunities. While reducing concentrated exposures should not be the only reason to consider an allocation to private markets, this approach can help reduce exposure to individual holdings and enhance portfolio diversification, ultimately supporting the pursuit of long-term financial goals.

Chart 5. Private markets diversification may help offset rising equity market concentrationSources: Capital IQ, The Federal Reserve, and Wells Fargo Investment Institute. Data as of September 2024. S&P 500 Index member weightings from Bloomberg as of November 11, 2025.

Alternative investments, such as hedge funds, private equity, private debt and private real estate funds are not appropriate for all investors and are only open to “accredited” or “qualified” investors within the meaning of U.S. securities laws.

⁴ Source: Passive investing and the Rise of Mega-Firms. October 10, 2025. Hao Jiang, Dimitri Vayanos, and Lu Zheng.

Cash Alternatives and Fixed Income

Equities

Real Assets

Alternative Investments**

Source: Wells Fargo Investment Institute, November 24, 2025.

*Tactical horizon is 6-18 months

**Alternative investments are not appropriate for all investors. They are speculative and involve a high degree of risk that is appropriate only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund and for which the fund does not represent a complete investment program. Please see end of report for important definitions and disclosures.

Each asset class has its own risk and return characteristics. The level of risk associated with a particular investment or asset class generally correlates with the level of return the investment or asset class might achieve. Stock markets, especially foreign markets, are volatile. Stock values may fluctuate in response to general economic and market conditions, the prospects of individual companies, and industry sectors. Foreign investing has additional risks including those associated with currency fluctuation, political and economic instability, and different accounting standards. These risks are heightened in emerging markets. Small- and mid-cap stocks are generally more volatile, subject to greater risks and are less liquid than large company stocks. Bonds are subject to market, interest rate, price, credit/default, liquidity, inflation and other risks. Prices tend to be inversely affected by changes in interest rates. High yield (junk) bonds have lower credit ratings and are subject to greater risk of default and greater principal risk. The commodities markets are considered speculative, carry substantial risks, and have experienced periods of extreme volatility. Investing in a volatile and uncertain commodities market may cause a portfolio to rapidly increase or decrease in value which may result in greater share price volatility. Real estate has special risks including the possible illiquidity of underlying properties, credit risk, interest rate fluctuations and the impact of varied economic conditions.

Alternative investments, such as hedge funds, private equity/private debt and private real estate funds, are speculative and involve a high degree of risk that is appropriate only for those investors who have the financial sophistication and expertise to evaluate the merits and risks of an investment in a fund and for which the fund does not represent a complete investment program. They entail significant risks that can include losses due to leveraging or other speculative investment practices, lack of liquidity, volatility of returns, restrictions on transferring interests in a fund, potential lack of diversification, absence and/or delay of information regarding valuations and pricing, complex tax structures and delays in tax reporting, less regulation and higher fees than mutual funds. Hedge fund, private equity, private debt and private real estate fund investing involves other material risks including capital loss and the loss of the entire amount invested. A fund's offering documents should be carefully reviewed prior to investing.

Hedge fund strategies, such as Equity Hedge, Event Driven, Macro and Relative Value, may expose investors to the risks associated with the use of short selling, leverage, derivatives and arbitrage methodologies. Short sales involve leverage and theoretically unlimited loss potential since the market price of securities sold short may continuously increase. The use of leverage in a portfolio varies by strategy. Leverage can significantly increase return potential but create greater risk of loss. Derivatives generally have implied leverage which can magnify volatility and may entail other risks such as market, interest rate, credit, counterparty and management risks. Arbitrage strategies expose a fund to the risk that the anticipated arbitrage opportunities will not develop as anticipated, resulting in potentially reduced returns or losses to the fund.

An index is unmanaged and not available for direct investment.

Moderate growth & income liquid: 2% Bloomberg U.S. Treasury Bills (1–3 Month) Index, 30% Bloomberg U.S. Aggregate Bond Index, 6% Bloomberg U.S. Corporate High Yield Bond Index, 5% J.P. Morgan EMBI Global, 30% S&P 500 Index, 10% Russell Midcap Index, 8% MSCI EAFE Index, 5% MSCI Emerging Markets Index, 4% Bloomberg Commodity Index.

Moderate growth & income illiquid: 2% Bloomberg U.S. Treasury Bills (1–3 Month) Index, 19% Bloomberg U.S. Aggregate Bond Index, 4% Bloomberg U.S. Corporate High Yield Bond Index, 4% J.P. Morgan EMBI Global, 20% S&P 500 Index, 8% Russell Midcap Index, 6% MSCI EAFE Index, 4% MSCI Emerging Markets Index, 6% NCREIF Property Index, 4% Bloomberg Commodity Index, 10% HFRI Fund Weighted Composite Index, 10% MSCI Private Equity Index, 3% MSCI Private Debt Index.

Bloomberg Multiverse Index provides a broad-based measure of the global fixed-income bond market. The index represents the union of the Global Aggregate Index and the Global High-Yield Index and captures investment grade and high yield securities in all eligible currencies.

Bloomberg U.S. Aggregate Bond Index is composed of the Bloomberg U.S. Government/Credit Index and the Bloomberg U.S. Mortgage-Backed Securities Index and includes Treasury issues, agency issues, corporate bond issues, and mortgage-backed securities.

Bloomberg U.S. Corporate High Yield Bond Index covers the U.S.-dollar-denominated, non-investment-grade, fixed-rate, taxable corporate bond market. Securities are classified as high yield if the middle rating of Moody’s, Fitch, and S&P is Ba1/BB+/BB= or below. Included issues must have at least one year until final maturity.

Bloomberg U.S. Treasury Bill (1–3 Month) Index is representative of money markets.

Bloomberg Commodity Index is a broadly diversified index of commodity futures on 20 physical commodities, subdivided into energy, U.S. agriculture, livestock, precious metals, and industrial metals sectors. Commodity weights are derived in a manner that attempts to fairly represent the importance of a diversified group of commodities to the world economy.

HFRI Fund Weighted Index is a fund-weighted (equal-weighted) index designed to measure the total returns (net of fees) of the approximately 2,000 hedge funds that comprise the index. Constituent funds must have either $50 million under management or a track record of greater than 12 months. Substrategies include: HFRI Event Driven, Distressed/Restructuring Index, and HFRI Event Driven (Total) Index.

IA SBBI U.S. Long-Term Corporate Bond Index measures the performance of long-term, investment-grade corporate bonds issued in the U.S. that have a maturity of 10 years or more. The index includes both U.S. and non-U.S. corporate issuers and is a market-value-weighted index.

IA SBBI U.S. Long-Term Government Bond Index is a custom index designed to measure the performance of long-term U.S. government bonds.

J.P. Morgan Emerging Market Bond Index (EMBI) Global is a U.S.-dollar-denominated, investible, market-cap-weighted index representing a broad universe of emerging market sovereign and quasi-sovereign debt. While products in the asset class have become more diverse, focusing on both local currency and corporate issuance, there is currently no widely accepted aggregate index reflecting the broader opportunity set available, although the asset class is evolving. By using the same index provider as the one used in the developed market bonds asset class, there is consistent categorization of countries among developed international bonds (ex. U.S.) and emerging market bonds.

MSCI All Country World Index (ACWI) is a free-float-adjusted market-capitalization-weighted index that is designed to measure the equity market performance of developed and emerging markets.

MSCI EAFE Index (Europe, Australasia, Far East) Index is a free-float-adjusted market-capitalization-weighted index designed to measure the equity market performance of developed markets, excluding the U.S. and Canada.

MSCI Emerging Markets Index is a free-float-adjusted market-capitalization-weighted index designed to measure equity market performance of emerging markets.

The MSCI Private Debt Index is a pooled quarterly time weighted rate of return series based on data compiled by MSCI from over 800 private debt funds (generalist, senior, mezzanine, and distressed debt), including fully liquidated partnerships, formed after 1986. The return series is net of fees, expenses, and carried interest. The benchmark is issued on a quarterly basis, approximately 80 calendar days after quarter end. Index returns do not represent fund performance.

The MSCI Private Equity Index is based on the pool of private equity funds sourced by MSCI and is asset weighted. The index is calculated using cash flow and valuation histories of the underlying funds within MSCI manager universe. The underlying funds are classified by MSCI private capital classification system and the cash flow data is sourced from institutional investors around the world.

The NCREIF Property Index is a quarterly time series composite total rate of return measure of investment performance of a very large pool of individual commercial real estate properties acquired in the private market for investment purposes only.

Russell Midcap Index measures the performance of the 800 smallest companies in the Russell 1000 Index, which represent approximately 25% of the total market capitalization of the Russell 1000 Index.

S&P 500 Index consists of 500 stocks chosen for market size, liquidity, and industry group representation. It is a market-value-weighted index with each stock’s weight in the index proportionate to its market value.

Global Investment Strategy (GIS) is a division of Wells Fargo Investment Institute, Inc. (WFII). WFII is a registered investment adviser and wholly owned subsidiary of Wells Fargo Bank, N.A., a bank affiliate of Wells Fargo & Company.

The information in this report was prepared by Global Investment Strategy. Opinions represent GIS’ opinion as of the date of this report and are for general information purposes only and are not intended to predict or guarantee the future performance of any individual security, market sector or the markets generally. GIS does not undertake to advise you of any change in its opinions or the information contained in this report. Wells Fargo & Company affiliates may issue reports or have opinions that are inconsistent with, and reach different conclusions from, this report.

The information contained herein constitutes general information and is not directed to, designed for, or individually tailored to, any particular investor or potential investor. This report is not intended to be a client-specific suitability or best interest analysis or recommendation, an offer to participate in any investment, or a recommendation to buy, hold or sell securities. Do not use this report as the sole basis for investment decisions. Do not select an asset class or investment product based on performance alone. Consider all relevant information, including your existing portfolio, investment objectives, risk tolerance, liquidity needs and investment time horizon. The material contained herein has been prepared from sources and data we believe to be reliable but we make no guarantee to its accuracy or completeness.

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