Enhancing the 60/40 Portfolio: The Value of Commodity Futures

Abstract

We modify the 60/40 portfolio to include commodity futures, utilizing 146 years of monthlydata from 1877, seeking to improve the traditional 60/40 portfolio in the long run. Employing a full-scale optimization in a strategic asset allocation framework, we allocate 23.5% to commodity futures, contributing to 28.5% of the total portfolio variance, with the remainder allocated to the 60/40 portfolio. The portfolio shows strong in-sample outperformance compared to the 60/40 portfolio, relying on excess returns during high inflation and positive unexpected inflation. The portfolio is optimized to be more resilient, resulting in improvements in both risk-adjusted return and the conditional correlation profile relative to a mean-variance optimal portfolio (including 48% commodity futures, with a variance contribution of 71.1%). We study the conditional correlations between stocks and bonds, the 60/40 portfolio and commodity futures, specifically during inflationary regimes and in terms of downside and upside correlations. Our findings suggest that including commodity futures enhances the 60/40 portfolio. Our extensive 146-year analysis is unprecedented in similar studies, and to our knowledge, we are the first to investigate downside and upside correlations between commodity futures and a stock-bond portfolio.