To the friends and clients of ProfitScore- 

For twenty years, the 60/40 ran on autopilot. Stocks fell, bonds rose, the losses got cushioned. Everybody slept fine.

Then came 2022.

The S&P dropped 18.1%. The Bond Agg dropped 13.0%, its worst year on record. The 60/40 fell about 17%, its worst showing since 1937.

Both sides down. At the same time. The airbag did not deploy.

Here is what almost nobody said out loud afterward. 2022 was not a freak accident. It was a regime.

The Part Everyone Forgot

The negative stock-bond correlation that a whole generation of investors treats as a law of nature is not a law of anything. Go back to 1926 and stocks and bonds have moved together more often than not. The negative stretches are the exceptions. The early 1930s. The late 1950s into the mid 1960s. 1998 to 2003.

Three windows. That is the whole list.

We got spoiled. From the financial crisis through 2021 the correlation averaged about negative 0.37. The last three years it has averaged positive 0.41.  Still some diversification.  Not a hedge.

Read that swing again. Negative 0.37 to positive 0.41. That is not noise. That is the floor moving.

What Actually Drives It

One word. Inflation.

When inflation is low and quiet, a weak economy means rate cuts. Bonds rally. They catch stocks on the way down. That is the world that built the 60/40.

Flip the regime, and the logic inverts. When inflation runs hot and the gap between target and reality stays wide, the market expects rates to stay high. Bad news for the economy stops being good news for bonds. Now they fall together.

The hedge does not just weaken. It reverses.

Where We Sit Right Now

Inflation is sticky. The Fed is patient. The oil shock out of the Strait of Hormuz earlier this year knocked the 10-year out of its range, and it has settled back into 4% to 4.5% with the risks pointed up.

Hot inflation. A nervous bond market.  Risk premium is gone (see last month’s letter).

This is the regime the 60/40 was never built for.

If you read my February piece on correlation breakdown, this is the same story with the receipts now in hand.

“But Yields Are Higher Now”

True. And it does not save you.

Higher yields are great for income. Again, they are not a hedge. A bond paying you 4.5% while it falls in price next to your equities is not protecting anything. It is just bleeding more slowly.
Owning more bonds is not risk diversification when stocks and bonds answer to the same boss.

And right now the boss is inflation.

The Question Worth Sitting With

Real diversification is not two things that are supposed to move opposite each other. It is something whose return does not care whether they do.

So ask the honest one. If your safety net depends on bonds zigging while stocks zag, what is the plan for the years they do neither?

The 60/40 is not broken. It is regime-dependent, and it always was. The mistake is not owning it. The mistake is betting a retirement on the idea that the last good regime is the only one coming.

Stocks and bonds were never a marriage. They were a good run. The good run is over for now.