The traditional 60/40 portfolio has long served as the default architecture of balanced investing. But Ken Miller, CFA, Portfolio Manager, Jeff Schwarte, CFA, Chief Equity Strategist, and Patrick Hennessy, CMT, Senior Risk Manager at Simplify Asset Management argue that the framework is structurally compromised and that hedged equity using put spread collars presents a more durable alternative for both long and short investment horizons.
The Thesis: Bonds Are No Longer Doing Their Job
The logic of 60/40 depends entirely on a reliable negative correlation between equities and fixed income. When stocks fall, bonds rise, providing the ballast that smooths the ride for investors. The problem is that this relationship has broken down in a meaningful way. Miller, Schwarte, and Hennessy argue that since late 2021, poor bond performance has prompted investor questions about "whether there could be a better implementation, for both long and short-term horizons." The answer they offer is hedged equity.
The mechanism is straightforward. A put spread collar involves buying downside protection through a put while funding that cost by selling an upside call, resulting in a costless collar at initiation. This structure, the team notes, "capitalizes on extended periods of positive stock and bond correlation, especially when both decline in value."
Three Cases, One Conclusion
The paper advances three distinct scenarios under which hedged equity outperforms the traditional blended portfolio.
The first is structural: a secular rise in yields. Decades of quantitative easing by global central banks suppressed yields and kept spreads artificially tight, creating a tailwind for bonds inside 60/40 portfolios. The post-pandemic inflationary shock exposed the fragility of that arrangement. As the team observes, "the most recent cycle's deviations from the typical relationship left bond investors smarting from sharply higher interest rates and wider spreads." The historical data are instructive: over the 10-year lookback period shown in Table 1, the hedged equity portfolio delivered a CAGR/Volatility ratio of 1.13 with maximum drawdown of only -10.5%, outperforming every blended equity/bond combination, including the S&P 500 Index itself on a risk-adjusted basis.
The second case is cyclical. With investment grade corporate spreads at what the team describes as "a historically tight +51bp level," the risk asymmetry for fixed income is unfavorable. Wider corporate and MBS spreads would significantly reduce returns in an aggregate bond portfolio. Table 2 illustrates the magnitude of this effect across a range of spread and equity market scenarios, reinforcing the relative resilience of hedged equity across most conditions, particularly in equity market declines combined with spread widening.
The third case is technical. The concentration of mega-cap stocks at the index level, combined with strong investor demand for market upside and stock replacement trades, has made index calls relatively expensive compared to puts. As the team explains, "the relative cheapness of puts to calls in the 1-3 month maturity makes costless collars an effective defensive alternative for a correction in stocks." When quarterly VIX increases exceed 8 points, hedged equity has consistently beaten the 60/40 blend.
Hedged Equity vs. Buffer ETFs: Related but Distinct
The appendix draws a useful contrast between hedged equity ETFs and buffer ETFs. Both offer downside protection and capped upside, but the structures differ materially. Buffer ETFs define protection and cap levels with precision, resetting annually, and appeal to more conservative investors seeking certainty. Hedged equity ETFs trade that specificity for flexibility, offering variable protection with potentially more upside, though with greater complexity. The paper's closing observation is appropriately balanced: "both options can serve as valuable tools for managing risk in a portfolio, depending on your investment goals and risk tolerance."
5 Key Takeaways for Advisors and Investors
- The negative stock-bond correlation that validates 60/40 is not a law of markets. It is a regime-dependent phenomenon that can persist in an unfavorable direction for extended periods.
- Hedged equity using put spread collars has historically delivered superior risk-adjusted returns compared to every standard equity/bond blend over the 10-year period examined, with lower volatility and a smaller maximum drawdown.
- The current options market microstructure, where calls are relatively rich compared to puts, makes the implementation of costless collars particularly attractive at this moment.
- Widening credit spreads from historically tight levels represent a specific near-term risk to traditional 60/40 allocations that hedged equity is structurally positioned to absorb.
- VIX regime matters. When quarterly VIX increases exceed 8 points, hedged equity has consistently outperformed the 60/40 blend, making it a particularly relevant allocation in periods of elevated or rising volatility.
As Miller, Schwarte, and Hennessy conclude, whether an investor's horizon is long-term, medium, or short-term, "those with a view that yields or spreads will rise or widen should consider an implementation which is liquid and reduces the burden of determining what percentage of bonds to hold in a diversified portfolio." That is a pointed argument, and the data behind it is harder to dismiss than most.
Footnote:
Miller, Ken, Jeff Schwarte, and Patrick Hennessy. "A Better 60/40? The Case for Collars." Simplify Asset Management, 2024. https://www.simplify.us/sites/default/files/blog/2024-12/Simplify-Blog-A-Better-60-40.pdf
