Why alts matter in the current regime

Despite the recovery in broad risk over the past few months, the underlying issue remains the same. The decades-long integration of global trade — with the United States at the hub — has been permanently disrupted. And unless we see a complete reversal from the Trump administration, the current regime of higher trade barriers is likely here to stay. 

What’s more, we also appear to be in the early stages of something more nefarious — a capital war. As congressional members pass the ​“One, Big, Beautifull Bill Act”, a provision like Section 899, even if excluded, should send a reminder to non-U.S. investors that foreign investment is becoming less welcome than it has been in the past.

A more balkanized trade and capital flow environment will likely lead to two things globally: higher price pressures and higher capital costs. The former is easy enough to conceptualize as firms will have to re-orient supply chains to source more inputs domestically — even if such measures are more costly. The latter would occur as capital providers demand a higher premium to lend to places that enact such measures. One of the foremost drivers of productivity is the availability of capital and U.S. policymakers are sorely mistaken if they think it is the other way around.

But there is also another side effect to higher price pressures and capital costs that portfolio managers need to be attuned to. Indeed, such regimes usually result in a greater degree of positive correlation between traditional assets (namely, stocks and bonds – see Chart 1). Of course, that is every portfolio manager’s nightmare — which then begs the question as to where one can find a good diversifier?

Chart 1 – Higher CPI usually means positive correlation between stocks and bonds

Enter alternatives and non-traditional hybrids. As an example, the inclusion of Gold within a portfolio can mitigate the overall volatility. And while one could make the case that the yellow metal is overbought at this point, the underlying demand from central banks, investors, and end-users remains strong. At the very least, this tells us that we’re likely to remain in a holding pattern for the next while.

Another example are funds that track infrastructure. Besides the benefits of diversification for a portfolio, these funds are set up to perform in the coming years for a few reasons. One, the opportunities in the space are set to increase as countries turn to infrastructure spending as an offset to trade-related drags on economic growth. Just think of the countries that have already actioned major legislation aimed at boosting such spending (Germany and the UK) as well as others that are on their way (Canada).

Second, the increase in global infrastructure spending will mean a need for private sector funding. Given the attractive intrinsic properties of infrastructure investment, namely the stable, long duration revenue streams that benefit from inelastic demand, we expect such funding to be readily available.

In addition to Gold and infrastructure, we continue to like alpha strategies given the opportunities provided. We expect active management to outperform passive in the coming quarter given the potential landmines in the investment space.

All told, our own sense is that as fixed income loses its allure as a reliable ballast for portfolios (at least in the near-term), the appeal of alternative assets and strategies should continue to increase. As such, our readers will note that we have increased our allocation to alternatives/​hybrids to the upper end of the allocation range for that sleeve (20%).

For the traditional sleeves, we’re shifting to a more neutral stance for equities and remaining underweight fixed income. For the former, we see risks as more balanced than they have been in a few quarters. We’re also prioritizing regional diversification and low volatility as a factor for the coming quarter. For the latter, we remain circumspect given that it feels like the Bank of Canada (BoC) is close to the end of its easing cycle, while the Federal Reserve (Fed) is likely to re-start rate cuts towards the end of Q3.

Balanced Portfolio for Q3 2025

Changes to Portfolio Strategy^*

As of June 30, 2025. Model portfolio for illustrative purposes only. The information contained herein is not, and should not be construed as, investment, tax or legal advice to any party. These are not recommendations to buy or sell any particular security. Particular investments and/​or trading strategies should be evaluated relative to the individual’s investment objectives and professional advice should be obtained with respect to any circumstance.

Asset Allocation:

• In contrast to the more defensive approach we took in the past two quarters, we’re adopting a more neutral stance from here. This reflects our view that the Trump administration is now actively trimming the extremes of its own trade policy, and that the Fed is likely to re-start its easing cycle in the coming period.
• At the same time, the macro backdrop remains precarious. The pause on ​‘Liberation Day’ tariffs ends in July, and so far, the U.S. has only managed to negotiate token trade deals with a few countries. The conflict in the Middle East is ongoing, and while it’s unlikely that energy infrastructure in the region will be targeted, it’s still a risk to monitor.
• Additionally, the ​“One, Big, Beautiful Bill” has moved through the legislative process in the U.S. We’ve mentioned in our prior work that we don’t envisage this Bill adding much new stimulus to the U.S. economy.
• Within the equity sleeve, we are prioritizing regional diversification. Indeed, we feel that the rotation from an overweight position in U.S. assets and into other regions remains a structural theme. Also, the precarious backdrop suggests that quality and low-volatility strategies should outperform relative to others.
• We are underweight fixed income. Put simply, most central banks are close to the end of their easing cycles in the developed world while coupon issuance is expected to increase across most countries. That implies a softer supply/​demand backdrop.
• As mentioned in the lead article, we are overweight alternatives and non-traditional hybrids.

Things to keep an eye on…

a.) We’re expecting the BoC to ease 1-2 more times for this cycle. That largely pays tribute to the aggressive degree of easing already seen for this cycle, but also feels more appropriate considering that there is a fair bit of fiscal stimulus coming in the quarters ahead. We won’t have a sense of just how much until the government releases the fiscal budget this fall. Nevertheless, additional coupon issuance as the BoC enters into an extended pause portends a softer supply/​demand backdrop for CAD rates. As such, we’re electing to trim our core positions in ZDB (the BMO Discount Bond Index ETF) as well as ZBI (the BMO Canadian Bank Income Index ETF). For the latter, we remain concerned that higher CAD yields will be felt in the credit space as the economic backdrop hits a soft patch for Q2/Q3 this year.

b.) Conversely, we feel that rate cuts in the U.S. should be coming into sharper relief in the months ahead. That is not least because there are early signs of pressure developing in the U.S. labour market, and as the Core PCE reading for April indicated, price pressures have decelerated to their lowest year-over-year growth in four years. Despite the unknowns that the current tariff policy and the evolving situation in the Middle East bring, the fact is that the real policy rate (Fed funds minus headline CPI) has shifted from 137 basis points (bps) in February to just over 200 bps now. That is the sort of ​‘passive tightening’ that the Fed should remain guarded against. At the same time, we feel that nominal front-end yields look to have peaked at this point. As such, we have swapped out of our tactical long in ZTIP/F (BMO Short-Term US TIPS Index ETF) to ZTS (BMO Short-Term US Treasury Bond Index ETF).

c.) We are continuing to prioritize regional diversification in the equity sleeve of our portfolio. At the same time, we see quality (in the U.S.) and low volatility (outside of the U.S.) as factors that are likely to outperform. That is our way of acknowledging the still precarious position that global markets continue to find themselves in. As such, we’re adding to our core positions in ZUQ (BMO MSCI USA High Quality Index ETF) and ZLB (BMO Low Volatility Canadian Equity ETF). Additionally, we’re swapping out of our core position in ZDI (BMO International Dividend ETF) for ZLI (BMO Low Volatility International Equity ETF). In keeping with our view on regional diversification, we are adding a tactical position in ZEM (BMO MSCI Emerging Markets Index ETF). Indeed, we feel that EM is currently under-owned relative to their fundamentals.

d.) The focus for Canadian government fiscal policy is centred around defense, infrastructure and home building. So far, the Carney government has already announced that it will be getting defense spending up to the 2% NATO target in the current fiscal year. The added benefit of doing this is that there is a large overlap between defense and infrastructure spending typically. Given this, Canadian industrials should be well placed to perform in the months ahead. We have established a fresh long position for ZIN (BMO Equal Weight Industrials Index ETF).

e.) A more precarious backdrop for broad risk implies that volatility should remain elevated. As such, we expect active strategies to outperform passive in both the U.S. and Canadian markets. In addition to our existing position in ZLSU (BMO Long Short US Equity ETF), we’re adding ZLSC (BMO Long Short Canadian Equity ETF). Additionally, we’re switching out of ZGLD (BMO Gold Bullion ETF) for ZWGD (BMO Covered Call Spread Gold Bullion ETF). That jives with our call that Gold prices should consolidate in the near-term.

Fund Performance (%)

Source: Bloomberg, as of June 30, 2025.
Past Performance is not indicative of future results. 

Portfolio Holdings

Source: BMO Global Asset Management. Model portfolio for illustrative purposes only. As of June 30, 2025.

Portfolio Characteristics

Fixed Income breakdown

Source: BMO Global Asset Management. Model portfolio for illustrative purposes only. As of June 30, 2025.

BMO ETFs Guided Portfolio: Quarterly Fixed Income Strategy (Q3 2025) >

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