By Charles Lynn Bolin

Perhaps you may be amused by the similarities of this article, where I search through hundreds of alternative funds to slay the dragons of inflation and market corrections and the delusions of Don Quixote de la Mancha, who set out on misadventures for chivalry. I am not ready to denounce alternatives as foolish fiction, as Don Quixote denounced chivalry before dying.

For this article, I created the Grins and Giggles Portfolio with the objective to minimize the correlation between the funds for the past six years. I follow this up with the Last Laugh Portfolio that achieves 8.3% APR with a maximum drawdown of -6.3 for the past ten years. I constrained this portfolio with four alternative funds. The value of the one-million-dollar Last Laugh Portfolio never drops below its original value, even with a four percent withdrawal rate; however, purchasing power temporarily dropped by 8% as a result of high inflation. Don Quixote and I have our windmills to fight.

2026 Investment Outlook

The consensus is for slow economic growth. CBO’s Current View of the Economy From 2026 to 2028, by the Congressional Budget Office, estimates that real gross domestic product (adjusted for inflation) will fall from 2.2% in 2026 to 1.8% in 2027 and 2028. Core inflation is estimated to fall gradually from 2.8% in 2026 to 2.2% by 2028. The Federal Funds rate is estimated to fall to 3.4% in 2026 and remain there through 2028, while the 10-Treasury hovers around 4.3%. Unemployment remains elevated at around 4.4%.

The World Bank just released Global Economic Prospects, which estimates that real GDP growth for the world will be 2.7% next year. They estimate that real GDP in the US will be 2.2% in 2026 and fall to 1.9% in 2027.

In Investor Lessons From 2025 For 2026, Lance Roberts from RIA Advisors describes elevated valuations for stocks and that “expectations for profit margins are near historic highs.” He points out that earnings are sensitive to economic growth:

Furthermore, given the overall sensitivity of earnings to economic growth, any slowdown in economic activity or employment in 2026 could become more problematic. With valuations and confidence elevated, investors should consider rebalancing portfolio risk to hedge against potential disappointment.

Financial Innovations

In the previously cited article, Lance Robert describes the risks of retail investors misusing financial innovations in the options market, only to lose most of their savings. In Retail Leverage Goes to Extremes, he states:

“Wall Street is happy to produce products to meet investor demand, with the speculative risk soaring it is not surprising to see more speculative products surge in quantity. However, with that demand, is also the risk. These products in particular use options, which work great as long as the market is rising. However, these products can, and will, go to “zero” during a market decline. Most retail investors piling into these securities do not fully comprehend the risk they are taking.”

The 1929 stock market crash was exacerbated by inexperienced investors buying stocks using the financial innovation of margin debt, which was encouraged by a few leaders in the financial industry. Today, there is again a high level of margin debt along with high national debt, and more financial innovations.

Many financial innovations are beneficial, like Traditional IRAs, Roth IRAs, mutual funds, exchange-traded funds, and online access. Other financial innovations are very risky for unsuspecting investors. There are approximately seventeen hundred funds classified as alternative, leveraged, trading, or using options. The average age of these funds is only seven years, implying there are a lot of untested funds on the market and/or high survivorship bias. Only fifty-one (3%) of these funds meet my loose criteria of a MFO Risk Rating of Very Conservative to Moderate, MFO Rating of “Average” or better for risk-adjusted performance, at least $100M in assets under management, ten years of performance history, expense ratio 2% or lower, and lifetime APR of 4% or more.  

Figure #1 shows the funds by age along with the average MFO composite Risk Rating. Recent funds are rated to be more conservative than older ones that survived the financial crisis. Don Quixote and I have had to ground our imagination in reality.

Figure #1: Alternative, Leveraged, and Trading Funds by Age

My conclusion is that these funds, high national debt, deregulation, less independence of the Federal Reserve, and the rise of shadow currencies (crypto) increase financial risk. Even if you don’t own any of these financial innovations, they increase the risk of financial contagion.

The Grins and Giggle Portfolio

I came up with the idea to create a portfolio that minimizes the correlation between the funds with the objective of achieving at least 8% returns with a low drawdown. I didn’t know if I could create a large correlation matrix for one hundred funds that had the potential to be part of the portfolio, and so I took it on as a technical challenge for grins and giggles. This process seeks funds that zig when others zag. The funds are split fairly evenly among Alternative, Bond, Mixed Asset, and Equity categories, along with gold and one general commodity fund.

I used Excel Solver to minimize the correlation of the funds given constraints of a minimum annualized return of 8%, and drawdowns of less than -8% in both the COVID Bear Market (2020) and Great Normalization Bear Market (2022). Table #1 contains the Grins and Giggle Portfolio. Three of the funds (PVCMX, PCBAX, and IAU) are already in my Core TIRA portfolio. The funds are sorted by composite MFO Rating to reflect long-term risk.

Table #1: Grins and Giggles Portfolio – Six Years

Table #2 shows how the funds performed in several different environments, along with the correlation to stocks and bonds. I am more concerned about a recession-induced bear market with high equity valuations than I am rising rates, because rates are already high.

Table #2: View of Grins and Giggles Portfolio During Unique Periods – Life of Fund

Understanding Alternative and Riskier Income Funds

I look for alternative funds like BlackRock Tactical Opportunities (PCBAX) that increase somewhat steadily over time with high risk-adjusted returns. I own shares of PCBAX. I am becoming more comfortable with alternative funds like AQR Diversified Arbitrage (ADANX) with modest returns over time that act more as insurance during stressed markets.

Figure #2 shows how funds that produce income performed in many environments. Cohen & Steers Low Duration Preferred and Income (LPXAX) and Allspring Short-Term High Income (SSTHX) have the least volatile profiles, along with T Rowe Price Floating Rate (PRFRX), which does well when rates are rising. Alternative funds Federated Hermes MDT Market Neutral (QAMNX) and AQR Diversified Arbitrage (ADANX) have low correlation with each other.

Figure #2: Alternative and Riskier Income Fund Performance – 10 Years

How much of the past ten years will rhyme with the next ten years? Domestic stocks are likely to underperform because of high starting valuations. Fixed income is likely to perform well over the next five years because of high starting yields, but high global debt levels pose new risks. There may be an effort to push rates lower to finance the national debt in order to reduce debt burdens. Geopolitical risk appears to be higher for the coming ten years. As described in Our Dollar, Your Problem (2025) by Kenneth Rogoff, we may experience “a sustained period of global financial volatility marked by higher average real interest rates and inflation and more frequent bouts of debt and financial crises.”

The Last Laugh Portfolio

He who laughs last laughs best! I used Portfolio Visualizer to minimize the volatility for a target APR of 8% for the past ten years using the uncorrelated funds identified for this article. The link to Portfolio Visualizer is provided here. The assumptions are that there are quarterly withdrawals of 1%. The results are shown in Table #3.

Table #3: Last Laugh Portfolio Compared to Fidelity Asset Manager 40%

Figure #3 shows the results. Without the large contribution of iShares Gold Trust (IAU), the Last Laugh Portfolio would have returned 7.4% annualized instead of 8.3%.

Figure #3: Last Laugh Portfolios Growth of Investment with Fidelity Asset Manager 40%

Table #4 contains the Last Laugh Portfolio for the past ten years. The funds are sorted by composite MFO Rating to reflect long-term risk.

Table #4: Last Laugh Portfolio

Lessons Learned from the Sequence of Return Risk Light

This article is about reducing the sequence of return risk using the relatively short period from the COVID bear market through the Great Normalization of rising rates with high inflation. It is a window into how funds might have performed in a more severe stagflation period like the 1970s. Figure #4 shows the best-performing funds from the Grins & Giggles and Last Laugh Portfolios, along with Eaton Vance Parametric Commodity Strategy (EAPCX) and PIMCO Inflation Response Multi-Asset (PZRMX). Commodity funds do well during inflation but poorly during recessions. PZRMX declined by only -10% during the COVID bear market.

Figure #4: Fund Performance During COVID to The Great Normalization

AQR Diversified Arbitrage (ADANX) and Campbell Systematic Macro (EBSAX) have returned just over 4% for the past twelve years, but only about one percent for the first six years.

As a result of writing this article, I have identified the following funds as potential buy candidates for my conservative Core TIRA sub-portfolio during my mid-year review. Income will be a consideration. In the companion article this month, Perpetual Motion Income Machine, I narrow the list of alternative funds down to AQR Diversified Arbitrage (ADANX) because of its performance during the Great Normalization.

Table #5: Author’s Core TIRA Candidate List

Closing

So, what have I learned on this exhausting quest for an elusive portfolio to guard against the sequence of return risk with minimally correlated funds? This tired traveler presents a Last Laugh portfolio as a possible candidate.  But I must emphasize that the financial landscape with the Great Normalization may have been a unique period with a dramatic rise in gold prices that may not be seen again.

As with most travel, the adventure is the trip itself and not just the destination. At the end of my journey, I return home to find the important truths of investing have been there all the time. Regardless of whether this time might have been different, the reliable approach for securing financial success is still built on the bedrock of: 

1. Work with financial advisors to develop a lifetime budget and financial plan.
2. Maintain an emergency fund.
3. Commit to regular saving.
4. Build a margin of safety into your financial plan.
5. Assume that the current bull market is not going to last forever.
6. Adjust discretionary spending down during bear markets and increase it when markets are high.
7. Maintain diversified portfolios appropriate for your risk tolerance to avoid panicking and “selling low, buying high”.

Remember to balance daily life with long long-term savings. Life is precious – take time to enjoy it!

A special thanks goes to my long-time friend Dave H. in Spokane, Washington, for his many suggestions over the years. He has been a source of great ideas since I began writing financial articles a decade ago.