In its latest asset allocation report, Goldman Sachs raised both its equity and bond ratings simultaneously, marking a significant shift in its outlook for balanced portfolios.
According to a report, Goldman Sachs lifted its global equity rating to overweight on a 3-month horizon, in line with its 12-month view, citing that recent valuation pullbacks have improved the odds heading into the third-quarter earnings season. At the same time, Goldman Sachs upgraded its bond rating to overweight on a 12-month horizon, arguing that as inflation normalizes and central bank policy stances turn more accommodative, the medium-term allocation value of long-duration bonds is rising.
On credit, Goldman Sachs downgraded its 3-month rating to underweight, consistent with its 12-month stance, citing that current spread levels remain low relative to total yield, offering less attractive risk-reward than equities.
Goldman Sachs noted in the report that its macro baseline scenario remains optimistic: healthy economic growth, low recession risk, and inflation momentum expected to continue fading through 2027. This "Goldilocks" combination would provide a more favorable environment for balanced portfolios, and bonds are expected to gradually transform from a drag factor into an effective hedging tool.
Risk assets under pressure, with rates and energy prices as core disturbances
Since the summer, global risk assets have been broadly consolidating, with rising interest rates and energy price pressures increasingly eroding the tailwinds from earnings growth. Despite solid underlying earnings, global equities have moved sideways overall in a rising rate environment, with valuations notably compressed. The most stressed areas include rate-sensitive small-cap stocks, real estate, and infrastructure sectors. According to the Goldman Sachs report, the MSCI All-Country World Index's 12-month forward price-to-earnings ratio has fallen nearly 20% year-to-date, an unusually large de-rating in late cycle. Meanwhile, rising rates have begun spilling over into credit markets, with corporate credit spreads widening significantly and eurozone sovereign risk premiums also repricing.
Goldman Sachs' Risk Appetite Indicator (RAI) has plunged from previous highs to zero over the past two weeks, with its monetary policy component (RAI PC2) falling to one of its lowest levels since 2000 — the last time a similar reading was recorded was in 2022. Goldman Sachs noted that sharp declines in RAI PC2 have historically tended to improve the return odds for both stocks and bonds, as they often signal that rate pressure is approaching its limit and conditions are being created for subsequent relief.
Turning bullish on stocks again: earnings resilience supports, valuation pullback creates opportunities
Goldman Sachs re-upgraded its 3-month equity rating to overweight, with the core logic being that earnings growth remains solid while valuations have already pulled back substantially. Goldman Sachs' U.S. equity strategy team expects S&P 500 earnings growth of 18% in 2027 (excluding the base effect of "other income" related to equity revaluation), and anticipates that the third-quarter earnings season will deliver beats in both the U.S. and Europe. Goldman Sachs pointed out that if rates ease, combined with accelerated AI adoption driving substantive revenue and earnings improvement, there is room for equity valuation expansion. On regional allocation, Goldman Sachs maintained overweight on Asia and the U.S., underweight on Europe, and recommended a "barbell" strategy: one end allocated to AI-benefiting tech stocks, and the other end to select defensive stocks that are rate-sensitive with high dividends and low volatility characteristics, which are expected to benefit from future rate declines.
Goldman Sachs also flagged that the main near-term downside risks come from further increases in rates and energy prices, as well as uncertainty around the U.S. midterm elections that could push up equity volatility.
Medium to long-term shift to overweight bonds: from drag to hedge
While maintaining a neutral bond rating on a 3-month horizon, Goldman Sachs has upgraded its 12-month bond rating to overweight, viewing it as an important strategic shift in its asset allocation stance. Goldman Sachs believes that current yield levels already give long-duration bonds better asymmetry: potential gains from falling rates now exceed potential losses from further rate increases. The core logic supporting this view includes: improving inflation expectations, higher coupon income and reinvestment yields, and central bank policy stances turning more accommodative. Goldman Sachs economists expect the Federal Reserve, European Central Bank, and Bank of England each have only one more rate hike left, and are expected to begin cutting rates next year, while market pricing currently reflects expectations of more than three Fed hikes, at least two ECB hikes, and nearly four BOE hikes — a significant gap from Goldman Sachs' baseline scenario. This backdrop further reinforces the medium-term value of bond allocation. On regional selection, Goldman Sachs maintained overweight on 10-year government bonds of the U.S., U.K., and Germany, and underweight on Japan. Goldman Sachs noted that the widening of French OAT spreads has triggered relative safe-haven demand for U.S. Treasuries and German Bunds, providing additional support for those markets.
Underweight credit: insufficient spread hedging value
Goldman Sachs downgraded its 3-month credit rating to underweight, consistent with its 12-month stance, and explicitly stated a preference for equities over credit. The report noted that credit spreads have lagged equity performance in the recent risk-averse environment, extending their relative weakness year-to-date. Even after recent spread widening, credit spreads as a share of total yield remain at historically low levels — for the U.S. investment-grade corporate index, for example, credit spreads account for only 15% of total yield, compared with an average of about 45% in recent years. Goldman Sachs' credit strategy team maintained a preference for USD credit over EUR credit, favored high-yield bonds over leveraged loans, and remained underweight eurozone AT1s relative to high-yield bonds. Additionally, persistent bond supply pressure and corporate leverage trends pose additional headwinds.
"Goldilocks" macro scenario benefits balanced portfolios
Goldman Sachs believes that nominal growth momentum is approaching its peak, but the main driver is inflation normalization rather than a slowdown in real growth. This combination — healthy economic growth with inflation continuing to fade — closely aligns with the "Goldilocks" scenario, which historical experience shows is the best macro environment for 60/40 balanced portfolios. Goldman Sachs' dynamic asset allocation model shows that under its macro baseline scenario, the drawdown risk for a 60/40 portfolio over the next 12 months has fallen to the low end of the historical range, with the probability of right-tail risk (12-month gains exceeding 20%) close to the historical unconditional average. Goldman Sachs also noted that its model has not yet fully incorporated the earnings boost from the AI capital expenditure boom, and therefore may underestimate the upside potential for equities — similar to the situation in the late 1990s, when models similarly failed to capture the late-stage outperformance of tech stocks.
Tactical hedging: option protection remains attractive
Goldman Sachs recommends retaining a tactical cash position while overweight equities, and selectively increasing equity exposure through options tools. Currently, implied volatility across all asset classes is broadly low, with the VIX around 15, while rate volatility (the MOVE index) relative to equity volatility has risen to its highest level since 2024 — a divergence worth noting. In terms of specific hedging tools, Goldman Sachs recommends three strategies: first, VIX call option spreads, which can address scenarios where a macro shock triggers a sharp spike in correlations, with current maximum payout ratios at historically high levels; second, front-end receiver swaptions, which in a recession scenario can provide better returns than out-of-the-money S&P 500 puts, and the current sharp rise in short-end forward rates has also created more attractive entry points; third, for eurozone fiscal risks, EUR/USD and EUR/CHF put options provide directional hedges, though gains would require further contagion of sovereign stress.
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