Touchstone Asset Allocation Guidance

AI continues to dominate earnings, economic growth, and even inflation dynamics. While equity market participation has broadened on the surface, much of the underlying strength still traces back to the global AI investment cycle.

By Touchstone Asset Allocation Committee

Allocation Update

Executive Summary

If it weren’t for AI, we believe markets would be in a very different place today. What makes the current environment unusual is that market participation has broadened without a true broadening of the underlying growth engine. While several equity segments, including emerging markets, U.S. mid and small caps, and value-oriented stocks, have outperformed, much of that strength can still be traced back to AI-related exposure and second-order effects tied to the AI investment cycle.
Importantly, the fundamentals supporting the AI theme remain strong. Earnings growth among the major beneficiaries has been exceptional, with visibility into spending plans and revenue growth extending well into 2027. The associated investment wave continues to support economic activity globally through demand for semiconductors, power infrastructure, industrial equipment, commodities, and data center construction.
At the same time, AI-related investment has contributed to higher pricing across the supply chain, adding to elevated energy and food prices. Rates have moved higher in response. While we recognize rates could move modestly higher in the near term, we remain comfortable with our current positioning and believe that current yields appear attractive with a 12-month time horizon.

Download Asset Allocation Guidance

Fixed Income

Weight: Neutral
We maintain a neutral stance as bonds continue to serve a critical strategic role as portfolio ballast and a source of stable income.

Duration
Weight: Slight Overweight
We maintained a slight overweight duration stance. Within a diversified fixed income portfolio, this represents a move closer to the duration of the Bloomberg U.S. Aggregate Bond Index.

U.S. Taxable Investment Grade
Weight: Moderate Overweight
We are tactically overweight corporate and securitized credit, drawn by higher yields and lower economic sensitivity, which offer appealing risk adjusted return prospects relative to recent history.

U.S. Taxable Non-Investment Grade
Weight: Moderate Underweight
We remain underweight high-yield bonds. Credit spreads remain near historic lows, while yield sits only modestly above the historical median. This suggests little cushion should inflation rates rise or economic growth falter.

Equities

Weight: Neutral
We maintain a neutral allocation, reflecting a balance between risk and opportunity. We shifted to a domestic bias after incorporating a longer time frame for the conflict in Iran as we see U.S. equities as less exposed, though AI remains the most important driver.

U.S. Large Cap Blend
Weight: Neutral
Strong earnings and AI spending have supported stocks and assuaged fears of higher energy prices. 1Q earnings season has been one to celebrate, and estimates are rising.

Growth
Weight: Neutral
We removed our underweight to Growth in March after valuations improved. AI remains a key earnings driver, though, risks persist given potential delays in data center construction and AI’s potential to disrupt industries.

Value
Weight: Neutral
Value equities face a more challenging backdrop if growth slows further, and prior sector-specific support in Healthcare and Financials have
weakened. Energy sector exposure has provided a partial offset along with a number of AI related stocks (e.g. semiconductors).

U.S. Mid Cap
Weight: Slight Overweight
We hold a slight overweight, supported by more attractive valuations and potential earnings growth. Within mid caps, we prefer high-quality companies with strong cash generation.

U.S. Small Cap
Weight: Neutral
We have a neutral weight. Small caps enjoyed a strong ceasefire rally, though first-quarter earnings are coming in more mixed with weakness seen in the consumer sectors.

International Developed
Weight: Neutral
Developed international equities are more exposed to the current energy shock, creating near term risks to growth and margins. However, these headwinds are balanced by more attractive valuations and supportive policy dynamics, including increased defense spending. We maintain a neutral allocation.

International Emerging
Weight: Slight Underweight
We maintained a slight underweight. With roughly 80% of the index concentrated in Asia, emerging markets are particularly exposed to energy disruptions and higher input costs. Even with a resolution, normalization may take time, supporting a more cautious near-term stance.

Strategic: Strategic asset allocation is a baseline allocation between asset classes established with a longer term focus and congruent with an investor’s investment goals and objectives. The allocation is meant to optimize the asset mix through methodical diversification in an attempt to maximize return and lessen risk.

Tactical: Tactical asset allocation is differentiated from strategic asset allocation by having a much shorter time horizon and the goal of adding alpha beyond what would be allowed through static strategic weights. Markets tend to be more volatile over shorter time horizons, while longer time frames tend to smooth out that volatility. That enhanced volatility in the short term creates the opportunity for either return enhancement and/or risk reduction by adding to or reducing weights of different asset classes.

About the Author

Touchstone Asset Allocation Committee

The Touchstone Asset Allocation Committee (TAAC) consisting of Richard “Crit” Thomas, CFA, CAIA – Global Market Strategist, Erik M. Aarts, CIMA - Vice President and Senior Fixed Income Strategist, and Tim Paulin, CFA – Senior Vice President, Investment Research and Product Management, develops in-depth asset allocation guidance using established and evolving methodologies, inputs and analysis and communicates its methods, findings and guidance to stakeholders. TAAC uses different approaches in its development of Strategic Allocation and Tactical Allocation that are designed to add value for financial professionals and their clients. TAAC meets regularly to assess market conditions and conducts deep dive analyses on specific asset classes which is delivered via the Asset Allocation Summary document. Please contact your Touchstone representative or call 800-638-8194 for more information.