The third quarter rewarded investors with strong gains across most asset classes, continuing a run of historically strong performance since April’s tariff panic. Our friends at 3Fourteen Research pointed out that both the S&P 500 and Gold have gained more than +25% over the past six months, a rare condition that has existed less than 2% of the time over the past 50 years.
Fortunately, SMI investors have significant exposure to both stocks and gold in their portfolios. Many SMI members likely hit new all-time highs during the quarter, as the two main strategy components — DAA and Stock Upgrading — both set new highs. While Sector Rotation is still fighting back from March/April’s losses, SR was actually the strongest performer of the three during Q3, gaining +10.1%.
Even bonds have earned solid returns lately. As our current article Bulls and Bears, Cyclical and Secular explains, it’s reasonable to conclude that bonds may be in the midst of a longer-term secular bear market, with the Bloomberg U.S. Bond Aggregate Index showing a negative total return over the past five years. However, on a shorter-term cyclical basis, bond returns have been quite solid this year as slowing economic growth and expectations regarding a new interest-rate-cutting cycle have pushed yields lower.
It’s unusual for stocks, bonds, and gold to all contribute gains to a portfolio at the same time, but we’ll take the “Goldilocks” conditions for as long as they last!
Just-the-Basics (JtB) & Stock Upgrading
The nature of the market’s rally has shifted as 2025 has unfolded. Early in the year, foreign stocks were the big winners. More recently, foreign strength has faded while investors have strongly favored more speculative growth stocks. Small-company stocks had a great third quarter, gaining +12.4%, even more than the S&P 500’s impressive gain of +8.1%.
SMI’s Just-the-Basics indexing strategy was up exactly in line with the S&P 500 Index during the third quarter, with both gaining +8.1%. Stock Upgrading lagged that a bit at +5.5%.
Upgrading’s commodities position lagged the stock market during the quarter, but was still up a healthy +6.2%. The primary reason for Upgrading’s lagging return was FCTE, its primary large-company exposure, which was roughly flat for the quarter.
Part of this was investors’ preference for growth among large-company stocks, evidenced by Upgrading’s new “index switching” holding IWF (large-company/growth index), which gained +10.4% during the quarter. That was nearly double that of IWD, the large/value index, up +5.3%. That said, it was disappointing to see FCTE lag by that large a margin. Upgrading decreased FCTE’s allocation at the end of August and is doing so again this month.
Bond Upgrading
As noted earlier, bonds have benefited from falling interest rates in 2025. In September, the Federal Reserve cut rates for the first time in a year, with investors expecting additional cuts to follow. The Bloomberg U.S. Aggregate Bond Index gained +2.0% during the third quarter. This was better than Bond Upgrading’s gain of +1.4%, as we had pivoted some time ago to BulletShares with half of the portfolio in an effort to avoid interest rate risk, which has largely trended against bond investors in recent years (the secular bond market theme mentioned earlier). That has been a good decision, as evidenced by the fact that Bond Upgrading led the index +4.2% to +2.9% over the prior 12 months, despite lagging this quarter.
Our biggest decision regarding bonds has been to allocate less to them overall than many investors. The benefit of this was on display during the third quarter as bonds lagged gold, stocks, and most everything else we owned. Of course, markets change and bonds still have a place. We’re content to set our Bond Upgrading holdings on the conservative side and adjust them more actively within the RAA ETF that makes up half of our DAA portfolio (see below).
Dynamic Asset Allocation (DAA)
DAA continued its impressive 2025 performance with a third-quarter gain of +8.4%. It finished the quarter with a year-to-date gain of +20.3%, well ahead of stocks and miles ahead of its typical 60% stock/40% bond benchmark.
Gold’s incredible 2025 performance has been a huge part of DAA’s success. At the end of September, DAA’s gold holding had gained +16.8% during the quarter, was up +47.0% year-to-date, and +87.6% since being recommended at the end of February 2024.
Of course, owning large allocations of both U.S. and foreign stocks also helps during a raging bull market. As noted earlier, the S&P 500 Index gained +8.1%. And, while foreign stocks weren’t great during the quarter, their gain of +5.3% was quite a bit better than any of the categories DAA steered us away from (see table).
DAA diversified its holdings in March of this year, allocating half the portfolio to the new SMI 3Fourteen REAL Asset Allocation ETF (RAA). This ETF diversifies broadly across 20 different stock, bond, and alternative holdings, repositioning monthly to take advantage of changing market trends. RAA followed its second quarter gain of +6.8% with a third quarter gain of +6.4%, which beat its 60% stock/40% bond benchmark.
Sector Rotation (SR)
SR did exactly what we would have hoped during a continuing bull market for stocks, gaining an impressive +10.1% for the quarter. Defense stocks have cooled a bit relative to some of the other “hot” sectors recently, but we continued to own the position throughout the quarter.
While SR continues to be high-risk, high-return, we’re encouraged by the significant new research we’ve plowed into this strategy over the past year, which has confirmed that our process is sound and the market-beating returns of the past should be possible again in the future.
50/40/10 (with 60/40 stock-bond Upgrading)
This portfolio refers to the specific blend of SMI strategies — 50% DAA, 40% Upgrading, 10% Sector Rotation — that SMI has often discussed as a general guideline, or starting point, for member strategy allocations. Last year, we started reporting this portfolio using a 60/40 split between Stock and Bond Upgrading within the 40% Upgrading allocation. This is a reasonable reflection of how most SMI investors utilize such a “whole portfolio” blend and is an example of the type of diversified portfolio we encourage SMI readers to consider.
(Note: Blending strategies add complexity. Some members may prefer the automated approach offered by SMI Private Client.)
This version of a 50/40/10 portfolio gained +6.8% during the third quarter, which compared favorably with the +5.8% a well-diversified 60/40 JtB portfolio would have earned, or the +3.8% of a 60/40 Upgrading portfolio. DAA and SR’s strong Q3 returns clearly pulled the performance of this portfolio higher.
Conclusion
It’s always great to hit new all-time highs in member accounts, which has likely continued on into October as both stocks and gold continued to soar to new heights.
That said, the third quarter was also a reminder of why SMI often stresses the wisdom of evaluating your portfolio as a whole, rather than overly scrutinizing the individual components. If your portfolio is truly diversified, there will always be some positions lagging (FCTE) while others are (hopefully) doing great (gold!).
As an old SMI cover article once said, “diversification means always having to say you’re sorry,” but you should do it anyway! The point of diversification is knowing that as the market environment changes, so too will the leaders and laggards within a portfolio.
