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Given the economic uncertainty, you shouldn鈥檛 try to gear your investments to just one outcome. Instead, the best approach is generally to find the appropriate balance in your portfolio between stocks, bonds and possibly other assets.

The underlying concept is that different assets have different strengths and weaknesses in different situations, so finding the right mix can help ensure you鈥檙e not too badly impacted no matter what happens.

Three scenarios to consider听

The relatively benign 鈥渟oft landing鈥� is the outcome that central bankers and economists are rooting for. It combines gradual interest rate declines with听modest but positive growth and success at subduing inflation. Recent economic data in Canada tends to show we鈥檙e reasonably on track for achieving this result, although staying on track is far from assured.

One potential threat is resurgent inflation. The good news is inflation has been diminishing in recent months. But Trump鈥檚 election has reignited concerns, given his election promises of immigration curbs, tariff increases and tax cuts funded by massive deficits at a time when the U.S. economy is already running strong.

There are also risks of the Canadian economy veering off track in the other direction, into mild recession. Canadian unemployment has been fairly high and growth has been hard to come by, so the economy is still vulnerable.

Meanwhile, the Trump election adds to the uncertainty, with different policies potentially cutting different ways. Trump’s U.S. tax cuts and other stimulus measures might provide a spillover boost to the Canadian economy, whereas potential tariffs on Canadian goods would have the opposite impact, and inflationary side effects are likely. It鈥檚 difficult to assess how these policies will be implemented and their overall net impact.

With such divergent economic hopes and fears, it鈥檚 important to understand that no one can forecast precisely what鈥檚 going to happen to the economy and markets with any reasonable degree of reliability.

Each of these scenarios has a significant possibility of being realized. So don鈥檛 try to pick investments based on one outcome.

Relying on a balanced portfolio of stocks, bonds and possibly other assets won鈥檛 necessarily ensure your investments earn strong returns or avoid losses in the year ahead. But it should at least help smooth out potential adverse impacts from individual scenarios so that your portfolio doesn鈥檛 do too badly overall.

Consider the probabilities

For setting the scene for investment decisions, I like the approach used by investment firm Fiera Capital to estimate probabilities to go with each of the major scenarios.

In a recent assessment, Fiera estimates these probabilities as follows (using similar categories to the ones I used):听soft landing 50 per cent; inflation revival 30 per cent; and shallow recession 20 per cent. While there is room for argument on specific probability figures, that order of magnitude is in line with what many economists would estimate.

鈥淭he idea of using scenarios and judgmental probabilities hinges on the fact that economists in general are not 100 per cent certain about any one outcome,鈥� says Candice Bangsund, Fiera Capital鈥檚 vice-president and portfolio manager, global asset allocation. 鈥淚t鈥檚 really an exercise in risk management.鈥� The firm serves institutional investors and high net worth individual investors.

Understanding how different assets are likely to perform under different scenarios provides a test for your desired asset mix.

In Fiera鈥檚 case, they are known for adding private assets to the classic balanced portfolio based on stocks and bonds. These private assets include private debt, private equity and income-generating private real assets such as real estate and infrastructure.

To come up with a particular asset allocation for each client, a common approach used by Fiera and many investment firms is to start with the client鈥檚 鈥渟trategic鈥� asset allocation. That is based on the client鈥檚 individual investment objectives, risk tolerance, liquidity needs, time horizon and other individual financial circumstances.

While individual asset allocations vary widely, 60 per cent equity and 40 per cent fixed income is a classic strategic asset mix used by many average investors with long time horizons and moderate risk tolerance.

Some investors believe in sticking with their strategic asset allocation, while Fiera and others often make short-term 鈥渢actical鈥� adjustments to the strategic asset mix in response to current economic and market conditions.

The strength of a balanced portfolio relies on the fact that different asset classes tend to have offsetting strengths and weaknesses.听

Soft landing

The soft-landing scenario with modest growth and gradually declining interest rates tends to create mildly favourable conditions for both stocks and bonds.听

The soft landing helps create steady corporate profits leading to decent 鈥� but not necessarily gangbuster 鈥� stock returns. However, there has already been a strong run-up in stock prices this year, so valuations have become elevated. 鈥淭he soft-landing scenario, we would argue, has already been priced into the market,鈥� says Bangsund. That limits how well stocks can be expected to perform from here.

Bond prices move opposite to bond yields and that relationship is magnified for longer-term bonds. Bond prices have benefitted this year as interest rates have declined. The Bank of Canada is likely to drive further cuts in short-term rates, but the extent of declines in longer-term rates is determined by many factors in the bond market and is more uncertain.听

Resurgent inflation

The resurgent inflation scenario has potential to hurt both stocks and bonds. In large part, that鈥檚 because resurgent inflation would almost certainly lead to central banks reversing course and aggressively tightening monetary policy again, resulting in a return to higher interest rates and a dampening of economic activity.

But stock markets are often ambivalent about inflation when it is viewed from a broad perspective 鈥� particularly when the inflation threat isn鈥檛 imminent.听

U.S. equity markets posted huge gains Wednesday in eager reaction to the Trump election victory. Markets were excited by Trump鈥檚 stimulative promises of tax cuts and deregulation. At the same time, they were willing to overlook the likelihood of massive budget deficits and inflationary impacts down the road. Stock markets are happy to party enthusiastically now and deal with the hangover later when it happens.

Inflation is more unambiguously bad for bonds. It undercuts the real purchasing power of bond yields. And it leads to rising interest rates which hurts bond prices. Concerns about the inflationary impact of Trump鈥檚 policies have contributed to rising long-term U.S. bond yields. Yields on 10-year U.S. Treasury Notes reached over 4.4 per cent just after the election, which is up from about 3.7 per cent two months ago.

Mild recession

Under the mild recession scenario, interest rates can be expected to decline further than in the soft-landing scenario.

In a recession, stocks would likely suffer alongside diminished corporate profits. In contrast, this is the environment where investment-grade bonds can be expected to shine, providing a powerful offset to expected stock market declines. Relatively steep interest rate declines should result in strong gains in bond prices.

Alternative assets

Fiera is among a growing number of investment firms that use private assets alongside conventional stocks and bonds. This includes private equity as an alternative to stocks for achieving capital appreciation.

For income generation, Fiera sees private debt and income-producing private real assets as an attractive substitute for bonds. Fiera’s private debt investments are largely short-term and backed by assets. Bangsund says Fiera expects听these income-generating private investments to perform reasonably well under all three scenarios, whereas they think that bonds at current prices don鈥檛 provide as much value unless we end up in a recession.