Inigo Fraser Jenkins has some hard truths for investors. The days of a "no-brainer" way to diversify stock portfolios with a helping of 10- year U.S. bonds is over, and the alternatives aren't as great.

The result will be lower real returns with higher risk, says Inigo Fraser Jenkins, chief investment strategist at AllianceBernstein. He expects higher levels of inflation and more frequent supply shocks like the ones playing out in the Middle East.

Barron's spoke with Fraser Jenkins this week to find out what counts as diversification these days, why he still favors U.S. stocks and the case for healthcare stocks, even after their recent gains.

An edited and condensed version of our discussion follows.

What is your outlook for the market and AI? We are alive to the scale of inflows and valuations but happy to be in the market. If it's a bubble, it's an interesting kind because everyone is self-consciously asking if it's a bubble. It's hard to point to something right now that pulls the rug from under it.

The combo of high valuations, the huge shift up in earnings expectations and the inflows and concentration certainly raise the riskiness. Strategically, I have a positive equity view, not particularly bullish but it's the best option versus others. Then you build a series of things that are diversifiers around that.

With so much tied to AI, what assets provide diversification? There's a big question mark over the long-duration nominal bonds. Over the last 30 years, bonds and stocks were negatively correlated but over the prior 200 years that wasn't the case.

Plus, issuances globally in long-duration nominal bonds are increasing. Who are the natural buyers? In the past, it was global pension systems, but there's a progression from defined benefit to defined-contribution plans, which tend to buy real assets.

Government debt to GDP is already at post-World War 2 ranges, which implies more question marks over who should buy the asset. For short-term drawdown protection and matching cash flows, they have a role to play but at the margin are less effective.

How are you thinking about inflation? There has been a multidecade period where we had huge forces that kept inflation in check. Those have run their course or come to fruition -- with deglobalization, the path out of high debt levels [creating a] temptation to monetize debt and climate change. It's highly unlikely we see Net Zero so likely we see temperatures increase one or two degrees and therefore we don't know what happens, but one likely outcome is more inflation volatility. All these point to higher equilibrium level of inflation.

What is an alternative to 10-Year Bonds in this backdrop? I don't think anything replaces the no-brainer position of long-duration, nominal bonds. For decades, they provided a really liquid asset class that apparently had low volatility, negative correlations to equities and positive real returns. There's nothing else that has similar liquidity.

What are the next best options? Base metals and energy have an important diversifying role as the enormous capital spending and energy required for AI smashes into the realization the U.S. is no longer willing to play its policing role. As a result, we should expect supply chain shocks, like we are seeing in the Middle East and next time may be in lithium and cobalt. Add to that more extreme weather events, which creates bigger supply/demand shocks and the need to think about inflation volatility much more seriously.

Private assets -- infrastructure and private credit -- have a diversifying role, but we have to be super careful. Diversification is from the ability to buy return streams you can't get in the public market. They are less attractive than in past. For new money into private equity, I'm less positive. Treasury inflation-protected securities are another but I'm worried there hasn't yet been an updating in the views on inflation.

And then there are long-short and factor-oriented strategies.

But none of these are as liquid or high income or attractive as 10-Year bonds had been. People should expect a lower return and higher level of risk in the past: 3.5% to 4% real versus 5% to 6%. If inflation is in the range of high 2% to low 3%, then equities can act as a real asset. If inflation ends up higher, then it's a different story.

What role does an aging population play in your outlook? Over the last 40 years, an increase in the size of the labor pool because of demographics plus globalization acted as a big source of disinflation. That has run its course.

Ultimately, the GDP growth rate is a combination of productivity -- which has a big question mark now because of AI -- plus the increase in the size of the workforce. On a relative basis, leaving Africa and India to the side, the U.S. is the best major economy with its pool of workers likely to remain flattish over the next 20 years, whereas in Europe it's shrinking at a half percent per annum and in China down 1% per annum.

What should investors own with the aging society? Healthcare benefits from demographics from growth rates but also if we are worried about inflation protection there's more pricing power from the demographic exposure. Plus, it is probably an AI beneficiary on the care side and drug development side. And near-term there's valuation. Even with the pickup, it has further to go.

Thanks, Inigo.