- Five-year trailing US equity bond correlation is now positive
- Volatility correlations could be a powerful signal to investors
Diversification is a core tenet of portfolio construction – different asset prices don’t move perfectly in step with one another, so keeping your eggs in more than one basket spreads risk. Furthermore, in line with the observation made in a seminal work by US economist Harry Markowitz in 1952, by holding a diversified portfolio investors can take less risk overall and still achieve their objectives.
Negative correlations between asset prices (i.e. some going up as others go down) are key to modern portfolio theory (MPT). Most important down the years has been the often inverse relationship between equity and bond prices, with the simple asset allocation of 60 per cent shares and 40 per cent bonds (60:40) therefore representing a compelling benchmark.