What is a Reverse Convertible Correlation
Stocks and Bonds - The Perfect Couple?
Rather, it has been at a historically low level for almost ten years. Over the past 140 years it has averaged around 0.2. This is shown by our graphic, which is based on a representation of the US investment company GMO. A correlation value of zero would mean that stock and bond yields develop more or less independently of one another, -1 a perfectly opposing development. The slightly positive average value shows that on average there is a slightly positive correlation, so that a mix of stocks and bonds achieves long-term diversification effects. Only: These are not as reliable as many might think. Only in very short periods of time was the correlation actually 0.2. Most of the time she was far from it. At times, the two asset classes were practically in sync, especially at the beginning of the 1940s.
What conclusion should investors draw from the findings? You cannot rely on the combination of stocks and bonds to ensure that risk diversification works reliably at every stage. In times when the two asset classes are more closely correlated, bonds cushion fluctuations in the stock market less or not at all. This increases volatility in a portfolio of stocks and bonds. Anyone who assumes, for example, that a financial investment made up half of shares and half of bonds is automatically a balanced investment, is assuming a false sense of security.
In order to keep risks under control, an investor would also have to keep an eye on the correlations between the performance of different asset classes and adjust his portfolio accordingly. That requires discipline, time and know-how - or the right partner. At Scalable Capital, dynamic risk management monitors, in addition to many other parameters, correlations between the asset classes. If the algorithm detects that changes in the correlations threaten a sustainable shift in risk in the portfolio, it reallocates: Depending on the overall situation, it increases the quota of low-risk investments or diversifies more broadly, for example by increasing the shares in real estate and raw materials. All of this happens without the investor having to worry about it.
Image: Simon, pixabay.com
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