The positive correlation between stocks and bonds has broken a 20-year trend of low-maintenance diversification. We argue this is not a cyclical anomaly, but rather the start of a new regime predicated on shifts in the macroeconomic and geopolitical environment. A secular shift in stock-bond correlation would represent a seismic disruption for traditional 60/40 portfolios, increasing volatility and uncertainty. We quantify the potential impacts and offer up potential paths to combating this new risk.
Key takeaways
- The correlation between stocks and bonds has been strongly positive over the past three years, abruptly ending a two-decade run of negative correlation.
- History suggests this relationship tends to move in long cycles which are driven by prevailing macroeconomic trends around inflation, government debt, and supply-side dynamics.
- A shift to positive correlation would make achieving investor goals more challenging by forcing a choice between higher risk and lower expected return. Fortunately, alternatives offer a potential ability to recapture some of that lost diversification.
