April 18th, 2012, 8:57 am
Most developed markets (EUR, GBP, USD) currently exhibit a remarkably high positive level of realised correlation between interest rates (e.g., 10-year high-quality government bonds) and equity markets. Two economic justifications could explain this fact1. Following the mid-1990s anchoring of inflationary expectations, allocation decisions (e.g., relative value, cross-market hedging demand, etc.) drove investor flows: should you buy stocks or bonds? (beforehand, inflation was driving investor flows, i.e., should you invest for the long term (stocks + bonds) or hold cash?)2. The recent crisis and repricing of deflation risk accelerated this trend Before mid-1990 ---> very negative correlationAfter mid-1990 ---> positive to very positve correlationOn average zero...but as many things in life, the expected value is not to be expected...