Module I·Article III·~2 min read
Asset Correlation
Portfolio Thinking and Governance Framework
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Asset Correlation
Correlation: How Assets Work Together
Correlation ($\rho$, rho) is a statistical measure that shows the degree to which two assets move together. This is a key parameter for building a diversified portfolio. Values range from -1 to +1.
Interpretation of Correlation Values
| Value of $\rho$ | Interpretation | Example |
|---|---|---|
| +1.0 | Perfect positive. Assets always move together | S&P 500 and S&P 500 ETF (SPY) |
| +0.7 to +0.9 | Strong positive. Usually move together | US Equities and European Equities |
| +0.3 to +0.7 | Moderate positive | Stocks and High Yield bonds |
| 0 to +0.3 | Weak or absent. Good for diversification | US Stocks and Gold (long-term) |
| -0.3 to 0 | Weak negative | Stocks and Treasuries (historically) |
| -0.7 to -0.3 | Moderate negative | Rarely occurs in practice |
| -1.0 | Perfect negative. Ideal hedge | Theoretical—it does not exist |
Correlation Matrix of Major Asset Classes
| US Eq | EM Eq | IG Bonds | HY | Gold | Crypto | |
|---|---|---|---|---|---|---|
| US Equities | 1.00 | 0.75 | -0.10 | 0.65 | 0.05 | 0.40 |
| EM Equities | 0.75 | 1.00 | 0.00 | 0.55 | 0.15 | 0.35 |
| IG Bonds | -0.10 | 0.00 | 1.00 | 0.35 | 0.25 | -0.05 |
| High Yield | 0.65 | 0.55 | 0.35 | 1.00 | 0.10 | 0.30 |
| Gold | 0.05 | 0.15 | 0.25 | 0.10 | 1.00 | 0.20 |
| Crypto (BTC) | 0.40 | 0.35 | -0.05 | 0.30 | 0.20 | 1.00 |
*Approximate values; depend on the observation period
Critically Important: Instability of Correlations Correlations change over time! Especially during crises—when diversification is needed most, correlations rise.
| Period | Stocks-Bonds $\rho$ | Stocks-Gold $\rho$ |
|---|---|---|
| 2000-2020 (average) | -0.20 | +0.05 |
| March 2020 (COVID) | +0.50 | +0.30 |
| 2022 (inflation) | +0.60 | +0.20 |
In 2022, stocks and bonds fell together—a rare event that destroyed the logic of the 60/40 portfolio.
Correlation in Different Market Regimes
- Risk-On: All risky assets rise together (high positive correlation)
- Risk-Off: All risky assets fall, "safe haven" assets rise
- Inflationary shock: Stocks and bonds fall together
- Deflationary shock: Bonds rise, stocks fall (classic negative correlation)
Practical Conclusions for CIO
- Do not rely on historical correlations—stress-test the portfolio with increased correlations
- Seek “true” diversifiers—assets with low correlation IN CRISES, not just on average
- Dynamic evaluation—recalculate correlations at least quarterly
- Rolling correlations—look at 60-day or 6-month rolling correlations
Best Diversifiers by Historical Data
- Gold—historically low correlation with stocks, especially in stress periods
- Managed Futures (CTA)—can be negatively correlated in crises
- Long Volatility strategies—rise when everything falls
- Some Real Assets—farmland, infrastructure
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