Under normal market conditions, stock correlations are generally positive. Or we have a recession where bonds are rising and stocks fall or a recovery where stocks rise and bonds fall. However, in the recession after 2008, the traditional incentive that forces rebalancing the portfolio is far from sufficient. Additional liquidity-injecting measures have created conditions in which stocks and bonds perform well. And no one complained because there was no reason. We were seduced by the correlations.
That was good as it went on, but the obvious problems will arise when we face the end of the incentives and reversal of the QE regime. The inertia of this loosening will drive markets out of profits on stocks and bonds to a fall in both assets. This is the "fatal attraction" of correlations, a scenario for which there is no adequate response from monetary policy.
Source: Bloomberg Finance L.P.
Chart: Used with permission from Bloomberg Finance L.P.
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