Portfolio Implications of a Positive Stock-Bond Correlation World
PGIM IAS group provides a comprehensive look at the historical drivers of stock-bond correlation and implications for CIOs to consider.
- The U.S. yield curve attracts a great deal of attention when it is close to inverting given its historical connection with U.S. recessions as well as sharp selloffs in equity and credit markets.
- When assessing recession risks and the direction of asset prices, these patterns tend to be more extreme in high-inflation environments as the Fed tightens policy more aggressively in an effort to achieve price stability. Considering the elevated level of U.S. inflation and its uncertain path, it is critical not to analyze the curve in isolation, but within the context of the Fed’s policy stance.
- Our four key findings about the U.S. yield curve at the current juncture include the following: the potential time to a recession, the effect of lingering inflation on asset performance, what the relationship between the real policy rate and the real “neutral” rate implies about monetary conditions, and when policy may become restrictive.
- While not exactly an all-clear signal for risk assets, our analysis offers a roadmap for navigating market risks associated with Fed policy. Until policy meets that restrictive point, these findings support our generally cautious market outlook, which reflects splintered global growth, central banks’ varied phases of tackling inflation, the uncertainty of war, and the risk of relying on market beta for returns.
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