NEW YORK (MarketWatch) — The correlations between asset classes and U.S. stocks fell dramatically in December, a bullish signal for near-term equity market performance, according to Nicholas Colas, chief market strategist at ConvergEx.
Lower correlations between asset classes cuts risk for investors, analyst says
“The weirdest thing about the stock market’s rally was that gold was so highly correlated,” said Colas, who adds that typically there is zero correlation between stocks and the precious metal.
“In business school, one of the first things you learn is gold is the hallmark asset class that is not supposed to move with stocks,” the analyst said.
Bulls and Bears
Both a bullish and bearish case can be made for that atypical scenario, Colas noted.
One could argue that the global economic recovery has sparked demand for assets at large. “The bear side is it’s just the Fed pumping in liquidity, which was then spread around like peanut butter,” Colas said.
Just how much different asset classes move in concert with or diverge from domestic stocks is a critical driver of how much capital investors can dedicate to different risk assets.
“The lower the correlation, the easier it is to reduce risk,” said Colas, who likens it to a don’t-put-all-your-eggs-in-one-basket theory of investing.
“When correlations rise, the effect is one basket, even if the assets you own are seemingly different. When correlations fall, the different baskets work as they should, shielding a diversified portfolio from excess volatility.”
On Thursday, stocks meandered between gains and losses for a third day ahead of Friday’s much-anticipated employment report, while gold futures were off more than 0.2%. See details of gold’s first fall in five sessions.