I spend a lot of time talking about asset allocation on the blog. I’ve presented quant systems that focus on price-based tactical asset allocation, cross-market momentum strategies, and mean reversion strategies (just to name a few). Some older posts are:
I was originally going to put this out as a white paper, but seeing that I have about 5 of those on the back burner (and this seems to be a pretty well-known property), I thought a simple blog post would do.
Below we examine the effects of the yield curve on our group of asset classes.
(Data sources: Global Financial Data)
US Stocks – S&P 500
Foreign Stocks – MSCI EAFE
Bonds – 30 Year US Govt
Commodities – GSCI
REITs – NAREIT
Buy and Hold is an equally-weighted, monthly rebalanced allocation to the above 6 asset classes.
First, we examine how the 10 year US Govt Bond – 90 Day Tbill rate affects the return of various asset classes. We selected three modes, but by no means are these optimized or optimal. The table below presents the percentage of time spent in each mode, as well as the annualized returns for the annualized returns for the asset classes.
One could devise a simple timing system based on these properties.
When the yield curve is <0%, long commodities and gold.
When the yield curve is 0 – 2%, long US and foreign stocks.
When the yield curve is >2%, long bonds and REITs.
This simple system would have beaten buy and hold by over 4% a year over the time period with more volatility (mostly upside) and a similar drawdown. Equity curve below: