- The first three charts compare STOXX equity indices with HY corporate BB credit spreads (inverted, 5Yr point of Qontigo Cluster Curves).
- Correlations over the longer HISTORICAL period have been steadily increasing in the three main regions (correlations use monthly overlapping returns with 5Yr lookback, 6m moving average)
- Increase in HY issuance as well as higher liquidity through ETFs leading to increased access to markets may help explain why the correlation has increased substantially.
- The recent Covid crisis pushed correlations to an all-time historical high over the last 12 years in all three markets: diversification can be elusive when you need it most.
- Enhancing Fixed Income strategies by taking more credit exposure comes at the price of lower diversification to Equities. This is known (see e.g. “Active Fixed Income Illusions” AQR 2019).
- We observe that this challenge has become more acute over the years.
- The last three charts analyze correlations YEAR-TO-DATE (correlations here use daily returns with 3m lookback, 1w moving average).
- From the peak of the crisis mid March until the end of August equities and HY credit were strongly correlated, contributing to the all-time high.
- Since September we can see a degree of diversification returning. This was also visible in the fact that credit markets did not follow the recent dip and subsequent recovery of equities.
- Credit spreads are plotted on an inverted scale, so that a rise in the series implies lower yield premia and improving borrowing conditions.