Study says rising correlation among asset classes a long-term phenomenon
10 June 2013
News, Global, India, USA
By Asia Asset Management
A study conducted by CRISIL Global Research & Analytics (GR&A), the world’s largest and top-ranked provider of high-end research and analytics services, shows there has been an accentuated correlation among traditional asset classes over the past five years compared to any period before the year 2008. This increase in correlation has also been accompanied by lower returns, thus giving cause for concern to global fund managers. Around 88% of respondents to the survey indicated that correlation is now among the top five investment risk factors, and 65% believe that correlation is causing a material negative impact on the availability of alpha-generating opportunities.
V. Srinivasan, senior director at CRISIL GR&A notes: “Our survey shows a structural uptrend in correlation with low possibility of returning to historical levels, supported by globalisation and financialisation of assets. This will have two implications for financial research. First, research will get further streamlined; second, we will see more investments in high-end research to capture alpha.”
According to CRISIL GR&A’s analysis of 33 assets and 528 pairs of correlation over the period 1998-2012, the proportion of asset classes with correlation levels in excess of 0.3 has risen from 31% to 58% between 1998-02 and 2008-12. This increase in correlation has been particularly pronounced during the last five years.
There has been a material increase in correlation across all dimensions, a corresponding drop in opportunities for securing benchmark-beating returns and a reduction in the level of outperformance. At a more granular level, this increase is more pronounced within equities, leading to a reduction in the extent of outperformance. The equity correlation across various pairs has increased from 0.6 during 1998-2002 to a relatively steep 0.86 during 2008-2012.
This has prompted investors to pursue non-correlated assets. However, even those assets which have been historically low on correlation are now seeing a rise in correlation with their returns converging. For instance, returns from multi-asset funds, which tend to invest in alternative asset classes, have converged with the MSCI World Index, an equity index.
Suresh Krishnamurthy, director, CRISIL GR&A, says: “We see this becoming a trend. As newer, non-correlated assets emerge, we see them eventually getting correlated and offering lower alpha potential over time. This calls for a healthy pipeline of new-age alternative assets to emerge.
Even as correlation has emerged as a key risk factor, CRISIL GR&A believes it will soon develop into an investable asset class of its own, similar to the way in which volatility has transformed from a risk factor to an asset class. The survey was conducted among global fund managers spread across the Americas (60%), Europe (33%), and Asia (7%).
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