While there appears to be general agreement among market participants that markets have cycles, there is often disagreement on whether these are long-term cycles which are primarily useful for strategic investment decisions, or short-term cycles which are conducive to market timing, or tactical moves. First Quadrant research supports both views, but our published research has tended to emphasize the former rather than the latter (Stable vs. Unstable Markets: A Tale of Two States, FQ Perspective December 2014). Our position has been that risk is more predictable long term than short term, a view supported by the financial literature. But we also recognize that there are near-term opportunities that are not “noise” and should not be ignored for either return or risk reasons.
Diversification has been hailed as “the only free lunch” in investing. That is, by placing your bets on many assets with low correlations you can not only reduce the volatility of your portfolio, but also reduce the risk of significant losses. But from January to August 2019, stock and bond markets have both produced strongly positive returns. This has raised concern among many fund sponsors and investors. If all of my assets are up at the same time, has diversification lost its power? Does this mean that when the market corrects, they will all go down at the same time? At the extreme, some market pundits are asking, “Is diversification dead?”
It is no secret that yields today are nowhere near the levels they occupied prior to the last financial crisis, and we do not yet know how negative central banks are willing to go to combat a recession. As we all acclimate to the possibility of a sustained period of negative yields, it is natural to question whether there is still money to be made in bonds. In this piece, we will briefly explain why our answer is a resounding “Yes!” and why we continue to see attractive return potential in bond markets.