Even as it hits alpha, correlation might itself turn into an asset class, research firm says

In what is sure to please alternative investment providers, a study released Thursday by CRISIL Global Research & Analytics, based in Mumbai, India, shows that there has been an “accentuated” correlation among traditional asset classes over the past five years when compared with any period before 2008.
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CRISIL (Photo credit: Wikipedia) |
“Our survey shows a structural uptrend in correlation with low possibility of returning to historical levels, supported by globalization and financialization of assets,” V. Srinivasan, senior director of CRISIL GR&A, said in a statement. “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.”
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1. Strong correlation, 2. Weak correlation, 3. No correlation between variables x and y. (Photo credit: Wikipedia) |
It notes 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, it explains, 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.
English: A chart showing the correlation between MSCI World Index of equities ( yellow line ) and the US Dollar Index ( green line ). (Photo credit: Wikipedia) |
“We see this becoming a trend,” Suresh Krishnamurthy, director of CRISIL GR&A, added. “As newer, noncorrelated 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 signs are already visible, as seen in the CRISIL GR&A survey, which was conducted with global fund managers spread across Americas (60%), Europe (33%) and Asia (7%).
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