by David Stonehouse, AGF Management Ltd.
A number of asset classes, industry sectors and investment structures have historically helped investors play defense in periods of extreme market volatility, but investors shouldnât forget the long end of the government bond curve, a very effective safe haven when stocks turn ugly.
In fact, long-term U.S. Treasuries have provided positive returns in all but three instances where equity corrections of greater than 10% have occurred since 1996, including the current pullback induced by fears of the coronavirus spreading and becoming a more severe economic headwind.
This combination of a strong inverse correlation to equities coupled with a solid return profile during times of duress has made long government bonds an ideal complement to stocks in a well-diversified portfolio.
Stock Market Corrections vs. Long Bond Performance
Source: Bloomberg LP., as of March 6, 2020
Government bonds with shorter maturities have also performed well during these periods, but not to the same extent as the 30-year version, which is far more sensitive to changes in interest rates and has returned more than 20% year-to-date, according to Bloomberg data.
For instance, a drop of 50 basis points in yields would result in roughly an 8% gain for 30-year Treasuries, as opposed to a 4% gain for 10-year issues, and a 1% gain for two-year issues.
This isnât to say that investors should load up aggressively on long bonds when stocks correct and yields fall like they have in recent weeks. After all, the math works just the same in reverse when share prices eventually rebound from a fall and/or yields start to climb again.
But it does demonstrate the importance of ensuring government bonds with longer maturities are given a strategic allocation alongside other defensive options such as gold, real estate, staples, utilities, the U.S. dollar, or even cash in a broadly diversified portfolio. While these options have their merits, none has delivered as consistent and strong a return profile during adverse market conditions as long bonds.
At the same time, itâs equally important in todayâs low-yield environment to pair exposure to government bonds with higher-yielding bonds such as high-yield and investment grade credit, as well as emerging market debt and convertible debentures.
In doing so, investors will be better positioned to weather the kind of market volatility weâre experiencing today while taking advantage of the opportunities that are bound to arise from it over time.
David Stonehouse, Senior Vice-President and Head of North American and Specialty Investments, AGF Investments Inc.
The commentaries contained herein are provided as a general source of information based on information available as of March 6, 2020 and should not be considered as investment advice or an offer or solicitations to buy and/or sell securities. Every effort has been made to ensure accuracy in these commentaries at the time of publication, however, accuracy cannot be guaranteed. Investors are expected to obtain professional investment advice.
The views expressed in this blog are those of the author and do not necessarily represent the opinions of AGF, its subsidiaries or any of its affiliated companies, funds or investment strategies.
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This post was first published at the AGF Perspectives Blog.
