Statistical and Graphical Example

Example 3: Return and risk characteristics for selected asset classes for U.S. expansions and recession, 1972 –1993

 

The table below shows how risk and return for nine different asset classes react to U.S. economic expansions and recessions over the 1972 – 1993 period in the U.S. A full period comparison is also provided. The National Bureau of Economic Research is used to determine expansions and recessions. This is an after-the-fact calculation as asset markets anticipate economic up-and-down turns prior to their official announcement by the NBER.

You see that stock assets outperform bond assets during expansions whereas the reverse is true over recessions. The chief reason bond classes outperform equities during downturns is due to the fact that downturns are accompanied by lower interest rates. This causes bonds to experience capital appreciation which adds to their return. 

We also see recession returns becoming more risky for all asset classes during recessions. This would suggest that diversification is more important during downturns vis-á-vis upturns. Foreign stocks show a negative return during U.S. recessions suggesting they are a good candidate for improving diversification effects of an all U.S. stock portfolio. A noteworthy feature of precious metals is the very high risk associated with this commodity class, particularly during recessions.

 

Source:  Brocato and Steed. Optimal Asset Allocation over the Business Cycle. The Financial Review, August 1998.

 

 

 

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