Why You Should Look Beyond Treasuries for Portfolio Ballast



Looking forward, these sorts of abrupt swings in financial markets are likely to continue, amid sluggish economic growth, rising interest rates, high valuations and geopolitical uncertainties.

It’s not surprising, then, that many investors are questioning where to find safety in the markets, beyond just staying in cash. In an earlier post, “Where to Ride Out the Volatility,” I covered three investing strategies to consider today for the equity side of portfolios, opting for defensive sectors not included. But it’s possible to ballast a portfolio using fixed income as well, and not just through Treasuries.

Look Beyond Treasuries to Add Ballast

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Market Realist – Look beyond Treasuries to add ballast to your portfolio.

The graph above shows the annualized GDP growth rate in the United States on a quarter-over-quarter (or QoQ) basis. The US economy expanded by an annualized 0.7% QoQ in 4Q15, lower than its 2% expansion in the previous quarter. The economy has been slowing down over the last two quarters after growing at a robust 3.9% in 2Q15.

The stronger dollar (UUP) and weak global demand have dragged on exports, which are a component of the GDP. Personal consumption—which accounts for ~68% of the US economy—rose 2.2% in the fourth quarter, down from 3% in the third quarter. This fall came despite cheap gas prices and more jobs, which are positive consumption drivers.

A sluggish economy, along with the factors we mentioned above, means heightened volatility (VIXY) is here to stay. Typically, US Treasuries (TLH)(IEF) provide solid ballast to a portfolio containing only equities (IVV)(VTI). The correlation between stocks and Treasuries is very negative. Over the last three years, the correlation between stocks and long-dated Treasuries has been close to -0.5, using weekly returns. In other words, in times like these, Treasuries have done well while equities fell. So Treasuries typically cushion the fall in equities.

However, last year, the correlation between stocks and Treasuries increased. Adding Treasuries to an only-equity portfolio became less valuable. That being said, the correlation between the two reverted to historical levels this year.

With yields on long-dated Treasuries close to all-time lows, they offer an unattractive yield to investors. So it could be worthwhile to consider other types of bonds to add ballast to your portfolio.


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