The investment landscape has changed drastically since the North Atlantic crisis of 2008. Equities, commodities and gold have been rising and falling together, moving in the opposite direction to the greenback, mainly spurred by so-called risk-on and risk-off trades.
Before 2008, the rally in riskier assets such as equities and commodities was fuelled by strong growth followed by a gush of liquidity. After a point, high commodity prices started hurting equities, sparking a sell-off in the equity markets. Gold, on the other hand, was seen as a safe haven asset during risk aversion.
But even the yellow metal has lost its sheen during the recent risk-off trade. As the chart points out—the Sensex (down 6%), Dow Jones Industrial Average (down 3%), gold (down 6%), global commodities benchmark Thomson Reuters/Jefferies CRB index (down 15%) and crude oil (down 17%) have been moving in tandem since the beginning of March 2012 as concerns of Greece exiting the euro zone came to the fore, leading to a bout of risk aversion.
These asset classes also moved together from December 2011 to February after the European Central Bank injected around $1 trillion (Rs.55 trillion today) into the system through two tranches of long-term refinancing operation programme, and after quantitative easing one (August 2009) and quantitative easing two (November 2011) by the US Federal Reserve, which released $2.4 trillion into the economy.
In fact, liquidity injection by the central banks have been the pied piper that helped these asset classes dance to the same tune.
Manish Sonthalia, vice-president and fund manager at Motilal Oswal Asset Management Co. Ltd, said liquidity fuelled speculation and created a bubble in these asset classes, followed by deleveraging, as growth started coming off. As a result, the dollar has regained its reserve currency status, up 4% since March.
After the Lehman crisis, Sonthalia says, “US treasuries have outperformed and yields are at all-time high. The day the bubble will burst in the US treasuries, there will be a bull run in equities. Of course, when the bubble will burst is a million-dollar question.”
How should an investor diversify his portfolio when most asset classes move in tandem? Nick Paulson-Ellis, country head (India) at Espirito Santo Securities, puts it succinctly: “In a scenario when all asset classes are more closely correlated, with all eyes on a difficult macro environment, it is actually best that a retail investor doesn’t try and predict the macro and time the market. Rather drip-feeding money into the market, taking a longer-term view and building a portfolio of well-diversified, high-quality companies, particularly ones that are resilient with good dividend yield, low debt, low earnings volatility, is important.”