U.S. Markets close in 3 hrs 8 mins

Why low correlations between asset classes benefit investors

Phalguni Soni

An investor’s key guide to international bond funds (Part 6 of 7)

(Continued from Part 5)

Low correlations: Implications for your portfolio 

The practice of allocating an investor’s portfolio across different asset classes is known as “diversification.” A diversified portfolio—one in which funds are divided among various asset classes, like stocks, bonds, or real estate—would usually have lower risk than a non-diversified portfolio, as the factors that are significant value drivers for one asset class would have limited or no impact on another asset class.

In the last part of this series, we saw how price movements for ETFs investing in U.S. stocks (SPY) and bonds like the iShares 7–10 Year Treasury Bond ETF (IEF) and the Core Total U.S. Bond Market ETF (AGG) had low correlations with the price movements of international bond ETFs like the iShares J.P. Morgan USD Emerging Markets Bond ETF (EMB) and the SPDR Barclays International Treasury Bond ETF (BWX).

The low and negative correlations imply that bond price movements in overseas and domestic bonds often move independently of each other and sometimes not even in the same direction. Due to this trend, investors may realize significant diversification benefits for their portfolios by investing a percentage of their portfolio holdings in international bond funds. If stock or bond prices in the U.S. go down, investors will be protected, as the possible appreciation of investments made in overseas asset classes like international bond funds may help mitigate the loss on the portfolio.

The impact of country-specific monetary policy on bond funds

For example, the U.S. economy gaining traction has meant the Fed winding down its monetary stimulus program that it started in the wake of the Great Recession and financial crisis in 2008. The Fed has reduced is monthly bond buying program by $40 billion per month to $45 billion per month (announcing a $10 billion-per-month reduction at the last four FOMC meetings). The Fed is expected to end its monthly bond purchases completely by the fall of this year. The Fed has also said it will consider increases in the base rate after its asset purchases end. Base rate increases are widely expected to occur sometime between Q2 and Q4 2015. Rate increases are also likely to translate across the credit and maturity bond spectrum, and this would lead to a fall in bond prices. This would affect the prices of U.S. debt and impact ETFs like IEF and AGG.

However, some countries, like China, are undergoing a slowdown in economic activity. The monthly purchasing managers’ index (or PMI) report issued by HSBC/Markit Intelligence has shown that manufacturing activity in the Chinese economy has contracted in the first four months of 2014, coming in lower than the critical level of 50, which represents the dividing line between manufacturing expansion and contraction. So the Chinese government may take steps to boost economic growth, including monetary easing. An accommodative monetary policy stance by the People’s Bank of China (or PBOC) would lower interest rates and positively impact yuan-denominated bond prices.

However, this appreciation in bond prices also comes with a caveat. The Chinese government would also try and stimulate exports, which are a very key component of its economy, by trying to keep the yuan exchange rate low versus the dollar, which would make Chinese exports more competitive in international markets. A depreciating yuan will lower returns on bond funds in U.S. dollar terms. So investors must be careful in their ETF selection. ETFs that invest in U.S. dollar-denominated international bonds would eradicate exchange rate risks for investors.

ETFs providing exposure to U.S. dollar–denominated debt issued by Chinese companies include the iShares J.P. Morgan USD Emerging Markets Bond ETF (EMB). Debt issued by Chinese companies, including the Sinopec Group Overseas Development, accounts for 3.43% of EMB’s assets.

EMB tracks the JP Morgan EMBI Global Core Index. The index is a broad, diverse, U.S. dollar–denominated emerging markets debt benchmark that tracks the total return of actively traded debt instruments in emerging market countries. EMB provides exposure to U.S. dollar–denominated sovereign debt and corporate debt issued in over 30 emerging markets. With an expense ratio of 0.6%, EMB has net assets of ~$4.4 billion (as of April 30).

To read about how the Chinese PMI may influence demand for Treasury securities, please read the Market Realist series  Why the decrease in China’s PMI means higher demand for Treasuries.

To find out about the risks you should consider before investing in overseas bond funds, please read on to Part 7.

Continue to Part 7

Browse this series on Market Realist:

  • Do Institutions Own Shares In HCL Technologies Limited (NSE:HCLTECH)?
    Business
    Simply Wall St.

    Do Institutions Own Shares In HCL Technologies Limited (NSE:HCLTECH)?

    Every investor in HCL Technologies Limited (NSE:HCLTECH) should be aware of the most powerful shareholder groups. Institutions will often hold stock in bigger companies, and we expect to see insiders owning a noticeable percentage of the smaller ones. Companies that used to be publicly owned tend to have lower insider ownership.

  • Rash of Bad Headlines Isn't the Problem for Alphabet
    Business
    TheStreet.com

    Rash of Bad Headlines Isn't the Problem for Alphabet

    When you control information, have access to information, and can use information to your advantage, many will view you as a threat as well as a resource. Google has set off not one, but two alarm bells in the past week because of moves it has made in the field of information. The most recent moves came with the company announcing it is set to offer checking accounts next year, but before we jump into the notion of banking-by-Google, it's worth noting this is projected to mainly be a partnership with Citigroup as well as a small Stanford credit union.

  • Is ARC Document Solutions, Inc. (NYSE:ARC) Struggling With Its 5.6% Return On Capital Employed?
    Business
    Simply Wall St.

    Is ARC Document Solutions, Inc. (NYSE:ARC) Struggling With Its 5.6% Return On Capital Employed?

    Today we'll evaluate ARC Document Solutions, Inc. (NYSE:ARC) to determine whether it could have potential as an investment idea. Specifically, we'll consider its Return On Capital Employed (ROCE), since that will give us an insight into how efficiently the business can generate profits from the capital it requires. First, we'll go over how we calculate ROCE.

  • Cisco Systems' shares are down despite Q1 earnings, revenue beat
    Business
    Yahoo Finance Video

    Cisco Systems' shares are down despite Q1 earnings, revenue beat

    Cisco shares are down after CEO Chuck Robbins said he expects to see a decline in revenue for next quarter. Yahoo Finance's Brian Cheung, Sibile Marcellus and Heidi Chung discuss on YFi AM.

  • Business
    Thomson Reuters StreetEvents

    Edited Transcript of RAMP.N earnings conference call or presentation 6-Nov-19 9:30pm GMT

    Q2 2020 Liveramp Holdings Inc Earnings Call

  • Business
    Oilprice.com

    Icahn Urges Occidental To Start ‘’Fire Sale’’

    Activist investor Carl Icahn has called on Occidental Petroleum's management to go for a “fire sale” of assets in order to hit its divestment target following the $38-billion purchase of Anadarko, Bloomberg reports, adding that Icahn had suggested that Oxy sell its pipeline network Western Midstream Partners. Occidental has a divestment target range of $10-15 billion, to be completed by the middle of next year. The company amassed debt of $40 billion for the takeover of Anadarko as most of the price—78 percent—was paid in cash to Anadarko's shareholders.

  • Business
    Bloomberg

    Biogen Sheds $3 Billion in Value on Top Drug’s Patent Review

    Biogen Inc. shed more than $3 billion in market value in the past two trading sessions as a patent review of its top drug Tecfidera Wednesday raised concerns over a potential generic threat from Mylan NV. Shares fell as much as 3.7% on Thursday, the most in two months, extending losses for a third day. Analysts held different views on the trial, with Evercore ISI Umer Raffat saying the hearing went better-than-expected for Biogen, while RBC analyst Brian Abrahams said Mylan seemed to make “a slightly stronger case.

  • Fire concerns prompt Ford SUV recall
    Business
    American City Business Journals

    Fire concerns prompt Ford SUV recall

    Ford Motor Co. issued three recalls Thursday, including 50,000 Lincoln MKX crossovers after three of those vehicles caught fire. Ford said in a press release the issue stems from a short caused by the vehicle's battery cable harness wearing through the vehicle's transmission-shifter cable. Ford says a loose battery-terminal fastener could lead to brake failures and engine stalls, and increase the risk of fire.

  • Fidelity to Baby Boomers: Lay Off the Stocks
    Business
    Bloomberg

    Fidelity to Baby Boomers: Lay Off the Stocks

    Boomers, or the generation born between 1944 and 1964, have been riding a 10-year bull market into retirement, steadily upping bets on stocks to boost 401(k) returns and exposing them to unnecessary risk. More than a third of the generation had crossed over Fidelity's recommended allocation to stocks, which is 70% for those 10 years from retirement. By comparison, almost a quarter of all savers had too much devoted to stocks.

  • Did Changing Sentiment Drive MicroVision's (NASDAQ:MVIS) Share Price Down A Worrying 57%?
    Business
    Simply Wall St.

    Did Changing Sentiment Drive MicroVision's (NASDAQ:MVIS) Share Price Down A Worrying 57%?

    And we doubt long term believers are the only worried holders, since the stock price has declined 26% over the last twelve months. The good news is that the stock is up 1.2% in the last week. MicroVision isn't currently profitable, so most analysts would look to revenue growth to get an idea of how fast the underlying business is growing.

  • Plano homebuilder takes aim at industry giants Pulte, D.R. Horton, Lennar at entry level
    Business
    American City Business Journals

    Plano homebuilder takes aim at industry giants Pulte, D.R. Horton, Lennar at entry level

    Green Brick Partners Inc. (Nasdaq: GRBK) has waded into the highly competitive entry-level home market, putting the Plano-based homebuilder head to head with the D.R. Hortons, Pultes and Lennars of the world. Based on what he's seen so far, Jim Brickman, co-founder and CEO of Green Brick, likes his company's chances of competing with the housing industry giants, he said in an interview with the Dallas Business Journal on Tuesday. The key to success at the $250,000-ish price point will be to meet or come close to the production builders' prices, but make homes that are architecturally superior, Brickman said.

  • Business
    GuruFocus.com

    Qualcomm Stock Reaches Decade High After Shipments Drop 34%

    Shares of chip developer and manufacturer Qualcomm (NASDAQ:QCOM) reached decade highs after the company reported its fiscal year 2019 results. Despite a good amount of shipment reduction on its chips, Qualcomm beat Wall Street earnings expectations, so the stock has soared to new heights as a result. For its fourth quarter, the $113 billion market cap, San Diego-based chipmaker reported a 22% decline in its revenue to $ 4.81 billion and earnings per share of 78 cents a share compared to Wall Street consensus estimates of 71 cents a share.

  • Expedia Group, Inc. (NASDAQ:EXPE) Passed Our Checks, And It's About To Pay A 0.4% Dividend
    Business
    Simply Wall St.

    Expedia Group, Inc. (NASDAQ:EXPE) Passed Our Checks, And It's About To Pay A 0.4% Dividend

    Regular readers will know that we love our dividends at Simply Wall St, which is why it's exciting to see Expedia Group, Inc. (NASDAQ:EXPE) is about to trade ex-dividend in the next 3 days. Expedia Group's upcoming dividend is US$0.34 a share, following on from the last 12 months, when the company distributed a total of US$1.36 per share to shareholders. Calculating the last year's worth of payments shows that Expedia Group has a trailing yield of 1.4% on the current share price of $95.6.

  • Business
    Bloomberg

    Fannie-Freddie Share Sales Might Come in 2022, Watchdog Says

    Fannie Mae and Freddie Mac's regulator said the mortgage giants will likely be ready for public offerings by 2021 or 2022, a key step toward their exits from government control. Federal Housing Finance Agency Director Mark Calabria, speaking Wednesday at a housing finance policy conference in Washington, said he expects that his agency will have a rule dictating capital requirements in place before Fannie and Freddie go to market. He said they may face a period where they operate under a consent decree in which they technically exit conservatorship but aren't free of the government's grip.

  • Business
    Thomson Reuters StreetEvents

    Edited Transcript of NBLX earnings conference call or presentation 7-Nov-19 5:30pm GMT

    Noble Midstream Partners LP - CEO & Director of Noble Midstream GP LLC * Park Carrere * Thomas W. Christensen

  • Could The J. M. Smucker Company's (NYSE:SJM) Investor Composition Influence The Stock Price?
    Business
    Simply Wall St.

    Could The J. M. Smucker Company's (NYSE:SJM) Investor Composition Influence The Stock Price?

    If you want to know who really controls The J. M. Smucker Company (NYSE:SJM), then you'll have to look at the makeup of its share registry. Institutions will often hold stock in bigger companies, and we expect to see insiders owning a noticeable percentage of the smaller ones. Companies that have been privatized tend to have low insider ownership.

  • The Frontier Communications (NASDAQ:FTR) Share Price Is Down 99% So Some Shareholders Are Very Salty
    Business
    Simply Wall St.

    The Frontier Communications (NASDAQ:FTR) Share Price Is Down 99% So Some Shareholders Are Very Salty

    Spare a thought for those who held Frontier Communications Corporation (NASDAQ:FTR) for five whole years - as the share price tanked 99%. Given that Frontier Communications didn't make a profit in the last twelve months, we'll focus on revenue growth to form a quick view of its business development. Shareholders of unprofitable companies usually expect strong revenue growth.

  • Cisco falls after hours following first-quarter results
    Business
    Yahoo Finance Video

    Cisco falls after hours following first-quarter results

    Technology conglomerate Cisco is plunging in after hours trade, following the release of its first-quarter results. Yahoo Finance's Emily McCormick joins The Final Round to break down the numbers.

  • Why Badger Daylighting Ltd.'s (TSE:BAD) High P/E Ratio Isn't Necessarily A Bad Thing
    Business
    Simply Wall St.

    Why Badger Daylighting Ltd.'s (TSE:BAD) High P/E Ratio Isn't Necessarily A Bad Thing

    The formula for price to earnings is: Price to Earnings Ratio = Share Price ÷ Earnings per Share (EPS) Or for Badger Daylighting: P/E of 18.41 = CA$33.87 ÷ CA$1.84 (Based on the trailing twelve months to September 2019. Is A High Price-to-Earnings Ratio Good? A higher P/E ratio means that investors are paying a higher price for each CA$1 of company earnings.

  • Did Changing Sentiment Drive Paratek Pharmaceuticals's (NASDAQ:PRTK) Share Price Down A Painful 79%?
    Business
    Simply Wall St.

    Did Changing Sentiment Drive Paratek Pharmaceuticals's (NASDAQ:PRTK) Share Price Down A Painful 79%?

    Paratek Pharmaceuticals, Inc. (NASDAQ:PRTK) shareholders should be happy to see the share price up 26% in the last month. Indeed, the share price is down a whopping 79% in that time. Given that Paratek Pharmaceuticals didn't make a profit in the last twelve months, we'll focus on revenue growth to form a quick view of its business development.

  • Longtime Oregon company plans move to Texas with new focus on energy
    Business
    American City Business Journals

    Longtime Oregon company plans move to Texas with new focus on energy

    Longtime Oregon electrical and industrial technology company CUI Global is going all-in on the energy sector with a series of corporate changes over the past month that will see the company split up and part of it move to Texas. The company organized the businesses in two units: Orbital for energy and CUI Inc. for power and electromechanical products. “We started targeting the energy infrastructure space,” said CUI Global CFO Daniel Ford, citing the opportunity seen in the energy market.

  • Business
    Thomson Reuters StreetEvents

    Edited Transcript of CYD earnings conference call or presentation 13-Nov-19 1:00pm GMT

    China Yuchai International Limited - President & Director Conference Call Participants * Chen Ke

  • Business
    Thomson Reuters StreetEvents

    Edited Transcript of DOX earnings conference call or presentation 12-Nov-19 10:00pm GMT

    Q4 2019 Amdocs Ltd Earnings Call

  • Should You Buy Manulife Financial Corporation (TSE:MFC) For Its Upcoming Dividend In 4 Days?
    Business
    Simply Wall St.

    Should You Buy Manulife Financial Corporation (TSE:MFC) For Its Upcoming Dividend In 4 Days?

    Readers hoping to buy Manulife Financial Corporation (TSE:MFC) for its dividend will need to make their move shortly, as the stock is about to trade ex-dividend. Manulife Financial's next dividend payment will be CA$0.3 per share, on the back of last year when the company paid a total of CA$1.0 to shareholders. Based on the last year's worth of payments, Manulife Financial stock has a trailing yield of around 3.8% on the current share price of CA$26.38.

  • Biohaven Readies for ‘David Versus Goliath’ Battle with Allergan
    Business
    Bloomberg

    Biohaven Readies for ‘David Versus Goliath’ Battle with Allergan

    However, publications in the New England Journal of Medicine and the Lancet medical journals paired with plans to use direct-to-consumer advertising may give Biohaven a leg up, Coric said. Telemedicine, e-commerce, social media; we're going to incorporate a modern day launch with a traditional launch as well,” Coric said in an interview at Bloomberg's New York headquarters on Tuesday. If you're prepared to run your business -- that will also open up a lot of optionality,” Coric added, when asked about plans for potential partnerships or deals to better compete with larger peers.