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9 November 2020 / VIDEO

Are Treasuries Still a Safe-Haven Asset?


A number of asset allocators believe that Treasuries, except very long-dated Treasuries, have lost most of their diversification benefits. Other potential alternatives that may be considered include extending duration, using hedging strategies, managing risk through defensive strategies, or using other diversifiers. 


These days if you ask asset allocators what keeps them up at night, a number of them will say, and myself included, that they believe that treasuries, with the exception of very long-dated treasuries, have lost most of their diversification benefits.

Here’s an example. The U.S. equity market had a drawdown of 9% in September. The Treasuries index actually lost 15 basis points over that same period.

The zero bound limits upside for treasuries. It is simple math: the yield on the Bloomberg Barclays Treasuries index is roughly 50 basis points, and its duration is about seven years. If we assume the Fed doesn’t want negative rates, the approximate maximum upside potential during a rapid selloff, of say 20 or 30% in stocks, is around 3.5%; 7 x 50 basis points.

After that we’re in trouble. Look at German Bunds during COVID – they only went up 2% in Q1 2020, while the Germany stock index was down 25%.

So what are potential solutions or alternatives to treasuries as a “safe haven”?

Well, first, you can extend your duration by considering longer duration bonds. The long Treasuries index has a yield of 1.3% and a duration close to 20 years. If the yield goes down by 1%, which may correspond to a 20% equity selloff, there’s still good upside potential.

In Q1 2020, the Bloomberg Barclays long treasuries index was up 20%. But as yields approach zero, even in the long-hand, basic bond math tells us that gains of that magnitude are unlikely. AT 1.3% yield, you may have one more big crisis in long Treasuries, if you will.

After that, the answer sort of becomes, if you can’t diversify, you should hedge or consider de-risking.

You can buy put options on stocks directly, but that can be expensive in the long run. You have to pay for it. With Treasuries, in normal environments, you get a positive yield.

Another solution is to dynamically manage your risk, for example with so-called managed volatility strategies, or defensive macro strategies.

Or you can consider adding actively managed absolute return strategies to your portfolio. Those allow for short positions, which can be a very effective hedge.

Or you can look for other diversifiers, but I believe those are rare. Gold doesn’t quite do it. It can trade like a risk asset. Investment grade bonds still have default risk.

 Low interest rates currencies like the Japanese yen may help, but again their expected return is low.

So when all else fails, you can either accept higher exposure to loss going forward or reduce and reoptimize your equity exposure, given your risk tolerance, for example allocate to risk-managed equity solutions, and recognize that capital markets have less to offer going forward.

A wise man once told me the secret to happiness in life is to lower your expectations. With rates at the zero bound, investors have to lower their expectations. 


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