Morningstar - Q2 2021 - 29

EXHIBIT 1

2020 Correlation Matrix Taxable Bonds
Index

1

2

3

4

5

6

7

8

9

10

11

12

1 Morningstar US Market TR

1.00

2 Morningstar EM Bond GR Hdg

0.79

1.00

3 Morningstar Global Core Bond GR

0.65

0.75

1.00

4 Morningstar US 1-5 Yr Treasury Bond TR

-0.73

-0.72

-0.37

5 Morningstar US 10+ Yr Treasury Bond

-0.49

-0.41

0.11

0.83

1.00

6 Morningstar US 5-10 Yr Treasury Bond

-0.61

-0.56

-0.17

0.96

0.93

1.00

7 Morningstar US Cash T-Bill TR

-0.75

-0.73

-0.40

0.98

0.82

0.94

1.00

8 Morningstar US Core Bond TR

0.25

0.45

0.73

0.19

0.60

0.41

0.16

1.00

9 Morningstar US Corp Bond TR

0.74

0.91

0.85

-0.54

-0.12

-0.34

-0.56

0.71

1.00

10 Morningstar US High-Yield Bond TR

0.87

0.97

0.78

-0.78

-0.46

-0.63

-0.80

0.40

0.90

1.00

11 Morningstar US TIPS TR

0.67

0.71

0.85

-0.28

0.10

-0.06

-0.28

0.75

0.84

0.70

1.00

12 US Fund Bank Loan Category

0.83

0.97

0.68

-0.81

-0.52

-0.66

-0.81

0.35

0.89

0.97

0.68

1.00

13 US Fund Interm Core-Plus Bd Category

0.72

0.93

0.85

-0.50

-0.09

-0.29

-0.51

0.73

0.99

0.89

0.86

0.88

13

Time Period: 01/2020-12/2020
1.00 to 0.80
0.80 to 0.60
0.60 to 0.40
0.40 to 0.20
0.20 to 0.00

1.00

0.00 to -0.20
-0.20 to -0.40
-0.40 to -0.60
-0.60 to -0.80
-0.80 to -1.00

1.00

Source: Morningstar Direct. Data as of 12/31/2020.

Treasury bonds benefited during that period's flight
to quality and liquidity, with short-term Treasuries
exhibiting the lowest correlation with the U.S.
market. The next best diversifier for equities was
cash, which exhibited a solid negative correlation
with stocks during the period.
Most of the other fixed-income types, however,
were weak to very weak diversifiers with equities.
By extension, they were similarly correlated
with one another and showed very little correlation
with government bonds and cash during the
period. Treasury Inflation-Protected Securities were
among the worst fixed-income diversifiers for
equities during the period. That might seem
counterintuitive, in that these issues are backed
by the U.S. government. But demand for such
bonds tends to grow in periods when investors are
concerned about inflation and slack off when
they're not. Because inflation worries were
close to nonexistent in the first quarter, TIPS didn't
gain as much as nominal Treasury bonds.
High-yield bonds, bank loans, and emergingmarkets bonds are often aptly described
as equitylike, so it's probably not surprising that
performance in the first quarter of 2020 was
aligned with equities. Perhaps more surprising,

however, was that the Morningstar US Core Bond
Index, which is a high-quality bond index,
and especially the Morningstar intermediate-term
core-plus bond-fund category were lackluster
diversifiers for equities. While their losses were
smaller, their performance was much more
in line with corporate bonds, high-yield bonds,
and bank loans during the quarter than
with Treasury bonds and cash. Indeed, both the
index and the category had a correlation
coefficient of 1 with the high-yield, bank loan, and
emerging-markets indexes, indicating a perfect
correlation. During the worst of the market swoon,
both the index and category posted losses,
whereas Treasuries and cash were in the black.

in the first quarter, though core-plus bond funds
continued to exhibit a high correlation with
the equity market for the full year. The correlation
with equities and lower-quality bonds, such
as high-yield bonds, bank loans, and emergingmarkets bonds, remained elevated. Just
as such bonds dropped in value during the
first quarter, they rallied along with stocks for
the rest of the year, as investors became
more sanguine about the prospects of riskier
securities in a post-COVID economy.

Although stocks recovered from April through
year-end, the correlation patterns of the
first quarter persisted throughout the year.
Treasury bonds across the duration spectrum also
showed reasonably well from the standpoint
of correlations with equities. Cash was actually a
better diversifier than any of the bond indexes
during the full-year period, however.

Longer-Term Trends
Over the past two decades, Treasury bonds
have provided the best diversification of
any taxable bond type-and indeed of any asset
class-for investors with equity exposure in
their portfolios. The correlation benefit was
similar for Treasuries across rolling time periods
( EXHIB IT 2 ). Cash has been the next most
attractive diversifier for stocks. The high-quality
Morningstar US Core Bond Index has
also delivered a negative correlation with the
equity market.

The correlation between the Morningstar US
Core Bond Index and the U.S. equity market also
dropped for the full year from where it was

EXHIB IT 1 shows the correlations between
various taxable-bond investments and the U.S.
equity market for the full year.

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