Just came across a great piece today from J.P. Morgan Asset Management about portfolio allocation. It is a great empirical study about the lack of a normal distribution curve in financial market price fluctuations and the high fat-tail risk that is often not accounted for in risk management. I advise reading the full document, but the table below summarizes some of its most important findings:
The fat-tail risk pervasive in asset classes (look at the Kurtosis on REITs!) is especially alarming when taken in context of today’s world of record implied correlations, as assets move up and down in tandem based on marginal dollar liquidity chasing (or fleeing) risk/yield.
The results are striking. Nearly all the correlation coefficients increased to some degree (during this period of high market volatility), with only four showing a decrease. Our main diversifiers did not provide the diversification benefits anticipated.
Full document presented below.