A Changing Stock-Bond Correlation: Explaining Short-term Fluctuations

Abstract

This paper builds on a framework that uses macroeconomic drivers to explain long-term variation in the correlation between stocks and bonds. The existing work focuses on the relative volatility of growth and inflation and the correlation between them and explains about 70 percent of the variation in rolling 10-year stock-bond correlation. We focus on forecasting short-term variation in stock-bond correlation with measures that capture the extent to which individual forecasters’ predictions about those markets have the same sign or opposing signs. Our framework enhances stock-bond correlation forecasting at tactical horizons, which we define here as the next three months.

Keywords: Stock-bond correlation, ZEW financial market survey.

JEL Classification: G11