Time Variation in Diversification Benefits of Commodity, REITs, and TIPS

58 Pages Posted: 17 Mar 2006 Last revised: 24 Mar 2011

See all articles by Jing-Zhi Huang

Jing-Zhi Huang

Pennsylvania State University - University Park - Department of Finance

Zhaodong Zhong

Rutgers, The State University of New Jersey - Rutgers Business School at Newark & New Brunswick

Multiple version iconThere are 2 versions of this paper

Date Written: December 25, 2010

Abstract

Diversification benefits of three “hot” asset classes — Commodity, Real Estate Investment Trusts (REITs), and Treasury Inflation-Protected Securities (TIPS) — are well-studied on an individual basis and in a static setting. Using data from 1970 to 2010, this paper documents both that the three asset classes are in general not substitutes for each other, and that diversification benefits of each asset class change substantially over time. Therefore, all three asset classes ought to be included in investors' portfolios. Furthermore, we show that the observed time variation in diversification benefits can be explained by time-varying return correlations. To see the implications of these findings for asset allocation in practice, we examine the out-of-sample performance of portfolio strategies, based on a variety of correlation structures. We find that the Dynamic Conditional Correlation (DCC) model (Engle 2002) outperforms other correlation structures, such as rolling-window, historical, and constant correlations. Our findings suggest that diversification benefits of the three asset classes should be examined in a dynamic setting, and that investors need to use appropriate correlation estimates to adjust for such time variation.

Keywords: Diversification, Commodity, REITs, TIPS, DCC

JEL Classification: G11, G10

Suggested Citation

Huang, Jing-Zhi Jay and Zhong, Zhaodong, Time Variation in Diversification Benefits of Commodity, REITs, and TIPS (December 25, 2010). Available at SSRN: https://ssrn.com/abstract=891289 or http://dx.doi.org/10.2139/ssrn.891289

Jing-Zhi Jay Huang

Pennsylvania State University - University Park - Department of Finance ( email )

University Park, PA 16802
United States

HOME PAGE: http://www.personal.psu.edu/jxh56

Zhaodong Zhong (Contact Author)

Rutgers, The State University of New Jersey - Rutgers Business School at Newark & New Brunswick ( email )

Department of Finance, Rutgers Business School
100 Rockafeller Road
Piscataway, NJ 08854
United States

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