There has been a lot of talk in recent years about the rising correlation among US stocks. High correlations potentially make it harder for stock-pickers to really stand out and a commonly expressed fear is that this condition is the “new normal.” With that backdrop, consider the chart below that shows the correlations of large-cap US stocks going back to the late 1920s.
Source: iShares
Yes, correlations are higher today than they have been for decades, but the market has experienced periods of high correlations before-notably in the aftermath of the Great Depression. I think the explanation is pretty straightforward-when investor trading is primarily driven by “macro” concerns, the correlations tends to be high and as those fears subside, correlations tend to drop.
In a glass-is-half-full mindset, I find it encouraging that our Technical Leaders Index (PDP) has outperformed the S&P 500 over the last 5+ years notwithstanding the rising correlations (from 3/1/2007 - 4/27/2012, PDP is +17.08% while the S&P 500 is +0.01%). It may be possible for that margin of outperformance to expand once the correlations again begin to subside.
See www.powershares.com for more information about PDP.
