Trends in Stock-Bond Correlations

Previous research document the existence of long-run trends in comovements in the stock and
bond markets. Following these findings, this paper examines possible trends in stock- bond
return correlations. To this end, we introduce a trend component into a smooth transition
regression (STR) model including the multiple transition variables of Aslanidis and Christiansen
(2012). The results indicate the existence of significant decreasing trends in stock-bond
correlations for many advanced safer countries. In addition, although stock market volatility
continues to be an important factor in stock-bond correlations, the short rate and yield spread
become only marginally significant once we introduce the trend component. Our out-of-sample
analysis also demonstrates that the STR model including the VIX and time trend as the transition
variables dominates other models. Furthermore, we find a significant increase in stock-bond
correlations for riskier Euro countries around the beginning of the Euro crisis. Our findings of
decreasing and increasing trends in stock-bond correlations can be considered a consequence
of the decreasing effects of diversification and more intensive flight-to-quality behavior that have
taken place in recent years and after the Euro crisis.