NATIONAL BUREAU OF ECONOMIC RESEARCH
NATIONAL BUREAU OF ECONOMIC RESEARCH

How do Regimes Affect Asset Allocation?

Andrew Ang, Geert Bekaert

NBER Working Paper No. 10080
Issued in November 2003
NBER Program(s):   AP

International equity returns are characterized by episodes of high volatility and unusually high correlations coinciding with bear markets. We develop models of asset returns that match these patterns and use them in asset allocation. First, the presence of regimes with different correlations and expected returns is difficult to exploit within a framework focused on global equities. Nevertheless, for all-equity portfolios, a regime-switching strategy dominates static strategies out-of-sample. Second, substantial value is added when an investor chooses between cash, bonds and equity investments. When a persistent bear market hits, the investor switches primarily to cash. There are large market timing benefits because the bear market regimes tend to coincide with periods of relatively high interest rates.

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Document Object Identifier (DOI): 10.3386/w10080

Published: Ang, Andrew and Geert Bekaert. "How Regimes Affect Asset Allocation," Financial Analsts Journal, 2004, v60(2,Mar/Apr), 86-99.

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