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With December's monster sell-off in hindsight, many investors are looking for a potential shelter to hide when the market goes wild again. And U.S. Treasuries, Japanese yen and gold could be their best safe havens, according to HSBC.
Traditionally, all three assets have served investors as shelters when risk buffets the markets, given their relative stability and liquidity. Recently, HSBC ran 10 million simulations of various portfolio weightings, and found that short-dated Treasuries are a clear winner with the highest risk-return ratios and hit rates when equity volatility rises. The Japanese yen is in second place, and gold gets the bronze medal, according to HSBC's head of multi asset strategy Pierre Blanchet.
Treasuries will work even when higher yields are the catalyst for a stock market sell-off, HSBC said.
"Although the correlation between U.S. bonds and equities can rise during bond-driven sell-offs, any 'flight to quality' tends to quickly push the correlation back into the negative territory. Therefore, even during phases where equity markets are selling off, our analysis shows that a high allocation in short-end Treasuries is optimal," Blanchet said.
Yields on the two-year Treasury, the note most sensitive to the central bank's policy, have doubled to 2.58 percent since the start of 2017 as the Fed has stuck to its rate-hiking agenda. So one would think holding Treasurys, which move inversely to yields, would be a bad idea. But what we've seen lately is that even though higher yields trigger the sell-off, they often begin falling shortly after equities drop, driving values higher.
Yen's long-time safe-haven status is secured based on HSBC's analysis. When global growth slowdown intensifies, the currency should perform well as it has a large international investment base, HSBC said.
"If we were to see a period of repatriation across global financial markets, the likely home bias of Japanese investors could dominate the outflows from foreign investors in Japan. The result: a risk-off move across global financial markets could lead to JPY strength," Blanchet said.
Gold came behind Treasuries and yen for its lower risk-return ratios. Its safe-haven quality was "exacerbated" by the dollar weakness during the last financial crisis, HSBC pointed out. As the dollar weakness is not expected in the next downturn, gold's allure will be diminished to an extent, the bank said.
The bank also noted the Swiss Frac no longer provides a shelter as the reduced influence of domestic investors in Switzerland pushed the currency off the podium.
"In the post-crisis years, the CHF benefited from local investors repatriating assets in times of market stress. However, after the introduction of the EUR-CHF floor in 2011, Switzerland saw significant cumulative inflows from foreign investors. Their behavior is now a much more important driver than that in the period following the financial crisis," Blanchet said.