The statistical relationship between the returns of different asset classes — the foundation of portfolio diversification and the factor that changes most dramatically across economic environments.
Deeper Explanation
Modern portfolio theory relies on imperfect correlations between assets to reduce portfolio risk. Stocks and bonds are historically negatively correlated (bonds rise when stocks fall, and vice versa) — a property that makes the 60/40 portfolio effective at reducing volatility. But correlations are not stable. In deflationary crises (2008), stocks and bonds behaved as expected. In inflationary environments, both fell together (2022). Dalio's insight: correlations are driven by economic environment, not by asset class labels. Building a truly diversified portfolio requires understanding how correlations shift across economic regimes — growth/recession, inflation/deflation — and holding assets that perform in different quadrants.
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Go deeper into the Macro school — frameworks, case studies, and decision systems.