All Asset All Access, February 2020


  • An analysis of historical U.S. stock market cycles and concurrent trends in Third Pillar asset classes (real return, high yield bonds, emerging markets) reinforces the view that diversifying investments tend to shine when mainstream stocks struggle.
  • When the current market cycle turns, Research Affiliates believes the All Asset strategies have the potential to minimize losses and to give diversification in the very market environments in which investors may need it most.
  • Macroeconomic variables, especially global economic growth and inflation regimes, are top-of-mind considerations for altering strategic positioning within the All Asset strategies, to ensure they are responsive to shifting conditions that ultimately drive investment opportunities. Research Affiliates’ macro forecasting models assess trends and conditions within individual countries and across regions.

In this issue, Rob Arnott, chairman and head of Research Affiliates, discusses how stock markets and other asset classes tend to perform across market cycles over the long term, and looks at what this means for contrarian investment strategies. Jim Masturzo, head of asset allocation at Research Affiliates, discusses how macroeconomic models to forecast growth and inflation inform investment positioning. As always, their insights are in the context of the PIMCO All Asset and All Asset All Authority funds.

Q: How do you define a full market cycle, and what gives you confidence in the All Asset strategies’ long-term return prospects across cycles?

Arnott: Market cycles are often difficult to identify until after the fact. What’s more, there are multiple approaches to identifying the beginning and end points of a cycle. At Research Affiliates, we use a simple, sensible definition of a full market cycle: the span from one previous peak in cumulative total market return, to a subsequent higher peak, with an intervening decline of at least 20%. This approach generally ensures that a complete cycle captures both bull and bear market conditions. Using monthly U.S. equity returns since 1926 (as measured by the S&P 500 and, prior to 1957, the S&P 90), we identify seven peak-to-peak spans that include a total return drawdown of at least 20% from the previous market peak and that are followed by a rebound leading to a new, higher peak.

Before we turn to our All Asset strategies’ prospects today, let’s first examine U.S. stock market cycles over the last 95 years, and compare the latest cycle with that long-term history. Figure 1 shows the cumulative performance of the S&P 500 Index and a basket of Third Pillar assets1 (where available) over each of the full market cycles since 1926. Panel A displays the entire peak-to-peak span. We then dissect the full cycle period into its two component phases: the initial drawdown period from the first peak to the trough (Panel B), and the subsequent rebound from the trough to the new peak (Panel C).

Figure 1: U.S. stock market cycles, peak to peak, 1926–presentImage Pop Up

Over full peak-to-peak cycles since September 1929 (the first peak of the measurement period), U.S. stocks as measured by the S&P index delivered annualized returns ranging from 2.0% (September 2000 – October 2007 cycle) to 15.4% (September 1987 – August 2000 cycle). On average, U.S. stocks returned nearly 9% per annum over a full cycle, which typically lasted 11 years.

Now let’s consider how Third Pillar assets generally fared over these cycles. Bear in mind that our observations begin in 1973, the first year when returns are available for at least three of our Third Pillar markets: high yield bonds, commodities, and real estate investment trusts (REITs). In market cycles over the last 46 years, a basket of Third Pillar assets on average returned 12.4%, exceeding U.S. stocks by approximately 2.5% per annum.