CHAPTER 12
Correlation Breakdowns
in Asset Management
Riccardo Bramante and Giampaolo Gabbi
12.1 INTRODUCTION
Over recent years, financial and real market globalization has accelerated
the process of increasing positive values of correlations. This phenomenon
changed many portfolio managers’ practices, which are now strictly linked
with sector behaviors. In order to verify whether portfolio managers can
correctly estimate the eventual correlation jump over time, we provide some
new evidences for correlation dynamics among equity markets.
The chapter aims to answer the following questions:
1 Is there a relation between exponential correlation changes and volatility
movements?
2 Is this relation structurally constant for all the movements of correlations,
or do correlation jumps show different behaviors?
3 What errors might we make in not considering correlation jumps in
portfolio optimizations?12.2 Data and descriptive statistics
The data consist of daily exponential volatility and correlations for equity
markets of the United States, the Euro area and Japan. The data source is
JPMorgan RiskMetricsTM. The way RiskMetrics computes correlations and
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