Murphy: Do you put currencies in that inflation-combating real-assets mix?

Mazza: Our firm doesn’t have currencies in our real-assets portfolios because currencies are somewhat different. I think that where the currencies story comes in is in the idea of gold as a currency. Investors have well-understood that gold was always considered a currency historically, but because it’s taken out of the earth, it’s also like a commodity.

What’s interesting is that gold’s actual return paths and volatility profile may show that it’s somewhat different than a traditional commodity and even a traditional precious metal. That’s why in today’s environment, the idea of gold having some currency component, or being a potential replacement for the exposure, that you as an investor may have to have different currencies has been garnering greater attention.

Murphy: Is this a market where smart beta makes more and more sense as it allows investors to express so many different views in a very uncertain economic time?

Mazza: I think the reason why we are seeing a proliferation of product development and increased usage from investors of this advanced-indexing approach is indeed for those reasons you are pointing out. But in the end, the need for diversification keeps coming up. That’s truly what matters for any kind of investor.

The ability to have more precise exposure to low-volatility equities, or dividend-paying equities, or to be able to tilt portfolios toward something that may make sense in a particular market—all of these things are increasingly important. We are beginning to see that growth expand, the interest is there, and from a product development perspective, it may certainly be an area of increased focus for many firms.

Murphy: As far as diversification goes, much has been said about rising correlation among asset classes, and many have suggested that ETFs play a part in that phenomenon. Where do you stand on that issue?

Mazza: What I would say about ETFs and correlation is that correlation is driven by the macroeconomic environment, in research that I’ve done. The reason is that ETFs are a vehicle that investors can use; they really provide access to different market environments. The correlation of stocks has certainly risen, I won’t deny that. But going back to before ETFs even existed, we saw periods when correlation spiked, such as during the crash of 1987, or during periods like the Great Depression. What you do see is that when those periods of uncertainty are removed from the market, correlation decreases again. Through thick and thin, diversification matters.

Recently, the growth of ETFs such as SPY and other funds has less correlation to the market environment than things like consumer confidence indices, or initial jobless claims. What you see is that consumer confidence tends to decrease a lot during recessionary periods, and in periods of uncertainty, correlation increases. There’s somewhat of an inverse relationship. If jobless claims are trending upward, and kind of peaking, correlation might be peaking at the same time.

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