When Diversification Fades: a Firm Level Perspective of Stock and Corporate Bond Correlations

Linas Jurkšas and Julien Idier

Working papers from Banque de France

Abstract: This paper examines the evolving relationship between corporate bond and stock returns in the euro area from 2007 to 2025. While theory predicts negative (or at least lower) correlations during periods of market stress and negative demand shocks, empirical evidence shows substantial instability over time. We construct equity and corporate bond indices using a strictly matched issuer universe, such that the constituent firms are identical across the two indices. We then analyse their correlation dynamics across major euro area markets using Dynamic Conditional Correlation models. Results indicate that correlations, historically negative, have since 2009 gradually trended toward neutrality, but can shift in either direction rapidly. We show that the discount-rate channel emerges as the dominant driver of co-movement in both low- and high-inflation environments. By contrast, financial stress reduces correlations – consistent with flight-to-quality dynamics –only in low-inflation regimes but not in high inflation regimes. This indicates that investors cannot rely on policy-induced compression in discount rates to generate cross-asset arbitrage opportunities in favour of bonds when inflation is high.

Keywords: DCC Correlation; Corporate Bonds; Asset Allocation; Equity Returns; Monetary Policy (search for similar items in EconPapers)
JEL-codes: E43 E52 G12 G14 (search for similar items in EconPapers)
Pages: 24 pages
Date: 2026
New Economics Papers: this item is included in nep-eec
References: Add references at CitEc
Citations:

Downloads: (external link)
https://www.banque-france.fr/system/files/2026-09/WP1065_0.pdf

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:bfr:banfra:1065

Access Statistics for this paper

More papers in Working papers from Banque de France Banque de France 31 Rue Croix des Petits Champs LABOLOG - 49-1404 75049 PARIS. Contact information at EDIRC.
Bibliographic data for series maintained by Michael brassart ().