[Originally published on SeekingAlpha]

Stocks are flying high and equity markets feel like a low-risk, high-return, can't-lose investment right now. Each sell-off stops after just a few percentage points of decline and then moves on to new all-time highs. At the same time, most people think the 30-year Treasury bond has excessive interest rate risk for very little yield. Aren't all the experts saying we are headed for higher interest rates and therefore a sell-off in bonds? With a yield of 3.3%, the 30-year Treasury bond is not exactly something people get excited about.

Nonetheless, let's investigate the benefits of holding long-dated Treasuries as a diversifier for stocks. To analyze this, we take two well-known ETFs, SPDR S&P 500 ETF (SPY)[https://us.spdrs.com/en/etf/spdr-sp-500-etf-SPY] and iShares 20+ Year Treasury Bond ETF (TLT) [https://www.ishares.com/us/products/239454/ishares-20-year-treasury-bond-etf], and use monthly returns to compare the performance and risk of various portfolios with different amounts of each of these two assets. To start we can look at the two assets in isolation, i.e., a portfolio of 100% SPY vs 100% TLT. We want to know about the portfolios' returns as well as their risk. To do this we look at several statistical measures:

1. Annualized returns
2. Annualized volatility (standard deviation of the monthly returns scaled by the square root of 12)
3. Maximum drawdown (worst peak-to-trough performance in full sample)
4. Sharpe Ratio (annualized excess return over 3-month T-bills divided by annualized volatility)

These measures can give us a good sense of how the portfolios' risk and returns compare. Before getting to the statistics, here's a chart of the two assets total returns since 1992 for some context on how the assets have performed over time. The ETF returns are taken from Yahoo! Finance. In order to have data that was contemporaneous and covers as much history as possible TLT's benchmark returns are used as a proxy before its 2002 inception date and similarly SPY's benchmark returns prior to its 1993 inception. The TLT benchmark started in February 1992, so this study begins that month as well. The chart below shows the pre-tax account value for a $100 investment in each asset starting in February 1992. The y-axis is on a log scale so that a 1% change in value in 1992 looks the same as a 1% change in value in 2014.

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