Using financial-market signals to guide asset allocation

Asset returns relate closely to the way an economy behaves – notably its rates of growth and inflation. The key to asset allocation success is to choose assets toward which capital is beginning to flow and to avoid assets from which capital is escaping. Financial markets issue signals which motivate and guide the direction in which capital chooses to flow. As a result, market signals such as credit spreads and currency fluctuations have predictive power for (initially) the price performance of assets and (later) growth and inflation. Assets can be classified, and their performance predicted, according to the direction and sensitivity of their response to market signals.