The effect of interest rate regime switch is very important most particularly in volatile markets. This effect asset allocation decisions becouse of the uncertainity drawn to the expected performance of the portfolio. The disadvantage of regime switch are trading costs of maintaining the asset allocation in the unfourable market conditions. In the objective to maximize portfolio returns over the market risk optimal portolios have to be determined. This is closely approximated over time [Kelly]. However, discretely timing using moving averages can be effective for immediate dicisions in asset allocation.

To study the question of optimal optimal portfolios see references on constan-rebalanced portfolios by Evstigneev and Schenk-hoppe.  To follow the part of the analyis and computations in this line of research see the references by Chule et al. and  Dempster et al in ssrn.com.       

http://www.princeton.edu/~wbialek/rome/refs/kelly_56.pdf

http://cermsem.univ-paris1.fr/arbitrage/paris/schenk-hoppe.pdf

http://ssrn.com/abstract=2644258

http://ssrn.com/abstract=2654744

ssrn.com/abstract=992848

Hi,

It is not necessary that interest rate regime switch lead to portfolio asset allocation, because it depends on risk aversion attitude of portfolio managers. For example, if a pension fund manager is highly risk avert, we may not expect switch from relatively low risk bonds investment to equity investment even when interest rate change. Also if the equity return is not compensating enough return for the additional risk borne  we do not expect switch from bonds or fixed income securities even when interest rate change.

Dear Karen,

I can't help much in the way of theoretical calculations, but I can show you a very interesting practical example of fund managers whose expectations on future interest rates are extremely contrarian (i.e., different than the mainstream). This directly affects their portfolio allocation decisions and recommendations.

Enter Bill Gross (the "Bond King") and Jeffrey Gundlach (the "King of Bonds"). Notice the similarilities in their nicknames.

Both of these gentlemen recently suggested to sell down almost every type of financial instrument in favor of "real" assets like gold and real estate. This is undoubtedly a function of their belief that the depressed interest rates environment created bubbles on most, if not all, of financial assets in the world.

You can start from here: http://qz.com/749692/investors-bill-gross-and-jeffrey-gundlach-say-to-sell-stocks-bonds-and-almost-everything-else-except-gold/

Then I would dig into their letters and reports to investors, since they often elaborate more broadly in those documents.

Hope this helps.

http://qz.com/749692/investors-bill-gross-and-jeffrey-gundlach-say-to-sell-stocks-bonds-and-almost-everything-else-except-gold/

Thank you Dawid. This sounds very interesting! I will look out for the articles. Thank you for the time. I am also looking at the effect in emerging markets where interest rates remain high in comparison. I suppose part of the advice could be informed by inherent inflation hedging in real estate and stocks. Thank you for your time