From Goldilocks to a fiscal sugar rush and beyond

17 Oct 2018

What to expect in the next 5 to 7 years

Institutional investors face continued challenges ranging from the unabated search for yield, growing regulatory pressure to understanding more sophisticated – and potentially more profitable –   investment vehicles, underscoring their need for robust portfolios that are closely aligned with their risk appetite and return objectives.

With this medium-term asset allocation update, we seek to answer the questions these asset allocators are grappling with by providing our views on expected returns for a large number of asset classes.

Admittedly, our return expectations are moderate compared to those of the past. Indeed, for many asset classes, these are lower than their long-term averages. This shows the need for well thought-out and well-diversified portfolios of assets that can bring real added value.

Lower for longer, also for returns

We expect the normalisation of monetary policy to continue on a gradual pace as long as inflation remains modest, budget deficits do not balloon and the main central banks continue to operate extremely cautious. This will give both equity and fixed-income markets time to adjust.

Looking at the individual asset classes, many equity markets are trading at or near above-average multiples when profit margins are already high. Given the currently high valuations, equity markets are expected to generate gains markedly below the long-run averages.

Over the near term, the “sugar rush” of US economic growth should help risk assets generate positive returns. But coming down from the rush is still likely to prove painful.

Outside of the US, few developed fixed-income markets offer yields anywhere near historical norms.

We expect 10-year government bond yields to rise by 0.9% to 2.2% in the eurozone and by around 0.4% to 3.4% in the US over the next five to seven years. Inflation-linked bonds in euro and US inflation-linked bonds look more attractive since the inflation risk premium is currently low and inflation expectations are picking up.

We expect developed market investment-grade credit returns to hover at around 1%. On high-yield bonds, we are least positive on the US market. US high-yield bonds face higher (or rising) interest rates, which is a greater credit risk for lower-quality bonds.


Our medium-term asset allocation update covers:

  • from Goldilocks to a fiscal sugar rush
  • extraordinary monetary policy, what’s next?
  • what has been driving emerging market bonds?
  • economic assumptions
  • government, inflation-linked, investment-grade and high-yield bonds
  • medium-term credit return predictions
  • equities and medium-term equity returns predictions
  • to hedge or not to hedge currency exposure?
  • portfolio context
  • risk and return expectations for a broad sub-set of MTAA model
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