BMO Long-Term Capital Market Assumptions - BMO ETF ...
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BMO Global Asset Management 2020 BMO Long-Term Capital Market Assumptions Prepared by: Yung-Yu Ma, Ph.D. Chief Investment Strategist BMO Wealth Management Irina Pacheco, CFA Quantitative Strategist and Portfolio Manager — Multi Assets Solutions BMO Global Asset Management
Table of contents Foreword ��������������������������������������������������������������������������������������������������������� 1 Overview ������������������������������������������������������������������������������������������������������ 2-3 10-year Capital Market Assumptions — broad asset classes �������������������� 4 Risk and return trade-off — broad asset classes ���������������������������������������� 5 10-year Capital Market Assumptions — U.S. ������������������������������������������������6 Risk and return trade-off — U.S. ���������������������������������������������������������������� 7-8 10-year Capital Market Assumptions — Canada ������������������������������������������9 Risk and return trade-off — Canada ����������������������������������������������������� 10-11 Disclosures ���������������������������������������������������������������������������������������������������� 12
Foreword
BMO Global Asset Management seeks to provide investment solutions that achieve clients’
goals with refreshing clarity. This means offering intuitive products and services supported by
rigorous analysis by our investment professionals, whose expertise underpins the value we
bring to clients. Data may be impersonal, but insight is not.
The following paper outlines our Capital Market Assumptions at-risk (mean-CVaR) optimization to evaluate the effects of
(CMAs) over a 10-year time horizon. Our strategists update the allocation constraints on expected returns and risks. To build
CMAs annually using proprietary models along with input from a realistic range of potential outcomes, our team uses the Monte
our global team of investment professionals. Carlo methodology to generate thousands of return simulations
for each asset class. Furthermore, they expand the analysis to
By providing the rationale for our strategic asset allocation
capture the effects of different correlation regimes on asset
across equities, fixed income and alternatives, CMAs support
allocation outcomes and to evaluate each allocation’s downside
BMO Global Asset Management’s overall approach to multi-asset
risk exposure.
investment. We use these assumptions to offer a variety of
portfolio construction options to clients, enabling them to better Our CMAs offer a global satellite view of the investing
understand risk/return expectations and enabling us to tailor environment. Whether investors are seeking income, capital
solutions to more refined objectives. appreciation or the ability to meet liabilities or spending targets,
our investment professionals use this perspective to help clients
In addition to traditional mean-variance optimization, the team
visualize a roadmap to their goals.
uses other modern techniques such as mean/conditional-value-
Yung-Yu Ma, Ph.D.
Yung-Yu Ma is the Chief Investment Strategist with BMO Wealth Management.
As Chief Investment Strategist, Yung is responsible for performing macroeconomic analysis, valuation modeling, and market analysis across asset classes to
guide strategic and tactical asset allocations for client portfolios.
Prior to joining BMO Wealth Management, Yung was a finance professor at Lehigh University, where he taught courses in fixed income, equities and
derivatives. His academic studies have been cited in the Wall Street Journal, in leading finance journals, top law journals, the Handbook of High Frequency
Trading, and in the Oxford Handbook of Corporate Governance. During his tenure at Lehigh, he was awarded the Staub Outstanding Teacher Award, awarded
to one faculty member by a vote of faculty and students. Prior to his academic career, Yung worked for a global consulting firm performing financial
and market analysis for global companies with operations in Hong Kong, Taiwan and Mainland China. Later, he oversaw the operations at a Fortune 500
subsidiary in Taipei and Mainland China.
Mr. Ma earned his Ph.D. in Finance at the University of Utah and his B.A. in Economics and Political Science, magna cum laude, at Williams College.
Yung lives in Portland, Oregon with his wife and two children. He is a basketball fan and enjoys cheering on his son’s teams.
Irina Pacheco, CFA
Irina provides quantitative analysis that supports the capital markets outlook, asset allocation strategies, LDI strategies and defined contribution investing at
BMO Global Asset Management. She also contributes to the company’s financial markets publications, develops analysis for new products and tests market
hypotheses.
She joined the company in 2006 as a quantitative fixed income analyst. Irina began her investment experience in 2004 as a senior financial analyst for
Allstate Investments. She began her working career in 1998, when she joined LaSalle Bank/ABN AMRO as a senior relationship banker.
Irina holds an M.B.A. and a B.S. in finance from DePaul University. Before completing her studies in finance in the U.S., she studied computer science for
business, with a focus on computational finance, at Romanian-American University in Bucharest. She is also a CFA® charterholder and a member of the CFA®
Institute and the CFA® Society of Chicago.
1 1
Overview
Our long-term economic view
The coronavirus pandemic has led to recession, collapsing earnings expectations, falling
inflation and interest rates, mass unemployment, unprecedented fiscal stimulus, enormous
budget deficits, and aggressively stimulative monetary policy. Amid the day-to-day fog of
market gyrations, long-term capital market assumptions and their underlying inputs are
as important as ever to serve as a beacon for where we expect to land and what could
change that trajectory. It is also worthwhile to remember that equities in particular are
very long duration assets and even a sharp, multi-year decline in earnings may not have
an overwhelming effect on long-term expected returns.
We expect the sharpest declines from the global downturn to For fixed income, the expected returns take into account both
rebound by 2023, but persistent and longer lasting economic these lower equilibrium interest rate levels and also the current
impacts to remain due to the prior years’ output gap, still high interest rates that have generally declined amid the current
unemployment, ongoing geopolitical tensions, and supply chain global downturn. The net effect for most of fixed income is a
restructuring. These longer-term impacts include lower expected reduction in forward-looking expected returns. Equities have
growth, lower expected interest rates, lower inflation, and similar offsetting considerations — lower growth but a lower
various other considerations. For the large and more developed discount rate and lower starting point due to recent equity market
economies of the U.S., Europe, China, Japan, etc., we do not declines — but the net effect in most cases is slightly higher
believe that high debt levels pose an imminent threat over expected returns. Our model-driven expected equity risk premium
the forecast horizon. Additionally, while we are not making remains unchanged, but on a medium-term basis, we believe
explicit medical predictions related to the pandemic, there is that compression of this premium is a possibility. Such equity risk
an undeniable implicit assumption that immediate effects on premium compression represents an upside risk to our expected
economic activity reduce over the next two years and are largely equity returns over the forecast horizon. One downside risk is a
gone by 2023. reduction in corporate profit margins that could come in the form
of higher corporate taxes or other government policies, but we do
Our prior years’ expectations of flattening yield curves and low
not believe that economic forces alone will drive down corporate
interest rates have largely played out. In the coming years, we
profit margins to levels that prevailed in prior decades.
expect a gradual rise in interest rates to levels that are far below
long-term nominal averages. Long-term equilibrium rates of Over the long run, markets are assumed to move toward
interest, in our view, have again shifted downward primarily due equilibrium where the risk-reward mechanism generally places
to a reduction in inflation expectations. As before, the expected global assets on an imaginary efficient frontier line. We conclude
equilibrium real rate of interest remains just above zero, but this this economic overview by reiterating the same sentence that
level will take a number of years to reach. concluded our late-2019 overview: “That sanguine long-term
path is, as usual, fraught with bumps and cycles, and even
sometimes extremes.”
2The quantitative model framework
The starting point of current Treasury yields is the major factor in Capital market assumptions for equities are based on a
expected returns remaining generally below the historical levels discounted payout model incorporating both dividends and share
of the past 20 to 30 years. repurchases. The model incorporates both near-term and long-
term growth assumptions, and an equity risk premium that is
Capital market assumptions for fixed income assets are the result
both historically grounded and forward-looking. The interest rate
of a straightforward bond pricing methodology, where ending
assumptions embedded in the equity valuation model are derived
yields for government bonds of various maturities and the
from the fixed income model, thereby linking the models for
yield changes from current levels are used to derive the impact
internal consistency.
on performance. The compensation for carrying credit risk is
expected to be an average of the current credit spread level and Outside of equities and fixed income, other models are
the median level observed over the past 15 years. specialized and often factor-based.
The development of BMO Capital Market Assumptions is a rigorous, quantitatively driven
process with a robust fundamental overlay.
A 10-year time horizon reduces the volatility around the expected outcome that would prevail with shorter
horizons.
Why a As returns are more volatile during shorter periods than they are over longer periods, shorter-term estimates
10-year time are unsuitable for strategic asset allocation decisions.
horizon?
Conversely, a multi-decade time horizon would not accurately capture potential structural changes in financial
markets. In addition, the majority of our peers produce capital markets assumptions for a 10-year horizon.
Inflation expectation is based on median long-term break-even U.S. inflation over the past 90 days:
• U.S. = 1.15%
• Canada = 1.15%
Key Real rate expectations:
assumptions • U.S. = 0.3%, informed by the Laubach-Williams model1
• Canada = 0.6%, based on historical differential vs. U.S.
Equilibrium short-term rates:
• The 3-month government yield at the end of a 10-year horizon will equal inflation plus the real rate
1
The Laubach-Williams model measures highly persistent movements in the natural rate of interest (or real rate). Source: “Measuring the Natural
Rate of Interest,” by Thomas Laubach and John C. Williams, published in the Review of Economics and Statistics, November 2003. Canadian real rate
expectations calculated using linear regression on the historical real rates of the two countries, applying the regression coefficients to derive the
expected Canadian dollar. All information based on data provided by BMO Global Asset Management Canada.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 310-year Capital Market Assumptions
Broad asset classes
Historical performance (%)
10-year estimates (%) (as of May 31, 2020)1
20-year 20-year 10-year 10-year
Compound Average Standard compound standard compound standard
Asset class return return deviation return deviation return deviation Representative index
U.S. Cash 0.80 0.80 0.65 1.68 0.54 0.64 0.25 ICE BofAML US 3-Month Treasury Bill Index (G0O1)
U.S. Core Investment Grade Bonds 1.50 1.55 3.45 5.21 3.60 3.92 3.07 Bloomberg Barclays U.S. Aggregate Index
U.S. High Yield Corporate Bonds 5.45 5.95 10.55 7.06 10.20 6.71 7.45 Bloomberg Barclays U.S. Corporate High Yield Index
Emerging Markets Corporate Bonds 5.00 5.35 8.90 NA NA 6.11 6.95 JPM CEMBI Broad Diversified Corporate EM Index
U.S. Large Cap Equity (Russell 1000®) 7.05 8.50 18.00 6.12 16.38 13.07 15.72 Russell 1000® Index
U.S. Low Volatility Equity 7.05 7.75 13.65 6.30 12.40 13.14 11.84 S&P 500® Low Volatility Index
U.S. Small Cap Equity 7.60 9.80 22.10 6.93 21.76 9.23 20.86 Russell 2000® Index
International Developed Equity 7.15 8.65 18.25 3.48 17.49 5.86 16.08 MSCI EAFE® Index
Emerging Markets Equity 7.55 10.05 23.55 6.69 23.78 2.83 18.60 MSCI Emerging Markets Index
U.S. Private Equity 10.00 11.25 16.50 NA NA 10.80 15.00 Cambridge Associates PE Index (50/50 VC and LBO)
Broad assets | 10-year forward estimates vs. historical performance
Expected compound return (%)
17.5 10-year estimates
15.0 Last 10 years
12.5 Last 20 years
Trend line (estimates)
10.0
Trend line (last 10 years)
7.5 Trend line (last 20 years)
5.0
2.5
0.0
-2.5
-5.0
-7.5
0 5 10 15 20 25
Risk (standard deviation) (%)
The next ten years will be characterized by generally lower returns, however, risks will remain
comparable to historical experience
1
If historical data is shorter than specified, the statistics are calcultated using the
longest available historical performance.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 4Risk and return trade-off
Broad asset classes
The expected returns and risks, as measured by standard deviation, To the extent that volatility risk does correlate with overall
for various asset classes align reasonably well with a concave portfolio risk and other risks, the accompanying graphs point an
function that associates higher expected return with higher risk, asset class’ risk and return relative to that of other asset classes.
but with diminishing additional returns at greater risk levels. For example, while U.S. Private Equity plots well above the
It is important to note, however, that standard deviation as a risk fitted risk curve, its overall risk which captures liquidity and
measure does not fully capture the overall portfolio risk or other excess tail risk, is not reflected on this two-dimensional graph.
risk dimensions such as liquidity risk and excess tail risk. Thus, U.S. Private Equity may appear too attractive on a relative
basis versus all other assets if only one aspect of its total risk is
These multiple risks will be present across asset classes to
being considered.
varying degrees.
Broad assets | Expected compound returns vs. risks
Expected compound return (%)
Asset class [Compound return % | Risk %]
12
● U.S. Cash [ 0.80% | 0.65% ]
● U.S. Core Investment Grade Bonds [ 1.50% | 3.45% ]
10
● U.S. High Yield Corporate Bonds [ 5.45% | 10.55% ]
● Emerging Markets Corporate Bonds [ 5.00% | 8.90% ]
8
● U.S. Large Cap Equity (Russell 1000®) [ 7.05% | 18.00% ]
● U.S. Low Volatility Equity [ 7.05% | 13.65% ]
6
● U.S. Small Cap Equity [ 7.60% | 22.10% ]
● International Developed Equity [ 7.15% | 18.25% ]
4
● Emerging Markets Equity [ 7.55% | 23.55% ]
● U.S. Private Equity [ 10.00% | 16.50% ]
2
— Trend line
0
-2
0 5 10 15 20 25
Risk (standard deviation) (%)
Overall portfolio risk is a combination of risk metrics (i.e., standard deviation, liquidity risk,
excess tail risk) and it is important that they all be taken into consideration when making
allocation decisions.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 510-year Capital Market Assumptions
Asset class detail: U.S.
Historical performance (%)
10-year estimates (%) (as of May 31, 2020)1
20-year 20-year 10-year 10-year
Compound Average Standard compound standard compound standard
Asset class return return deviation return deviation return deviation Representative index
U.S. Equity 7.10 8.60 18.20 6.19 16.62 12.79 15.99 Russel 3000 Index
U.S. Large Cap Equity (Russell 1000®) 7.05 8.50 18.00 6.12 16.38 13.07 15.72 Russell 1000® Index
U.S. Large Cap Equity (S&P 500®) 7.05 8.45 17.65 5.94 16.02 13.14 15.38 S&P 500® Index
U.S. Low Volatility Equity 7.05 7.75 13.65 6.30 12.40 13.14 11.84 S&P 500® Low Volatility Index
U.S. Mid Cap Equity 7.40 9.40 20.95 8.26 19.03 11.42 17.78 Russell Mid Cap Index
U.S. Small Cap Equity 7.60 9.80 22.10 6.93 21.76 9.23 20.86 Russell 2000® Index
EQUITIES
U.S. Small/Mid Cap Equity 7.45 9.35 20.55 8.13 20.16 10.32 19.74 Russell 2500 Index
U.S. Micro Cap Equity 7.60 10.05 23.40 4.87 22.49 8.33 21.91 Russell Micro Cap Index
Global Equity 7.05 8.45 17.65 4.97 16.72 9.11 15.43 MSCI ACWI Index
Global Tax-Managed Equity 7.10 8.65 17.65 4.97 16.72 9.11 15.43 MSCI ACWI Index
Global Low Volatility Equity 7.05 7.55 11.35 6.29 11.27 9.69 10.56 MSCI ACWI Index
International Developed Equity 7.15 8.65 18.25 3.48 17.49 5.86 16.08 MSCI EAFE® Index
International (ex US) Small Cap Equity 7.45 9.40 20.90 7.33 19.90 8.19 17.62 MSCI EAFE® Small Cap Index
Emerging Markets Equity 7.55 10.05 23.55 6.69 23.78 2.83 18.60 MSCI Emerging Markets Index
U.S. Cash 0.80 0.80 0.65 1.68 0.54 0.64 0.25 ICE BofAML US 3-Month Treasury Bill Index (G0O1)
10-year U.S. Treasury Note 0.50 0.75 7.35 5.56 7.66 4.81 6.75 ICE BofAML Current 10-Year US Treasury Index (GA10)
U.S. Intermediate Government-Credit Bonds 1.25 1.30 3.00 4.64 3.09 3.20 2.35 Bloomberg Barclays U.S. Intermediate Govt-Credit Index
U.S. Investment Grade Corporate Bonds 2.60 2.75 5.95 6.21 6.02 5.48 5.25 Bloomberg Barclays U.S. Corporate Index
U.S. Core Investment Grade Bonds 1.50 1.55 3.45 5.21 3.60 3.92 3.07 Bloomberg Barclays U.S. Aggregate Index
U.S. Long Credit Bonds 3.15 3.55 9.65 7.98 10.16 7.88 9.21 Bloomberg Barclays U.S. Long Credit Index
FIXED INCOME
U.S. Long Government-Credit Bonds 2.05 2.45 9.30 8.01 9.79 8.10 9.41 Bloomberg Barclays U.S. Long Govt-Credit Index
U.S. High Yield Corporate Bonds 5.45 5.95 10.55 7.06 10.20 6.71 7.45 Bloomberg Barclays U.S. Corporate High Yield Index
U.S. Bank Loans 5.25 5.50 7.75 4.46 7.05 4.01 5.62 S&P/LSTA Leveraged Loan Total Return Index
Emerging Markets Sovereign Bonds 5.15 5.50 9.20 8.55 9.49 5.88 8.57 JPM EMBI Global Diversified Sovereign Index
Emerging Markets Corporate Bonds 5.00 5.35 8.90 NA NA 6.11 6.95 JPM CEMBI Broad Diversified Corporate EM Index
Non-U.S. Developed Core Bonds 1.15 1.45 7.80 4.21 8.23 2.03 7.02 Bloomberg Barclays Global Aggregate Ex-USD Index
U.S. Core Municipal Bonds 1.40 1.45 3.45 4.15 3.16 3.08 2.69 Bloomberg Barclays Municipal Bonds Index (1-10 yr)
U.S. Long-Duration Municipal Bonds 2.10 2.35 7.20 5.96 6.83 5.41 6.09 Bloomberg Barclays Long Municipal Bonds Index (22+)
U.S. High Yield Municipal Bonds 3.10 3.40 8.15 5.61 7.42 5.76 6.92 Bloomberg Barclays High Yield Municipal Bonds Index
Catastrophe Bonds 5.60 6.00 8.80 NA NA 5.85 3.82 Swiss Re Cat Bond Total Return Index
Structured Credit (CLOs/CDOs) 6.20 7.00 13.20 NA NA 5.72 8.31 J.P. Morgan CLO Mezz Total Return Index
Commodities 2.30 3.60 17.10 -2.38 15.89 -6.57 13.46 Bloomberg Commodities Index
Hedge Funds - Liquid 4.60 4.85 6.95 2.31 3.98 1.48 3.74 Wilshire Focused Liquid Altrnative TR USD
Hedge Funds - Long/Short Equity 5.40 5.70 8.20 6.35 7.81 5.15 8.36 HFRI Equity-Hedged Hedge Fund Index
ALTERNATIVES
Hedge Funds - Multi Strategy 5.35 5.45 5.20 5.97 5.47 5.00 5.01 HFRI Event-Drive Hedge Fund Index
Global Infrastructure (closed-end) 6.00 6.55 11.00 NA NA NA NA Cambridge Associates Global Tangible Assets Index
Global Infrastructure (open-end) 5.00 6.15 15.85 NA NA 7.03 15.47 S&P Global Infrastructure Index
MLPs 7.60 11.40 28.90 8.82 26.26 -0.06 29.84 Alerian MLP Total Return Index
U.S. Private Equity 10.00 11.25 16.50 NA NA 10.80 15.00 Cambridge Associates PE Index (50/50 VC and LBO)
Global Private Equity 9.00 10.25 16.50 0.15 22.78 8.75 15.00 Average of US and European PE
U.S. REITs 5.75 8.10 22.90 9.39 23.03 8.98 17.13 Dow Jones US REIT Index
Global. REITs 5.40 7.35 20.75 8.92 20.53 7.57 16.98 S&P Global REIT USD Total Return Index
10-year
return (%)
EUR - USD 0.55
USD - JPY 0.70
FOREIGN EXCHANGE
GBP - USD 0.90
USD - CAD -0.35
USD - GBP -0.90
CAD - JPY 1.05
GBP-CAD 0.55
GBP-EUR 0.35
GBP-JPY 1.60 1
If historical data is shorter than specified, the statistics are calcultated using the
longest available historical performance.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 6Risk and return trade-off
Asset class detail: U.S.
Equities | Expected compound returns vs risks
Equities | Expected compound returns vs. risks
Expected compound return (%)
Asset class [Compound return % | Risk %]
7.7
U.S. Equity [ 7.10% | 18.20% ]
U.S. Large Cap Equity (Russell 1000®) [ 7.05% | 18.00% ]
7.6 U.S. Large Cap Equity (S&P 500®) [ 7.05% | 17.65% ]
U.S. Low Volatility Equity [ 7.05% | 13.65% ]
7.5 U.S. Mid Cap Equity [ 7.40% | 20.95% ]
U.S. Small Cap Equity [ 7.60% | 22.10% ]
7.4 U.S. Small/Mid Cap Equity [ 7.45% | 20.55% ]
U.S. Micro Cap Equity [ 7.60% | 23.40% ]
7.3 Global Equity [ 7.05% | 17.65% ]
Global Tax-Managed Equity [ 7.10% | 17.65% ]
Global Low Volatility Equity [ 7.05% | 11.35% ]
7.2
International Developed Equity [ 7.15% | 18.25% ]
International Small Cap Equity [ 7.45% | 20.90% ]
7.1
Emerging Markets Equity [ 7.55% | 23.55% ]
7.0
8 13 18 23 28
Risk (standard deviation) (%)
Fixed
Fixed Income
Income ||Expected
Expectedcompound
compound returns
returns vs risks
vs. risks
Expected compound return (%)
Asset class [Compound return % | Risk %]
7
U.S. Cash [ 0.80% | 0.65% ]
10-yr U.S. Treasury Note [ 0.50% | 7.35% ]
6 U.S. Intermediate Government-Credit Bonds [ 1.25% | 3.00% ]
U.S. Investment Grade Corporate Bonds [ 2.60% | 5.95% ]
5 U.S. Core Investment Grade Bonds [ 1.50% | 3.45% ]
U.S. Long Credit Bonds [ 3.15% | 9.65% ]
4 U.S. Long Government-Credit Bonds [ 2.05% | 9.30% ]
U.S. High Yield Corporate Bonds [ 5.45% | 10.55% ]
3 U.S. Bank Loans [ 5.25% | 7.75% ]
Emerging Markets Sovereign Bonds [ 5.15% | 9.20% ]
Emerging Markets Corporate Bonds [ 5.00% | 8.90% ]
2
Non-U.S. Developed Core Bonds [ 1.15% | 7.80% ]
U.S. Core Municipal Bonds [ 1.40% | 3.45% ]
1
U.S. Long-Duration Municipal Bonds [ 2.10% | 7.20% ]
U.S. High Yield Municipal Bonds [ 3.10% | 8.15% ]
0
0 2 4 6 8 10 12
Risk (standard deviation) (%)
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 7Risk and return trade-off
Asset class detail: U.S.
Alternatives| |Expected
Alternatives Expected compound
compound returns
returns vs risks
vs. risks
Expected compound return (%)
Asset class [Compound return % | Risk %]
12
Catastrophe Bonds [ 5.60% | 8.80% ]
Structured Credit (CLOs/CDOs) [ 6.20% | 13.20% ]
10 Commodities [ 2.30% | 17.10% ]
Hedge Funds - Liquid [ 4.60% | 6.95% ]
Hedge Funds - Long/Short Equity [ 5.40% | 8.20% ]
8
Hedge Funds - Multi Strategy [ 5.35% | 5.20% ]
Global Infrastructure (closed-end) [ 6.00% | 11.00% ]
6 Global Infrastructure (open-end) [ 5.00% | 15.85% ]
MLPs [ 7.60% | 28.90% ]
U.S. Private Equity [ 10.00% | 16.50% ]
4
Global Private Equity [ 9.00% | 16.50% ]
U.S. REITs [ 5.75% | 22.90% ]
2 Global REITs [ 5.40% | 20.75% ]
0
0 5 10 15 20 25 30
Risk (standard deviation) (%)
All assets | Expected compound returns vs. risks
Expected compound return (%)
12
● Equities
● Fixed Income
10 ● Alternatives
— Trend line
8
6
4
2
0
0 5 10 15 20 25 30
Risk (standard deviation)
Our base premise is that markets will be in an equilibrium state over the long run, thus the risk-
reward mechanism will generally place all global assets on an imaginary efficient frontier line.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 810-year Capital Market Assumptions
Asset class detail: Canada
Historical performance (%)
10-year estimates (%) (as of May 31, 2020)1
20-year 20-year 10-year 10-year
Compound Average Standard compound standard compound standard
Asset class return return deviation return deviation return deviation Representative index
U.S. Large Cap Equity (Russell 1000®) 7.05 8.50 18.00 6.12 16.38 13.07 15.72 Russell 1000® Index (USD)
U.S. Large Cap Equity (S&P 500®) 7.05 8.45 17.65 5.94 16.02 13.14 15.38 S&P 500® Index (USD)
U.S. Large Cap Equity (S&P 500 , in CAD, unhedged)
®
6.70 7.60 14.15 NA NA 16.29 12.35 S&P 500® Index (CAD, unhedged)
U.S. Large Cap Equity (S&P 500®, in CAD, hedged) 7.20 8.70 17.30 NA NA 10.25 15.11 S&P 500® Index (CAD, hedged)
U.S. Small/Mid Cap Equity 7.45 9.35 20.55 8.13 20.16 10.32 19.74 Russell 2500 Index (USD)
EQUITIES
International Developed Equity 7.15 8.65 18.25 3.48 17.49 5.86 16.08 MSCI EAFE® Index (USD)
Emerging Markets Equity 7.55 10.05 23.55 6.69 23.78 2.83 18.60 MSCI Emerging Markets Index (USD)
Canadian Large Cap Equity 6.80 8.05 16.00 5.17 14.96 5.68 12.12 S&P/TSX Composite Index
Canadian Income Equity 6.10 6.90 13.30 6.89 13.39 6.11 11.49 FTSE Canada High Dividend Yield Index
Canadian Small Cap Equity 7.60 9.75 21.90 2.78 19.90 0.65 19.68 S&P/TSX Small Cap Index
Canadian Preferred Equity 5.80 6.75 14.55 NA NA 0.73 10.99 TSX Preferred Share Index
U.S. Cash 0.80 0.80 0.65 1.68 0.54 0.64 0.25 ICE BofAML US 3-Month Treasury Bill Index (USD)
U.S. High Yield Corporate Bonds 5.45 5.95 10.55 7.06 10.20 6.71 7.45 Bloomberg Barclays U.S. Corporate High Yield Index (USD)
Canadian Cash 0.95 0.95 0.40 1.94 0.42 0.94 0.11 Bloomberg Generic 3-mo Canadian Government Yield
Canadian Government Bonds 0.75 0.80 3.35 NA NA 3.55 3.35 FTSE TMX Canada Federal Bonds Index
FIXED INCOME
Canadian Core Inv. Grade Bonds 1.55 1.60 3.80 NA NA 4.64 4.01 FTSE TMX Canada Universe Index
Canadian Core Inv. Grade Short-term Bonds 1.50 1.50 1.70 NA NA 2.64 1.49 FTSE TMX Short Term Overall Bond Index
Canadian Core Inv. Grade Mid-term Bonds 1.50 1.60 4.25 NA NA 5.09 4.14 FTSE TMX Mid Term Overall Bond Index
Canadian IG Corporate Bonds 2.65 2.70 3.95 NA NA 4.91 3.92 FTSE TMX Universe All Corporate Bonds Index
Canadian IG Short-Term Corporate Bonds 2.35 2.40 2.00 NA NA 3.28 1.84 FTSE TMX Short Term Corporate Bonds Index
Canadian IG Mid-Term Corporate Bonds 2.65 2.75 4.65 NA NA 5.69 4.56 FTSE TMX Mid Term Corporate Bonds Index
Canadian IG Long-Term Corporate Bonds 2.90 3.20 8.05 NA NA 7.71 8.15 FTSE TMX Long Term Corporate Bonds Index
ALTS
Canadian REITs 5.50 6.75 16.95 9.02 15.65 7.99 14.44 S&P/TSX Capped REIT Index
10-year
return (%)
EUR - USD 0.55
USD - JPY 0.70
GBP - USD 0.90
FOREIGN EXCHANGE
USD - CAD -0.35
USD - GBP -0.90
CAD - JPY 1.05
GBP - CAD 0.55
GBP - EUR 0.35
GBP - JPY 1.60
1
If historical data is shorter than specified, the statistics are calcultated using the longest available
historical performance. All historical performance is expressed in CAD unless otherwise indicated.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 9Risk and return trade-off
Broad asset classes: Canada
The expected returns and risks, as measured by standard deviation, These multiple risks will be present across asset classes to
for various asset classes align reasonably well with a concave varying degrees.
function that associates higher expected return with higher risk,
To the extent that volatility risk does correlate with overall
but with diminishing additional returns at greater risk levels.
portfolio risk and other risks, the accompanying graphs point an
It is important to note, however, that standard deviation as a risk asset class’ risk and return relative to that of other asset classes.
measure does not fully capture the overall portfolio risk or other
risk dimensions such as liquidity risk and excess tail risk.
Broad assets | Expected average returns vs. risks
Expected average return (%)
12
● Equities
● Fixed Income
10
8
6
4
2
0
0 5 10 15 20 25
Risk (standard deviation) (%)
Our base premise is that markets will be in an equilibrium state over the long run, thus
the risk-reward mechanism will generally place all global assets on an imaginary efficient
frontier line.
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 10Risk and return trade-off
Asset class detail: Canada
Equities | Expected compound returns vs. risks
Expected compound return (%)
Asset Class [Compound Return % | Risk %]
8.5
U.S. Large Cap Equity (Russell 1000) [ 7.05% | 18.00% ]
8.0 U.S. Large Cap Equity (S&P 500) [ 7.05% | 17.65% ]
U.S. Large Cap Equity (S&P 500, in CAD, unhedged) [ 6.70% | 14.15% ]
7.5 U.S. Large Cap Equity (S&P 500, in CAD, hedged) [ 7.20% | 17.30% ]
U.S. Small/Mid Cap Equity [ 7.45% | 20.55% ]
7.0 International Developed Equity [ 7.15% | 18.25% ]
Emerging Markets Equity [ 7.55% | 23.55% ]
6.5 Canadian Large Cap Equity [ 6.80% | 16.00% ]
Canadian Income Equity [ 6.10% | 13.30% ]
6.0
Canadian Small Cap Equity [ 7.60% | 21.90% ]
Canadian Preferred Equity [ 5.80% | 14.55% ]
5.5
5.0
4.5
10.0 12.5 15.0 17.5 20.0 22.5 25.0 27.5
Risk (standard deviation) (%)
Fixed Income | Expected compound returns vs. risks
Expected compound return (%)
Asset Class [Compound Return % | Risk %]
7
U.S. Cash [ 0.80% | 0.65% ]
U.S. High Yield Corporate Bonds [ 5.45% | 10.55% ]
6 Canadian Cash [ 0.95% | 0.40% ]
Canadian Government Bonds [ 0.75% | 3.35% ]
5 Canadian Core Inv. Grade Bonds [ 1.55% | 3.80% ]
Canadian Core Inv. Grade Short-term Bonds [ 1.50% | 1.70% ]
4 Canadian Core Inv. Grade Mid-term Bonds [ 1.50% | 4.25% ]
Canadian IG Corporate Bonds [ 2.65% | 3.95% ]
3 Canadian IG Short-Term Corporate Bonds [ 2.35% | 2.00% ]
Canadian IG Mid-Term Corporate Bonds [ 2.65% | 4.65% ]
2 Canadian IG Long-Term Corporate Bonds [ 2.90% | 8.05% ]
1
0
0 4 8 12
Risk (standard deviation) (%)
Source: Bloomberg, BMO Global Asset Management, BMO Wealth Management 11This is not intended to serve as a complete analysis of every material fact regarding any company, industry or security. The opinions expressed here reflect our judgment at this date and are subject to change. This publication is prepared for general information only. This material does not constitute investment advice and is not intended as an endorsement of any specific investment. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek advice regarding the appropriateness of investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Investment involves risk. Market conditions and trends will fluctuate. The value of an investment as well as income associated with investments may rise or fall. Accordingly, investors may receive back less than originally invested. Investments cannot be made in an index. Past performance is not necessarily a guide to future performance. The firm maintains a complete list and description of composites and GIPS® performance disclosures which are available upon request. BMO Global Asset Management is the brand name for various affiliated entities of BMO Financial Group that provide investment management, retirement, and trust and custody services. Certain of the products and services offered under the brand name BMO Global Asset Management are designed specifically for various categories of investors in a number of different countries and regions and may not be available to all investors. Products and services are only offered to such investors in those countries and regions in accordance with applicable laws and regulations. BMO Financial Group is a service mark of Bank of Montreal (BMO). Simulated returns of the proposed allocation strategy do not reflect the deduction of investment advisory fees, as such actual returns may be reduced by advisory fees and any other expenses it may incur in the management of the advisory account. The performance and sample portfolio characteristic information of the proposal was simulated using the assumptions and model portfolio characterizations that would be used to manage the proposed portfolio. The sample portfolio is not based on actual results and no actual investments have been managed under this specific proposed strategy. Presentation of these hypothetical results does not, in any way guarantee that future performance will achieve similar results. Such results do not represent the impact that material economic and market factors might have on an investment adviser’s decision-making process if the adviser were actually managing client money. A complete list and description of composites is available upon request. Representative account expected returns are based on hypothetical performance and do not represent actual investment performance. Expected returns are representative of BMO Global Asset Management specialist opinion of prevailing yield rates at the time. Yields are not representative of an Index, representative account, composite, or any account managed by BMO Global Asset Management. Yields presented are hypothetical (they do not reflect trading conducted in actual accounts or composites) and is provided for informational purposes to indicate general historical yields had the strategy been available over the relevant period. Presentation of these hypothetical yields results does not, in any way, guarantee that future yields will achieve similar results. Sample accounts used for these demonstration purposes may be managed in a manner the same as, or substantially similar to, that of a typical managed account; examples of, but not limited to, the differences in the management of actual institutional accounts may be due to size, number of securities contained, specific client guideline restrictions, or tax or other strategy limitations. BMO Global Asset Management has attempted to set the factors, model settings, and limitations for this presentation to best represent the most realistic or most common institutional account mandate for this strategy presentation. BMO Global Asset Management may compensate some of its employees for client referrals. It also may enter into an arrangement where payments are made to the firm’s affiliates, Bank of Montreal, the BMO Harris, N.A., and other entities in the BMO group of companies for clients referred from certain areas of BMO. Such payments are made at the firm’s expense and do not result in any additional fee to advisory clients. ® ”BMO (M-bar roundel symbol)” is a registered trademark of Bank of Montreal, used under license.
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