Q&A: 5-Year Forecasted Asset Class Returns

|
Includes: BIL, DDM, DFVL, DFVS, DIA, DLBS, DOG, DTUL, DTUS, DTYL, DTYS, DXD, EDV, EEH, EGF, EPS, EQL, FEX, FIBR, FWDD, GBIL, GOVT, GSY, HUSV, HYDD, IEF, IEI, ITE, IVV, IWL, IWM, JHML, JKD, OTPIX, PLW, PSQ, PST, QID, QLD, QQEW, QQQ, QQQE, QQXT, RISE, RSP, RWM, RYARX, RYRSX, SCAP, SCHO, SCHR, SCHX, SDOW, SDS, SFLA, SH, SHV, SHY, SMLL, SPDN, SPLX, SPUU, SPXE, SPXL, SPXN, SPXS, SPXT, SPXU, SPXV, SPY, SQQQ, SRTY, SSO, SYE, TAPR, TBF, TBT, TBX, TLH, TLT, TMF, TMV, TNA, TQQQ, TTT, TUZ, TWM, TYBS, TYD, TYNS, TYO, TZA, UBT, UDOW, UDPIX, UPRO, URTY, UST, UWM, VFINX, VGIT, VGLT, VGSH, VOO, VTWO, VUSTX, VV, ZROZ
by: Columbia Threadneedle Investments
Summary

Six months ago, the S&P 500 5-year forecasted return was 6.3%, and that's been cut to 5.9%.

Our five-year outlook is based on expectations for future earnings growth.

For asset allocators, the forecast argues for staying invested while being mindful of the tactical changes that may need to happen.

By Anwiti Bahuguna, Ph.D., Senior Portfolio Manager, Head of Multi-Asset Strategy

Downside risks to growth have increased, and trade policy risks have intensified. Here are the key takeaways from our five-year outlook.

The most recent update to five-year forecasted returns from the Global Asset Allocation Team forecasts lower returns across asset classes. Anwiti Bahuguna explains how the team developed its forecast and makes the case for staying invested.

Source: Columbia Threadneedle Investments as of July 2019. Past performance does not guarantee future results.

Q: What are the significant changes in the outlook since December 2018?

Anwiti: What most people may notice immediately is that the return forecasts are lower. Six months ago, the S&P 500 5-year forecasted return was 6.3%, and that's been cut to 5.9%. Returns are lower in fixed income as well. A significant driver of the fixed-income revisions was the change in the Fed's stance on rates - the pivot from hiking to a much more accommodative view. Expectations for yields have come down and returns are lower.

Q: How do you develop these forecasts?

Anwiti: Our five-year outlook is based on expectations for future earnings growth, and these expectations have come down to be in line with overall economic growth and inflation data. To develop our forecasts of expected return, we build three scenarios. Our baseline outlook is that we continue to see economic growth - perhaps a bit slower than we've seen recently as the boost provided by 2018 fiscal policy changes fades - but still in the range of 2%. With inflation expected at a similar rate, we see a nominal growth rate of 4%. Add to that the contribution of dividends, and we see stock returns of, essentially, 6%.

Q: What are some of the key risks that have developed over the last six months?

Anwiti: The great risk to our baseline case is the trade war. At the beginning of the year, the outlook on trade was a bit more sanguine - there was an expectation that trade talks would yield an agreement. In May, talks faltered, and now it looks like a resolution will probably be delayed. If the trade war continues, the likely immediate effect would be higher inflation. In the final analysis, if there's a significant impact on growth - from a reduction in real purchasing power, reduced business capex and a stock market sell-off - the impact of these tariffs may be deflationary.

Q: Portions of the yield curve are inverted, which historically has been a precursor to a recession. Given the long-term nature of these forecasts, can you speak to that possibility?

Anwiti: The risks of a recession are elevated, but there are some positive data points to consider alongside the slowing growth and inflation numbers and the yield curve. The Federal Reserve Board is paying close attention to the economic data and has stated its commitment to supporting the economy. The Fed has made it clear that, for the foreseeable future, monetary policy will be accommodative, and this is ahead of any data actually indicating a recession. If this is true and the trade war doesn't escalate, it's tough to make the case that a recession will occur. Yield curves are imperfect predictors, and they can also steepen. This hasn't happened yet, but the Fed has not implemented any cuts yet either. It's not out of the realm of possibility that we see a recession in the next three to five years, but we would not make the case for one in the next 12 months given the data and the Fed's prudent stance on monetary policy.

Q: What is the key takeaway from an asset allocation perspective?

Anwiti: Stay diversified! Don't let the recent data drive harmful long-term decisions. If you look at year-to-date returns across asset classes, they are very strong. Equity has been strong in the U.S. and internationally. Bond returns, especially in high yield, have also been very strong. For asset allocators, the forecast argues for staying invested while being mindful of the tactical changes that may need to happen.

Disclosures

Diversification does not assure a profit or protect against loss. Investing involves risk including the loss of principal.

The S&P 500 Index tracks the performance of 500 widely held, large-capitalization U.S. stocks.

Past performance is not a guarantee of future results.

Equity forecasts are based on three components: expected dividend payments, expected earnings growth and change in valuation levels (price-to-earnings ratios). Expected earnings growth is driven by expected economic growth, input cost changes and pricing power. Fixed-income forecasts are based on the shape of the yield curve, direction of interest rates, increase/decrease in yield spreads and timing of those changes. The major asset classes are based on the following indices: U.S. large-cap stocks (S&P 500 Index), U.S. small-cap stocks (Russell 2000 Index), Developed market stocks USD (MSCI EAFE Index), Emerging market stocks USD (MSCI EM Index), Cash (FTSE U.S. Domestic 3-Month T-Bill Index), U.S. Treasuries (Bloomberg Barclays U.S. Treasury Index), Municipal Bonds (Bloomberg Barclays Municipal Bond Index), Global sovereign bonds USD (Bloomberg Barclays Global Treasury Index (excl. U.S.), Investment-grade corporate bonds (Bloomberg Barclays U.S. Aggregate Credit Index), High-yield corporate bonds (Bloomberg Barclays Corporate High Yield Index), Emerging market debt USD (JPMorgan EMBI Global Diversified Index), Absolute return (FTSE U.S. Domestic 3-Month T-Bill Index, Commodities (Bloomberg Commodity Index).

© 2019 Columbia Management Investment Advisers, LLC. All rights reserved.

Use of products, materials and services available through Columbia Threadneedle Investments may be subject to approval by your home office.

† By clicking the Glossary link above, you will be leaving columbiathreadneedle.com/us. View our Terms and Conditions for our hyperlinking disclosure.

With respect to mutual funds, ETFs and Tri-Continental Corporation, investors should consider the investment objectives, risks, charges and expenses of a fund carefully before investing. To learn more about this and other important information about each fund, download a free prospectus. The prospectus should be read carefully before investing.

Investors should consider the investment objectives, risks, charges, and expenses of Columbia Seligman Premium Technology Growth Fund carefully before investing. To obtain the Fund's most recent periodic reports and other regulatory filings, contact your financial advisor or download reports here. These reports and other filings can also be found on the Securities and Exchange Commission's EDGAR Database. You should read these reports and other filings carefully before investing.

The views expressed are as of the date given, may change as market or other conditions change and may differ from views expressed by other Columbia Management Investment Advisers, LLC (CMIA) associates or affiliates. Actual investments or investment decisions made by CMIA and its affiliates, whether for its own account or on behalf of clients, may not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not take into consideration individual investor circumstances. Investment decisions should always be made based on an investor's specific financial needs, objectives, goals, time horizon and risk tolerance. Asset classes described may not be suitable for all investors. Past performance does not guarantee future results, and no forecast should be considered a guarantee either. Since economic and market conditions change frequently, there can be no assurance that the trends described here will continue or that any forecasts are accurate.

Columbia Funds and Columbia Acorn Funds are distributed by Columbia Management Investment Distributors, Inc., member FINRA. Columbia Funds are managed by Columbia Management Investment Advisers, LLC and Columbia Acorn Funds are managed by Columbia Wanger Asset Management, LLC, a subsidiary of Columbia Management Investment Advisers, LLC. ETFs are distributed by ALPS Distributors, Inc., member FINRA, an unaffiliated entity.

Columbia Threadneedle Investments (Columbia Threadneedle) is the global brand name of the Columbia and Threadneedle group of companies.

NOT FDIC INSURED · No Bank Guarantee · May Lose Value

Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.