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Asset Allocation: When Conventional Wisdom Fails
Sébastien Page, CFA
Head of Global Multi-Asset,
T. Rowe Price
FOR CONFERENCE ATTENDEES ONLY. NOT FOR FURTHER DISTRIBUTION.
AAII - May 2021
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10/13/2020 to 5/5/2021
When will enough doses of FDA-approved COVID-19 vaccine(s) to inoculate 200 million people be distributed in the United States?
Source: Good Judgment Inc. Aggregation by T. Rowe Price. Optimistic is defined as before 1 July 2021. Pessimistic is defined as after 1 July 2021.
Optimistic Pessimistic
1%Pessimistic
99%Optimistic
0%
20%
40%
60%
80%
100%
10/13/2020 11/13/2020 12/13/2020 01/13/2021 02/13/2021 03/13/2021 04/13/2021
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-4%
-2%
0%
2%
4%
6%
8%
10%
1990 1993 1996 1999 2002 2005 2008 2011 2014 2017 2020
1/31/1990 to 4/30/2021
Equity Risk PremiumS
&P
50
0 E
arn
ing
s Y
ield
le
ss
10
Ye
ar
U.S
. T
rea
su
ry Y
ield
S&P 500 Earnings Yield Premium to 10-Year U.S. Treasury Yield As of 4/30/2021
Past performance is not a reliable indicator of future performance.
Sources: Bloomberg Finance L.P., Standard & Poor’s, T. Rowe Price analysis using data from FactSet Research Systems Inc. All rights reserved.
Most Expensive
Current Percentile Rank vs. Historical
58thCheapest
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-4%
-3%
-2%
-1%
0%
1%
2%
3%
4%
5%
6%
-1%
0%
1%
2%
3%
4%
5%
6%
7%
2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021
Global Stimulus
Impulse of Global Stimulus/Global Assets Ratio
YoY Change in the Impulse
T. Rowe Price Forecast Impulse of
Global Stimulus/Global Assets Ratio
T. Rowe Price Forecast YoY Change in the Impulse
Yo
Y C
ha
ng
e in
th
e Im
pu
lse
Glo
ba
l S
tim
ulu
s/G
lob
al A
ss
ets
Im
pu
lse
Figures are in USD. Sources: Bloomberg Finance, L.P., U.S. Federal Reserve, ECB, BoJ, Bloomberg Index Services Limited.
Global Stimulus and Global Assets are calculated as: numerator = stimulus and denominator = assets. Numerator = 12m change in (U.S. Fed balance sheet + ECB balance sheet + BoJ balance sheet) + 12m rolling U.S. fiscal
deficit + 12m change in Chinese banking system claims. Denominator = 12m average of (global equity market cap + Bank of International Settlements (BIS) total credit to the non-financial sector). Note that Bloomberg Barclays
Global Aggregate Index is used where BIS data are not yet available.
1/1/2006 to 3/31/2021, estimates from 4/30/2021 to 9/30/2021
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0%
2%
4%
6%
8%
10%
12%
14%
1983 1986 1989 1992 1995 1998 2001 2004 2007 2010 2013 2016 2019
Fed Funds vs. 2-Year and 10-Year Treasury Yields
0.17%
1.70%
0.13%
2-Year U.S. Treasury Yield 10-Year U.S. Treasury Yield Federal Fund Rates
Past performance is not a reliable indicator of future performance.Sources: Haver Analytics, Federal Reserve Board.
1/1/1983 to 4/30/2021
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Long-Term Expected Returns
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SAA Equity Forecast
Past performance is not a reliable indicator of future performance.
For the period of January 1881 through March 2021. Figures calculated in U.S. Dollars.
Source: Robert Shiller data set, eon.yale.edu/~shiller/data.htm
Replaced trailing earnings with 12-M forward earnings January 1990.
Shiller CAPE Siegel
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0%
2%
4%
6%
8%
10%
12%
14%
16%
18%
0% 2% 4% 6% 8% 10% 12% 14% 16% 18%
10-year Treasury Yield at the start of the period
Subse
quent 10-Y
ear
Retu
rn o
f U
.S. T
reasu
ry In
dex
Correlation = 91%
U.S. 10-Year Treasury Bond Yield vs. Subsequent 10-Year Return of U.S. Treasury
Past performance is not a reliable indicator of future performance.For the period of January 31, 1973 through July 30, 2010. Figures calculated in U.S. Dollars.
Source: Bloomberg Finance L.P.
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ILLUSTRATIVE PURPOSES ONLY. There is no guarantee that any forecasts made will come to pass. Shiller P/E: As of February 9, 2021. Source: multpl.com/shiller-pe. Siegel P/E: As of March 3, 2021. Source: Bloomberg, EST P/E Nxt Y. Inflation assumption based on 10-year breakevensas of March 3, 2021. YTW is on the Bloomberg Barclays U.S. Aggregate Bond Index as of March 3, 2021.
Sources: Bloomberg Finance L.P., and Bloomberg Index Services Limited. Figures calculated in U.S. Dollars.1Source for historical total returns: S&P 500 Index2Source for historical total returns: Bloomberg Barclays US Aggregate Bond Index
Last 20 Years Next 5-10 Years?
Stocks1 10.3% 6.8%
Bonds2 5.7% 1.4%
Last 20 Years
6.5%
Stock Allocation Required for a Potential 6% Return
Next 5-10 Years?
85%Stocks Model
“Shiller
CAPE" Siegel
Ratio 1/35 1/20
Yield 2.9% 5.0%
Inflation 2.2%
Return 5.1% 7.2%
Probability 20% 80%
Expected
Return6.8%
Bonds
YTW 1.4%
Long-Run Return ForecastingExample Using P/E Ratios
Inverse of P/E
Implied
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98 98 9897 95
87
77
65
5551
4845
41
36
30 30 30
0
10
20
30
40
50
60
70
80
90
100
40+ 35 30 25 20 15 10 5 0 5 10 15 20 25 30 35 40+
Pe
rce
nt (%
)
Equity
Fixed Income
Years to retirement Years through retirement
Target Date Glide Path
55
ILLUSTRATIVE PURPOSES ONLY.
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When Diversification Fails
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Source: Dowd, Kevin, John Cotter, Chris Humphrey, and Margaret Woods. 2008. "How Unlucky is 25 -Sigma?", The Journal of Portfolio Management, Volume 34, Number 4, pp. 76–80.
A 20-sigma event corresponds
to an expected-occurrence
period measured in years that is
10 times larger than the high
end of the estimated range for
the number of particles in the
universe.-Dowd et al.
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1.94Sharpe Ratio of hypothetical
systematic strategy,
compared to 0.98 for the
S&P 500.
Based on an academic case study conducted by Andrew Lo and featured in the Financial Analysts Journal.
Lo, Andrew W. 2001. "Risk Management for Hedge Funds: Introduction and Overview", Financial Analysts Journal, Volume 57, Numb er 6, pp. 16 -33.
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Source: Financial Analysts Journal, “When Diversification Fails,” Sebastien Page and Robert A. Panariello, Third Quarter 2018 Issue, Vol. 74, Number 3. Data as of June 2017. Monthly data, with start dates based on availability –
see paper for start dates and data sources. Left tail and right tail correlations are at the 1st and 99th percentiles, but are adjusted using the data-augmentation methodology. Full correlation profiles (adjusted, unadjusted, and
normal) are shown in the paper.
Access the full publication on the CFA Institute website at https://www.cfapubs.org/doi/pdf/10.2469/faj.v74.n3.full
Sources: MSCI, Russell, Bloomberg Index Services Limited, NAREIT, and HFRI (see Additional Disclosures)
54%
7%
56%
1%
73%
-8%
76%
-3%
77%
-42%
78%
27%
80%
35%
86%
36%
87%
-16%
91%
28%
-60%
-40%
-20%
0%
20%
40%
60%
80%
100% Stocks vs. Corporate Bonds
Stocks vs. Real Estate
Stocks vs. Hedge Funds
Stocks vs. HY Bonds
Stocks vs. MBS
Stocks vs. EM Bonds
US vs. EM Stocks
Value vs. Growth Stocks
US vs. EAFE Stocks
Small vs. Large Stocks
When Diversification Fails
Down market Up market
Correlations for Key Asset Classes
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Modernized 60/40
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Modernized 60/40 Approach
Large Cap Global Equity
Large Cap Equity - Risk Mitigated
Small Cap (U.S. and Intl)
EM EquityVolatility Risk Premia
Real Asset Equities and TIPS
HY and Loans
Emerging Markets
Long Gov/Long IG Credit
Traditional Bonds (U.S. and non-U.S.)
Liquid Alts / Absolute Return
Provided for informational purposes only. This material is not intended to be a recommendation or advice to undertake any investment action, as each investor's portfolio is built on many custom inputs, including individual
circumstances, investment objectives and risk tolerance.
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For more on my views on these topics, see Beyond Diversification: What
Every Investor Needs to Know About Asset Allocation, McGraw Hill, 2020.
Proceeds from book sales are donated
to the T. Rowe Price Foundation, working to alleviate poverty in Baltimore
and other cities where T. Rowe Price does business around the world.
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Additional DisclosuresSource: MSCI. MSCI and its aff iliates and third party sources and providers (collectively, “MSCI”) makes no express or implied w arranties or representations and shall have no liability w hatsoever w ith
respect to any MSCI data contained herein. The MSCI data may not be further redistributed or used as a basis for other indices or any securities or f inancial products. This report is not approved, review ed,
or produced by MSCI. Historical MSCI data and analysis should not be taken as an indication or guarantee of any future performance analysis, forecast or prediction. None of the MSCI data is intended to
constitute investment advice or a recommendation to make (or refrain from making) any kind of investment decision and may not be relied on as such.
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Data Sources - Page 14
The conditional correlations show n w ere based on the follow ing asset classes, indexes, and data series start dates. U.S. Stoc ks/Large Stocks:
MSCI USA Index, January 1970; Developed Markets (EAFE) Stocks: MSCI EAFE Index (Local), January 1970; Emerging Markets (EM) Stocks: MSCI Emerging Markets
Index (Local), January 1988; Grow th Stocks1: Russell 1000 Grow th Index, February 1978; Small Stocks: Russell 2000 Index, February 1978; Corporate Bonds:
Bloomberg Barclays U.S. Corporate Index, August 1988; Mortgage Backed Securities: Barclays U.S. MBS Index, August 1988; High Yield (HY) Bonds: Bloomberg
Barclays U.S. High Yield Index, August 1988; Emerging Market (EM) Bonds: Bloomberg Barclays Emerging Markets Bond Index, August 1988; Real Estate: NAREIT
All Equity Index, January 1972; Hedge Funds: HFRI Global Hedge Funds Index, January 1988.
(Grow th Stocks w ere conditioned against Value Stocks (represented by the Russell 1000 Value Index).
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