Annual Edition 2021 Climbing the hill Asset classes views: Medium to long-term scenarios and return forecasts Document for the exclusive attention of professional clients, investment services providers and any other professional of the financial industry March 2021 Climbing the hill Table of Contents Foreword 3 Climbing the hill: medium to long term scenarios and returns forecasts 4 HIGHLIGHTS AND CONVICTIONS 7 - Macro and financial landscape: Central Scenario 8 - Advanced Investment Phazer 9 - Alternative scenarios: navigating between “low growth/high inflation” and “high growth/low inflation” regimes 13 RETURN FORECASTS & MACROECONOMIC ASSUMPTIONS 19 - Central Scenario Asset Class Highlights 20 - Annualised Return Forecasts 22 - Expected Returns under the Central Scenario 23 - Expected Returns under Central vs. Alternative scenarios 24 - Focus on Medium-term Expected Returns 26 - Macroeconomic assumptions: our central scenario 27 - Assessing upside and downside risks around our central scenario 29 CLIMBING THE HILL 35 RETURNS BY ASSET CLASS AND ASSET ALLOCATION IMPLICATIONS: DRIVERS AND ASSUMPTIONS 37 - Developed Markets Sovereign 38 - The impact of an ultra-low/negative interest rate environment and QE on asset prices, currencies and inflation, particularly in the US, Europe and Japan 43 - Emerging markets Sovereign 45 - Credit 47 - Global Equity 49 - Long Term Identities: a sanity check over decades 54 - Equity market expected returns: forthcoming trends and changes from a sectoral perspective 56 - Currencies 60 - Asset allocation implications: looking for risk/return dislocation on strategic horizon 63 - Asset allocation modelling including real and alternative assets 65 - Strategic Asset allocation on global universe with real and alternative assets 69 ESG THEMATICS 73 - ESG Long Term ERP will be an important component 74 - Green preferences, and its impact on long-term return 77 APPENDIX - CASM: our medium- to long-term asset classes modelling framework 79 References 81 This document embraces Amundi’s view on asset returns used to build reference portfolios for our institutional clients. The edition published during first quarter of the year covers major macro and financial foundations, while on a quarterly basis will provide tables updates Return Table of Contents 2 Document for the exclusive attention of professional clients, investment services providers and any other professional of the financial industry Climbing the hill March 2021 Foreword As the new decade dawns upon us, we are beginning to see the light at the end of the tunnel. The unprecedented nature of the current crisis required correctives on multiple fronts on a global scale. With many of these measures in place or in the pipeline, the much-awaited recovery is within reach, but the path forward remains arduous, nonetheless. While we can afford to breathe a sigh of relief having avoided the cliff edge, we remain wary of the tasks that lie ahead in the spirit of the much- celebrated Amanda Gordon’s “The Hill We Climb” to “have our eyes on the future”. In Amundi’s 2021 Medium- and Long-Term Forecasts, we present a summary representation of possible evolutions of the macro-economic landscape and their impact on the multi-asset investment universe, complemented by the outlook for alternative assets. In line with previous editions, we continue to provide coverage for a multitude of narratives that are singularly relevant considering the current crisis and its ongoing aftershocks. Notably, our focus spectrum now includes ESG (Environmental, Social and Governance), a factor that we believe will play a significant Pascal BLANQUÉ Group Chief Investment role in moulding future investment opportunity sets. Officer There is no doubt the climb out ahead of us will be more onerous and atypical of past recoveries. Our central tenet is that policies worldwide will continue to be accommodative for as long as necessary but will be asynchronous because the Covid cycle is at different stages in different regions. The recovery ahead will undoubtedly be uneven, as economic, political, and vaccination setbacks could prove to be potential headwinds to the structural shifts to come. Global economic rehabilitation is bound to be slow yet steady, as authorities maintain a watchful eye There is no doubt on the unfolding events. the climb out The downside scenario we articulated last year has been exacerbated by the Covid crisis from various sources that include inequality, climate change, and divergence ahead of us will of markets and the real economy. The various stimulus packages are only providing be more onerous a short-term fix to the economy while the supply chain fail to rebuild and monetary and atypical of authorities run out of manoeuvring room, resulting in inflationary pressures with lagging demand. While this may be a black swan event, experience has taught us the past recoveries perils of ignoring the rare events. Amid the gloom lies the distinct possibility that the multitude of ongoing vaccination programmes prove to be successful. In the spirit of Schumpeter’s creative destruction, we have pondered the likelihood of a return to the “roaring 20s”, where from the embers caused by the crisis arises a reengineered economy, with novel industries sprouting productivity gains paired with revamped demand allowing orderly deleveraging. However, we are keeping in mind that this broad range of narratives prepares us for any turning points in the paths ahead to come befitting our role as the architects of Fate. Return Table of 3 Contents Document for the exclusive attention of professional clients, investment services providers and any other professional of the financial industry March 2021 Climbing the hill Highlights and convictions Monica DEFEND, Climbing the hill: Global Head of Research medium- to long-term scenarios and return forecasts Vincent MORTIER, Deputy Group Chief 2020 was the year when the unthinkable became possible: the global economies Investment Officer experienced a major shock due to the coronavirus pandemic that triggered a loss of productivity, lower capital investment and diminished labour force participation. In the end, policy responses have been powerful and coordinated. The challenge for policy makers now is to heal wounds, provide relief and boost fundamentals to reverse the trends in the major factors that determine growth. What happened in 2020 anticipated and actually exacerbated, albeit not for the Policy reason we expected, what we set out last year in our downside scenario: EPS (and decisions in GDP) recession, rates moving even lower, cemented partnership between monetary the next two and fiscal policies driving the way, resulting in higher debt and inflation. to three years At first glance, in terms of the Medium- to Long-Term Scenario and Return Forecasts, it might seem out of scope, but we think that a focus on the trends for the next two to will be pivotal three years is relevant to outline what comes next. We are convinced that later in 2021 we will likely get into a juncture for a regime shift: by that time, the pandemic should be under control and fiscal policies will move into the second phase of their impulse, from relief to boost. The economic policy orientation over the next two to three years will influence growth quality, composition and eventually strength, its sustainability and inclusivity and ultimately the inflationary regime. Our medium- to long-term exercise is grounded in the following convictions: • Macro factors will continue to influence market trends in a more unusual and complex manner1. Therefore, our macro-founded approach where monetary and real factors are combined in a modular and time dependent framework remains not only robust and consistent, but it is appropriate to encapsulate (exogenous) regime shifts. • As Pascal Blanqué mentioned in his recent publication2: “the traditional approach based on (real) fundamentals (inflation, growth, earnings), including monetary factors (as a dominant feature of the current transition phase) has to be enriched with “narratives” as a building pillar of long-term expectations. […] Narratives are adding to Macro factors (or subtracting from) a trend, re-enforcing it or pushing it into a different direction […]”. will continue In our model driven approach to medium- to long-term forecasts, we stylise to influence “narratives” articulating central and alternative scenarios to eventually derive asset class returns. markets • We acknowledge that inflation has ceased to be negative: a “bit more” inflation with no pre-emptive central banks is supportive to risky assets and will eventually allow debt to be more serviceable. In 2020, the Federal Reserve and the ECB (still in progress) reviewed their target frameworks as they are aware of the deep interconnection between monetary and fiscal policy. • Macro determinants and asset classes have much different starting points compared to last year. Despite the faster than expected progress in the development and distribution of vaccines, some economies remain in the grip of the pandemic. Moreover, the structure of some economies (namely the US) has proved more resilient than others (i.e. Europe), while some regions have been more efficient in managing the pandemic (i.e. North Asia). This implies a multispeed heterogeneous recovery featuring country dynamics in the up/downside scenarios where, for example, we expect the Eurozone and Japan to experience smoother cycles. 1 Rethinking the macro and cross-asset research: what we have