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The Covid-19 pandemic has drastically altered the economic landscape, and with it our forecasts for long-term market returns.

Compared with our forecasts at the beginning of 2020, our long-term return outlook for shares is higher as valuations have fallen amid market declines. On the other hand, the environment for bonds remains challenging given how low yields are.

Our approach to forecasting

“When we evaluate the effectiveness of the Vanguard Capital Markets Model® (VCMM), we've had a fairly good record of anticipating average returns over the coming ten years,” said Vanguard senior investment strategist Kevin DiCiurcio, who runs the model.

The VCMM is a proprietary statistical tool that analyses historical relationships among the macroeconomic and financial market data that drive asset returns, such as inflation, interest rates and equity valuations. Vanguard strategists apply simulation techniques that assign probabilities to future asset return outcomes based on current market conditions. The modelling process results in projected probability distributions for asset class returns and a correlation structure among the assets, which can be used to simulate the behaviour of portfolio returns.

Taking predictability and uncertainty into account

“It's worth noting a few things that set our market forecasts apart,” Mr. DiCiurcio said. “We don't play the pundit, offering guesses about where the markets might be in one or three months' time.”  Rather, he said, the VCMM forecasts are for annualised returns over a ten-year horizon, which reflects Vanguard's longstanding view that investors should have long-term outlooks. Moreover, our research shows that we can expect to have a reasonable degree of accuracy over this timeframe.

“We don't make pinpoint forecasts, either,” Mr. DiCiurcio pointed out. “Instead, we offer likely ranges of potential returns. We believe that forecasts are best viewed in a probabilistic framework that acknowledges the uncertainty inherent in predicting the future.”

Relevance for portfolio construction

The VCMM models asset return distributions and their relationships with other asset categories to realistically simulate how a portfolio might behave through time. It can therefore be a valuable resource for interpreting risk-return trade-offs of various portfolio choices, which can help inform investors' asset allocation decisions. It can also help investors set reasonable return expectations and gauge the likelihood they'll achieve their investment goals.

The difference a few months has made to our economic outlook

When we published our economic and market outlook for 2020, we expected most major economies to grow more slowly than in recent years but not stall. Since then, the pandemic has led to large swaths of those economies shutting down, putting them on track for historic declines in output and surges in unemployment. That's set the stage for most major economies, including the United Kingdom, to contract for the full year.

What our model is telling us now about asset returns

We take a long-term view on investing, and we encourage our clients to do so as well. That's part of the reason we look at annualised returns over a ten-year period. Typically, you wouldn't expect our forecasts to change much quarter to quarter or even year to year.

Importantly, the return assumptions provided by VCMM depend on market conditions and, as such, can change with each running over time. When we ran the VCMM data through to the end of March 2020, the outlook for equities had improved from our forecast in December, thanks to more favourable valuations given the drop in share prices since then. The table below shows that our annualised nominal return projections over the next ten years for UK equities are in the range of 6.0% to 8.0%. Returns for international equities are likely to be higher than that, around 6.6% to 8.6%, a differential versus UK shares that underscores the benefit of international diversification. (Though equity markets have gained back some ground since the end of March, and our ten-year outlooks perhaps would have fallen somewhat since then, their valuations remain substantially lower than at the end of last year.)

On the other hand, the range of returns for UK fixed income hasn't changed much. They stand at a range of 0.6% to 1.6% for UK bonds. The range for international bonds is the same, 0.6% to 1.6%, on a hedged basis.

Expected ten-year annualised share and bond returns and volatility levels

Expected ten-year annualised share and bond returns and volatility levels

Notes: Forecast corresponds to distribution of 10,000 VCMM simulations for ten-year annualised nominal returns as of March 31, 2020, in British pounds. Median volatility is the 50th percentile of an asset class's distribution of annualised standardised deviations of returns.

Source: Vanguard.

IMPORTANT: The projections and other information generated by the VCMM regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results, and are not guarantees of future results. Distribution of return outcomes from VCMM are derived from 10,000 simulations for each modeled asset class. Simulations as of March 31, 2020. Results from the model may vary with each use and over time. For more information, please see the important information section at the bottom of the page.

Different outlook, familiar investment advice

Shares may perform better over the next decade than we had forecast at the end of last year, while fixed income returns may be even more muted.

Our update, however, shouldn't be taken as a timing signal or a call to change your portfolio beyond regular rebalancing (which might be warranted given recent market movements) or changes in your risk tolerance. Nor is it a call to abandon high-quality bonds, which we expect will continue to play an important role in diversified portfolios as a ballast to riskier assets.

We hope that investors who already have a sensible investment plan designed to carry them through good markets and bad will have the discipline and perspective to remain committed to it.


The projections and other information generated by the Vanguard Capital Markets Model regarding the likelihood of various investment outcomes are hypothetical in nature, do not reflect actual investment results and are not guarantees of future results. VCMM results will vary with each use and over time. 

The VCMM projections are based on a statistical analysis of historical data. Future returns may behave differently from the historical patterns captured in the VCMM. More important, the VCMM may be underestimating extreme negative scenarios unobserved in the historical period on which the model estimation is based.

The Vanguard Capital Markets Model® is a proprietary financial simulation tool developed and maintained by Vanguard’s primary investment research and advice teams. The model forecasts distributions of future returns for a wide array of broad asset classes. Those asset classes include US and international equity markets, several maturities of the US Treasury and corporate fixed income markets, international fixed income markets, US money markets, commodities and certain alternative investment strategies. The theoretical and empirical foundation for the Vanguard Capital Markets Model is that the returns of various asset classes reflect the compensation investors require for bearing different types of systematic risk (beta). At the core of the model are estimates of the dynamic statistical relationship between risk factors and asset returns, obtained from statistical analysis based on available monthly financial and economic data from as early as 1960. Using a system of estimated equations, the model then applies a Monte Carlo simulation method to project the estimated interrelationships among risk factors and asset classes as well as uncertainty and randomness over time. The model generates a large set of simulated outcomes for each asset class over several time horizons. Forecasts are obtained by computing measures of central tendency in these simulations. Results produced by the tool will vary with each use and over time.

Important risk information:

The value of investments, and the income from them, may fall or rise and investors may get back less than they invested.

Past performance is not a reliable indicator of future results.

Any projections should be regarded as hypothetical in nature and do not reflect or guarantee future results.

Funds investing in fixed interest securities carry the risk of default on repayment and erosion of the capital value of your investment and the level of income may fluctuate. Movements in interest rates are likely to affect the capital value of fixed interest securities. Corporate bonds may provide higher yields but as such may carry greater credit risk increasing the risk of default on repayment and erosion of the capital value of your investment. The level of income may fluctuate and movements in interest rates are likely to affect the capital value of bonds.

Other important information:

For professional investors only (as defined under the MiFID II Directive) investing for their own account (including management companies (fund of funds) and professional clients investing on behalf of their discretionary clients). Not to be distributed to the public. In Switzerland, for professional investors only.

The material contained in this document is not to be regarded as an offer to buy or sell or the solicitation of any offer to buy or sell securities in any jurisdiction where such an offer or solicitation is against the law, or to anyone to whom it is unlawful to make such an offer or solicitation, or if the person making the offer or solicitation is not qualified to do so.  The information in this document does not constitute legal, tax, or investment advice. You must not, therefore, rely on the content of this document when making any investment decisions.

The opinions expressed in this article are those of individual speakers and may not be representative of Vanguard Asset Management, Limited.

Issued by Vanguard Asset Management, Limited which is authorised and regulated in the UK by the Financial Conduct Authority. Issued by Vanguard Investments Switzerland GmbH.

© 2020 Vanguard Asset Management, Limited. All rights reserved.

© 2020 Vanguard Investments Switzerland GmbH. All rights reserved.