ML11161A155

Enclosure 4 to TXX-11056, Jp Morgan'S Long-Term Capital Market Returns

ML11161A155
Person / Time
Site:	Comanche Peak
Issue date:	11/30/2009
From:	J.P. Morgan Trust Co
To:	Office of Nuclear Reactor Regulation
References
CP- 201100646, TXX-11056
Download: ML11161A155 (5)

Text

Enclosure 4 to TXX-11056 JP Morgan's Long-term Capital Market Returns

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J.P.Morgan Asset Management

Morgan Asset Management Long-term Capital Market Return Assumptions As of November 30, 2009 Expected 10-15 year annualized compound returns', (%) Rationale Inflation 325 High unemployment and bank deleveraging to keep inflation low in the near term, but today's aggressive policy stimulus may lead to higher inflation as economic conditions normalize.

Core Inflation 275 Strong growth in the emerging economies combined with ongoing dollar weakness should drive commodity prices up, causing headline inflation to outstrip core.

Real GDP 2.75 Private sector deleveraging and a rising federal debt burden to place constraints on economic growth.

U.S.Cash 3.50 Policy rates to rise from today's extraordinarily low levels, but Federal Reserve likely to err on the side of raising rates too late rather than too early.

U.S. Intermediate Treasury' 41Xi Yields to rise towards a higher equilibrium nominal rate as federal debt levels and inflation risks increase. The resulting capital loss to constrain total returns.

U.S. Long Treasury4 325 Yields to rise towards a higher equilibrium nominal rate as federal debt levels and inflation risks increase. Duration exposure to result in heavy capital losses as yields move higher.

U.S. TIPS 5.00 TIPS to outperform nominal Treasuries as expected inflation rises from current levels.

U.S. Aggregate 4.50 Further spread narrowing expected, but total returns to be constrained as overall yields rise with risk free rates.

, U.S. Long Duration Gov't/Credit 5.00 U.S. Investment Grade Corporate 5Z5 Spreads currently close to equilibrium, but total returns compromised as overall yields rise with risk free rates.

U.S.Long Corporate 5.75 U.S. High Yield 7.50 Further narrowing in spreads offset by higher risk free rates. Haircut applied to total returns for expected defaults.

World Government Bond (local) 2_.5 Government bond yields to rise globally from current levels leading to capital losses as rates converge to equilibrium.

Non-U.S. World Government Bond (local) 2.50 Non-U.S. World Government Bond 325 Dollar depreciation against weighted average of WGBI currencies expected to boost returns to U.S. investors.

Emerging Market Debt 7.50 Spreads currently close to equilibrium, but total returns compromised as overall yields rise with risk free rates.

U.S. Municipal 3.50 Yield ratio versus Treasuries to be little changed as impact of deteriorating local government finances offsets the effect of rising federal tax rates.

U.S.Large Cap 7.50 Sum of below building blocks (Nominal EPS growth - Dividend Yield + P/E return impact). Slightly lower total return than in pre-crisis years reflects higher inflation and constraints on growth over the longer term.

U.S. Large Cap EPS Growth 550 Lower projected earnings growth given a likely political shift towards labor and higher expected cost of capital. Earnings to grow in line with nominal GDP.

U.S. Large Cap Dividend Yield 250 Dividend yields to rise slightly from current levels. No major change in dividend policy expected.

U.S. Large Cap P/E Return Impact -0.50 Valuations to contract slightly from current levels as the economic cycle matures and earnings normalize.

U.S. Mid Cap 7.75 Moderate premium to large cap assumed for both. Tighter credit availability and limited scope for valuation improvement to restrain return advantage.

U.S. Small Cap 7.75 U.S. Large Cap Value 7,75 Value to outperform growth over time, especially given likelihood of increased investor demand for yield.

U.S. Large Cap Growth 725 Europe ex U.K.Large Cap (local) Earnings premium to nominal GDP given greater scope for cost-cutting and relatively large share of emerging market sourced revenues. Small positive valuation contribution; current valuations below historical 8.00 averages versus the U.S.

Japan Large Cap (local) 5.0 Demographic challenges and ongoing battle with deflation to mean that Japan remains a global laggard. Earnings premium to nominal GDP given export exposure to emerging Asia.

U.K. Large Cap (local) 775 Returns constrained by higher expected cost of capital and higher projected inflation. Earnings to grow in line with nominal GDP.

MSCI EAFE (local) 7.00 Market capitalization weighted average of expectations for regional equity returns.

MSCI EAFE 7.75 Dollar depreciation against weighted average of EAFE currencies expected to boost returns to U.S. investors.

Relatively healthy emerging economy fundamentals and high rates of productivity make for strong economic growth. Monetary support from local central banks to boost emerging Emerging Market Equity 9.50 market returns as policymakers seek to limit currency appreciation.

Asia ex-Japan 9.50 Headwinds from higher imported commodity prices offset by stronger underlying economic growth than other emerging regions.

U.S. Private Equitys'A 8.50 100 bps premium to public markets retained. Higher cost of debt implies lower returns, but recent underperformance versus public markets serves as an offset.

U.S. Direct Real Estate (unlevered)l 8.00 Returns typically between stocks and bonds, but premium to equities reflects current undervaluation and reversion to fair pricing over the forecast period.

U.S.Value Added Real Estate (unlevered)sw 925 Same premium to direct real estate assumed as in prior years for specialized acquisition and management expertise.

European Real Estate (unlevered, local)' 7Z5 Some valuation boost from prior year, but shallower downturn and earlier recovery make for lower valuation premium than U.S.

lnfrastructure* 875 Exposure to government-regulated sectors limits return downside. Returns boosted by leverage.

U.S. REITs 7.75 Slight discount to underlying core real estate return given recent rapid price adjustment back towards equilibrium in more liquid REITsmarket.

Hedge Fund-Arbitrage (non-directional)f 5.50 Directional returns below public equities given lower volatility and less leverage than in prior years. Non-directional returns reflect modest premium to aggregate bonds. Fund of funds return assumed to be 60%

Hedge Fund-Directional,' 700 equity (average of U.S. large cap and EAFE) . 40% U.S. aggregate bond return. Sizeable divergences expected between managers.

Hedge Fund-Fund of funds',' 6.0 Commodities' 7.00 Returns based on expectation for relatively rapid giobal nominal GDP growth.

Return estimates are on a compound or internal rate of return (IRR)basis. Equivalent arithmetic averages, as well as further information, are shown on Private Equity, Hedge Funds. Real Estate. Infrastructure and Commodities are unlike other asset classes shown above inthat there is the following page. no underlying investible index.

All asset class assumptions are in total return terms, including equity return assumptions. All returns are in U.S.dollar terms unless otherwise indicated. 6 The return estimates shown for these asset classes are our estimates of industry medians-the dispersion of returns among U.S. Intermediate Treasury returns based on Barclays 7-10yr Treasury index. managers in these asset classes is typically far wider than for traditional asset classes.

U.S.Long Treasury returns based on Barclays 20+yr Treasury index. See additional notes on the following page.

Expected annualized volatilityz (%)ICo laion rlt nMa Matrix ix r'nl a.

U.S Inflation E! L50 0D9 L~O- .3°2 ,

C E U.S. Cashi 350 050 U.S.IntermediateTreasury3 420G 625 0 '

U.S.LongTreasury' 325 1225 -am om 091 LOD to< W

• oL o0.010.6 0.6 LOO U.S.&IPS

ýO2 O£6 OB8 0,83 0-78 1 . _

U.S. Aggregate 4503*75

-0.9 -OM 0.84 0.88 0.73 093 L o >-

U.S.Long Duration Govt/Credi 5*00 9.50 0.57LOC U.S.Investmnent Grade Corp 5.75 625 -W8 -006 0.57 057 OM6 OM8 0,84 LOD0

-024 -OM8 0.58 O4 065 0.2 0.87 a94 00 US.LongCorporate ,75 1050 0120-16 016 -0.1 0.30 0024 058 Q49 -5 U.S.High Yield 750 M2s X WGBI hedged 3.75300 -OM3 0(12 091 086 0.58 0.82 0.78 0.53 L6 o087 1.00o 7o "

WGBIunhedged 3275 7.50 -0J4 -WOJ20.6 0.0 0.0 OL67 0.64 0.55

-04 = 0.81 0,77 09 0.73 0.00 0,47 WGBIex-US. hedged 3A5 250

-0.10 ,.053 2 0.50 0-4 O.9 0-55 0.51 0.49 0.16 - 051

--- -

0 475 1.4 w 0--

2 WGBIex-U.S,unhedged 3358a75 .----

ut 0.09 0.06 0256 0.1 051 034 0.M Emerging Market Debt 7.5082 069 0.69 020 034 017 0.33 00 -O L)

-049 002 0W4 0.88 023 093 .002 L>

U.S.Municpal 3501 75 059 025 053 O043 0.46 038 0-41 L00 *0 0:: *0

-I. 00 U.S Large Cap 50 1625 0.042- -024 -1116 0a.0503 0.05 024 028 064 -027 005 4125 0.O0 055 -O.O4 2 -024 -0O3 0.11 0.02 0.9 031 034 0.71 .035 0.6 0,11 0,62 0.02 092 U.S.MidCap 025 1875 0.07 L)

U.S.Small Cap 75 21.75 0.04 -002 -25 -013 0.02 -0M 005 023 028 O.4 _025 0.02 0.06 057 -002 081 091 1.00 D

100

.018 U.S.LargeCapValue U5 16.00 003 0.02 -0.19 -0.1 0.09 0.02 008 026 029 0,61 -Q20 0.11 0.16 0.51-0,02 0.90 085 071 LO0 031-2 053 .O.O5 092 0,89 LO0 U.S." CapGrowth 25 1925 0.05 -006 -027 -0.18 0.03 -0.6 0.2 021 025 061 -am1 4Q01 .029 0.03 0.81 075 0.88 0.88 0.79O83 0.7 >,

Europe ex-U.K Large Cap W0 1925 003-004-02 -0.12 0.08 004 0.1 0.33 035 0,65 023 O23 -a21 029 059 -02 0 W 0,3 LOO Japan Large Cap 801850 03U -WJ3 -406 000 022 032 0.18 034 035 0.49 4.14 026 .0.17 030 0.46 0.05 061 0.63 035 0.56 Cr W 58 U.KLargeCap U5 1725 OD9 -005 -022 -08 0.10 004 008 034 032 0154 -026 0.20 4O25 026 085 0.82 O.68 083 093 (161 1.(00 082 095 0.74 0L91 0.3 .4 0a7 .7 L 0 =

EAFE unhedged 5 100 0,05 -C07 -018 -009 0.34 0.07 0.35 O3X 039 0,68 _Q21 025 .021 031 0.87 0.89 0.80 O82 oX 0L67 0113 Q.8 083 0 .

EAFEhedged 051620 0.02 0.02 -035 -022 -406 -O" .001 0.22 025 0.62 -035 -0112 4-22 -007 0.53 -0.11 0,88 089 081 080 084 09 0 1.00 a 0.B -g Emerging Market Equity 0 2525 0.03 -009 -022 -0.14 0.14 003 0.10 0.33 0360.69-026 0.13 -025 018 0.63 -0.01 0.80 O.82 0.7 020 0.9 40-7 07 LO >

0.99 0,63 0-5 Asiaex-Japan 62450 03 -010 -0.21 -0.13 03 0.03 01 03 036 067--22 0.3 .020 0.18 0.55 0.00 076 0.76 01 067 0.74 023 0 LOO 003 = .5 0 US.Private EquityW 2525 0,07 -007 026 4-16 O04 005 025 028 0.64 .026 0.02.424 006 0O03.02 0.72 084 092 0.58 O.77 0710055 OO US.Direct Real Estate (unlev.)j 8)5 0.05 0.0100 0.02 035 03 014 022 024 036 0.00 015 001 0160300.09 035 OAO 038 0.40 027 035 026 032 U.S.Vaue Added Real Estate& 1300 0.06 -0,01 W3 O.9 O.06 0.07 035 0.16 0.30 0.10 -004 aO1023 0.05 029 0.32 030 033 022 029 0.22 027 lnfrastructuree 11200 030 0.06 019 016 034 027 024 026 025 025 015 025 0.12 0.24 029 0.20 0.19 024 021 024 0G3 020 0.21 019 05 0.8 LO0 0E 059 ,M 050 0,47 052 0.60 047 045 U.S.RErIs 24.50 0.10 031 -.015 0.00 0.22 0L17 0.19 0.34 0.36 060 4034 022 -00 0250.48 0C3 059 0.66 064 0,67 045 0.59 0A3 0.53 0,68 059 0L74 0158 0,63 025 021 021 Hedge Funds (non-directionaJ)U 650 0.21 06 0.14 0,34 0.17 018 051 0.43 0.20 0.13 -0M9 0.165 0920 0.53 0.64 056 O.48 0540.64 052066 020 0.9 0,5 0 O

.0258 0G83 .8 0.84 0.78 0, 0.27 023 016 Hedge Funds (directionalP 925 014 0.05 -27 -0.20 032 0.01 0.06 035 032 0,9 .028 0.04-028 0.08 0.61 005 0.75 O,85 0,83 0,63 0.78 000.8 3 026 0867 023 OJ5 013 010 Hedge Funds ofFundss4 7.50 0.17 O1 -O21 -0.6 0.13 002 0.06 029 026 0.51 -024 0.03-024 0.06 0.52 0.09 052 0,64 Oh4 037 060 0.630.40.80 5 045 030 0.48 02 025 0.02 0 .6 Commodities 1725 026 0300 5-0,04 0.33 0.08 012 026 023 034 -W.2 025 .O4 025 029 -009 029 036 025 030 027 0.41 0.41 0.44

• Allreturns on this page are in U.S. dollar terms.

Note: Given the complex risk-reward trade-offs involved, we advise clients to rely on judgment as well as quantitative optimization approaches in setting strategic allocations to all the above asset classes, Please note that all information shown is based on qualitative analysis.

Exclusive reliance on the above is not advised.

This information is not intended as a recommendation to invest in any particular asset class or as a promise of future performance. Note that these asset class assumptions are passive only-they do not consider the impact of active management. References to future returns for either asset allocation strategies or asset classes are not promises or even estimates of actual returns a client portfolio may achieve.

See footnotes on the prior page.

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