John Bogle, founder of The Vanguard Group, said in an interview with Bloomberg Radio last year that he expects stock and bond returns to be significantly lower than they have been throughout his 87-year lifetime.
Historically, according to Bogle, the average annual return for stocks had been approximately 12 percent, and for bonds approximately 5 percent, but “that is not going to be true in the future.” He thinks stocks might return as little as 4-5 percent, while a bond portfolio comprising corporate and government debt might be expected to yield only 2.5 percent.
Bogle is not alone. The vast majority of financial planners I talk with have similar viewpoints, though the numbers vary somewhat.
To his credit, Bogle carefully used words like “might” when expressing his opinion. But is there value in making assumptions about investment returns despite knowing that the future is unknowable?
I think there is. If the entire purpose of investing is to grow your savings enough to support your future goals (especially throughout a long retirement when you are no longer earning income), you have to make some guesses as to how much return you should expect from a given set of investment choices.
If the returns turn out to be as good as or better than your expectations, then you can conclude that the approach you’ve been following is working, and you will most likely continue to follow it. If not, then you have the choice of modifying your expectations for returns and/or changing your investment strategy at some point. Either way, your original assumptions will have helped you in making subsequent rational decisions.
But Bogle cautions investors not to conclude that more risk should be taken to get the returns they may have become used to from past experience.
“Accept the returns offered by the market, and don’t take risks to get higher returns, whether you’re talking about bonds or stocks,” he advised.
In other words, if achieving your retirement goals is based on the assumption that you’ll still be able to get an average 8-10 percent return from a combined stock/bond portfolio, you’d probably be better off resetting those expectations rather than overloading the portfolio with riskier assets in an attempt to boost the numbers.
What’s the reason for these lower expected returns? Partly it’s the fact that right now, both stock and bond valuations are relatively high. There’s some statistical evidence that stock prices tend to revert to the mean (average) over time, suggesting that future returns are likely to be lower.
With bonds, some attribute the current historically low interest rates – which drive up bond valuations – to the U.S. Federal Reserve’s artificial manipulation of rates going back to 2008.
In any case, there has never been a time when both bond and stock valuations have been high simultaneously. When stocks are expensive, ordinarily you could use bonds to balance the risk and still get a reasonable return. Or vice versa. But no longer.
Still, we have no idea what actual future returns will turn out to be. But we can be sure that there will always be surprises.
Remember January 2016? The month ended with the Standard & Poor’s 500 index down 5 percent, its worst January performance on record. Who predicted at that time that the benchmark would ultimately set new highs just a few months later?
The fact that Bogle and others are promoting the belief that future stock and bond returns will be low is a positive thing. It’s always better to set expectations low and overachieve them than to set them too high and be disappointed – especially when it comes to your money.