Making long-term return forecasts - MoneySense

Making long-term return forecasts

Everyone wants to know, with some certainty, how the market is going to perform. Norm Rothery applies his logic to come up with his most educated guess


I had the great pleasure of speaking to many of you at the MoneySense Roadmap to Riches event last weekend. I was particularly encouraged to see a large number of young investors in the audience. It’s always a pleasure to see young people taking charge of their finances early in life.

Afterwards I was asked what my expectations were for the market, and the couch potato portfolio, over the next 10 years, or so. It’s an interesting question and one that investors would love to know the answer to—both in advance and with certainty. Alas, it is something that I’m less than certain about. But I can try to entertain you with a few wild—or at least somewhat educated—guesses.

First, one can take the naive approach and guess that future returns will be similar to historical returns. The Credit Suisse Global Investment Returns Yearbook for 2017 reports that an index of the world’s stocks provided an average annual real return of 5.1% from 1900 through 2016. Bonds gained 1.8% annually and Treasury bills gained 0.8% per year over the same period.

With inflation running at about 2% that would put a simple annual (nominal) return guess at about 7% for stocks, 4% for bonds, and 3% for bills. The expected annual returns for a balanced 40% bond and 60% stock portfolio would be just under 6%.

But I suspect that might be a little high due to the low interest rates on offer these days. 10-year government of Canada bonds currently yield about 1.5%. The current yield will likely be a pretty good indicator of the bond’s return over the next decade. On the stock side of the equation, estimating is a good deal more difficult. I’ll follow the approach set out by Mr. John Bogle, the founder and retired chief executive of The Vanguard Group, and start with a dividend yield of about 3% for Canadian stocks and then add in earnings growth of about 3%. Finally, one can adjust for a change in P/E level, which I’ll optimistically set at no change or 0%. That all adds up to about 6%.

A return of 1.5% from government bonds and 6% from stocks would put the return of a blended 40% bond and 60% stock portfolio at about 4%, before adjusting for inflation.

One might increase returns by boosting one’s allocation to stocks, by buying riskier bonds, risking an active strategy, or some combination of the above. But beating the market is notoriously difficult to do over the long term and sometimes those extra risks can come back to bite investors in the pocket books.

Unfortunately, investors may have to suffer with mid-single-digit returns—with a good deal of variation—on balanced portfolios over the next decade. But, to be fair, that’s really just a guess.

Safer Canadian Dogs

Due to a technical snafu, the dogs were sent outside to play and have run away. Our data gnomes are on their trail and promise that they’ll be rescued as soon as possible.