Experts Forecast Long-Term Stock and Bond Returns: 2019 Edition
Our annual survey of capital market assumptions, from Bogle to BlackRock to Vanguard.
Savvy investors might view market predictions as pure folly. After all, it's next to impossible to predict what the market will return, especially over shorter time periods, so why bother?
It's certainly a mistake to try to predict the market in an effort to determine whether, when, and how much to hold in stocks and other asset classes. Even professional investors have struggled with tactical asset allocation, casting doubt on the ability of individual investors or even financial advisors to outperform strategic asset allocation with the approach.
But the fact is, even long-term, strategically minded investors need some type of market-return forecast to craft a financial plan. Without any view on how much stocks, bonds, and cash are apt to return, it's impossible to know how much you'll need to save and for how long. You can't know whether saving for retirement should be your sole financial preoccupation or whether you can hit other goals, such as college funding, along the way. To help turn your financial goals into reality, it's crucial to make assumptions about what the major asset classes, and in turn your own portfolio, are apt to return. That way you can determine how much of the heavy lifting for your plan will come from market appreciation and how much will have to come from your own contributions.
To help you arrive at an educated guess of how much the market will contribute to the success of your plan, I've been compiling annual looks at return expectations from market experts both inside and outside of Morningstar. Note that the parameters for these return estimates vary a bit; some of the return expectations are inflation-adjusted while others are not (nominal). Some of them are quite recent, while others date to earlier in 2018. In addition, some of the experts forecast returns for the next decade, while others employ slightly shorter time horizons.
Yet there were some commonalities among many of the forecasts. First, starting yields on intermediate-term bonds, historically a good predictor of future returns from bonds, suggest that bonds will give U.S. equities a run for their money over the next decade. In addition, many of the market forecasts suggest higher returns from non-U.S. stocks, especially emerging markets, than U.S. over the next decade.
Before you take those return forecasts to the bank, however, it's important to bear in mind that these return estimates are more intermediate term than they are long. As such, they're the most relevant to investors whose time horizons are in that ballpark, or to new retirees who face sequence-of-return risk in the next decade. Investors with very long time horizons of 20 to 30 years or longer can reasonably assume that market returns will run in line with their very long-term historic norms: 8% to 10% for stocks and half that amount for bonds.
BlackRock Investment Institute Highlights: 7% nominal (non-inflation-adjusted) return for U.S. large caps over the next decade; 9% for non-U.S. large caps; 3.3% for the U.S. Aggregate Bond index(December 2018).
BlackRock Investment Institute's Capital Markets Assumption report is heavy on the disclaimers, noting that the assumptions are "not intended as a recommendation to invest in any particular asset class or strategy or as a promise--or even estimate--of future performance." For each asset class, the firm provides a median expected return, as well as "uncertainty bands" depicting returns in a range. The firm provides assumptions for conventional asset classes as well as nontraditional ones such as hedge funds and private equity.
BlackRock Investment Institute's 7% median expected return for U.S. stocks put it at the high end of our sampling, but its expectation that foreign stocks would outperform (9% for foreign large caps) was a common theme across many of the firms. Notably, however, BlackRock Investment Institute is less sanguine about the prospects for emerging markets than it is for the broad universe of global non-U.S. equities, making it something of an outlier among many of the firms in our sample.
John C. Bogle, founder of Vanguard Group Highlights: 4%-5% returns for stocks (nominal); 4% nominal returns for bonds over the next decade (October 2018).
In an interview in October (prior to the recent market volatility), the Vanguard founder was a bit more optimistic about returns from U.S. stocks over the next decade than he had been in previous years. As always, Bogle backs into his return forecast by looking at the equity market's current dividend yield, then factors in expected earnings growth and P/E multiple expansion or contraction. The S&P 500 currently yields about 2%, and Bogle expected in late October that earnings growth would run in the range of 5%. He then gave that 7% expected return (the 2% dividend yield plus 5% earnings growth) a haircut to account for his expected P/E contraction, bringing his self-described "reasonable expectation" for stocks down to between 4% and 5%. To arrive at his 4% return expectations for bonds over the next decade, Bogle uses a blend of the starting yields for Treasuries and high-quality corporates.
GMO (requires login) Highlights: negative 4.1% real (inflation-adjusted) returns for U.S. large caps over the next seven years; negative 0.2% real returns for U.S. bonds; 4.4% real returns for emerging-markets equities; 2.9% real returns for emerging-markets debt (November 2018).
As always, the return expectations from the notoriously pessimistic Grantham Mayo Van Otterloo run toward the gloomy side of our collected prognostications. The firm expects U.S. large caps and hedged international bonds to post the worst performance of all of its major asset classes over the next 7 years: It's forecasting negative 4.1% real returns for the former and negative 2.1% real returns from dollar-hedged international bonds from developed markets. The firm expects U.S. small-cap stocks to perform much better than large, but still believes that U.S. small-cap investors will sink into the red on an inflation-adjusted basis, losing 0.7%.
Consistent with its recent expectations, the firm is most sanguine about the prospects for emerging-markets equities and bonds, forecasting 4.4% real returns for emerging-markets equities and 2.9% gains for emerging-markets bonds. The firm is more optimistic still for the subset of emerging-markets equities it considers emerging markets value stocks, predicting a nearly 8% real return for the asset class.
It's worth noting that the firm's pessimism on U.S. equities and positive outlook for emerging markets has cost it on the return front over the past several years: Wells Fargo Absolute Return WARAX, which GMO manages, has recently struggled and earns a Neutral rating from Morningstar's analyst team. The fund made up ground during the recent market weakness, however, finishing 2018 in its category's top 10%.
J.P. Morgan Asset Management Highlights: 5.25% return assumption (nominal) for U.S. equities over a 10- to 15-year horizon; 4.5% nominal return assumption for U.S. investment-grade corporate bonds over 10- to 15-year holding period (October 2018).
J.P. Morgan Asset Management updates its capital return assumptions for major asset classes annually, and notes that its assumptions are little changed from 2018. One of the biggest upward revisions in the firm's return assumptions was in the realm of U.S. high-quality corporate bonds, from 3.5% to 4.5%. As with several of the other firms, J.P. Morgan Asset Management is more sanguine about the prospects for emerging markets equities than developed markets stocks; the firm's assumption is for an 8.5% return from the asset class over the next 10 to 15 years, a function of lower starting valuations.
Note that J.P. Morgan Asset Management expresses its return assumptions in nominal, rather than inflation-adjusted, terms. However, the firm describes its inflation expectations as dovish, meaning that it expects inflation to continue to be mild. Additionally, it's important to note that the firm published its report before markets took a dive at the end of 2018.
Morningstar Investment Management (login required) Highlights: 1.8% 10-year nominal returns for U.S. stocks; 3.3% 10-year nominal returns for U.S. bonds (Sept. 30, 2018).
The headline here is that as of Sept. 30, 2018, Morningstar Investment Management expected higher gains from U.S. bonds than U.S. stocks over the next decade. As with GMO, however, the outlook is more optimistic for foreign equities: MIM expects U.S. holders of international developed equities to earn nearly 6% on a nominal (noninflation-adjusted) basis, and U.S. holders of emerging-markets equities to earn nearly 7% nominally. Morningstar Investment Management provides its latest return expectations in Morningstar Markets Observer; the latest issue will be out this month.
Research Affiliates Highlights: 0.7% real returns for U.S. large caps during the next 10 years; 0.5% real returns for the Barclays U.S. Aggregate Bond Index (Dec. 31, 2018; valuation-dependent model).
Research Affiliates deserves plaudits for its intuitive and user-friendly scatter plot depicting the firm's expectations for 10-year returns and volatility from the major asset classes as well as portfolios. Users can see the firm's return/volatility expectations for numerous asset classes, as well as backward-looking data; they can also adjust to see return expectations based on a valuation-focused model and one focused on dividends and growth.
The firm's recent 10-year risk/return expectations suggest that U.S. investors relying strictly on U.S. stocks and bonds could be disappointed over the next decade: The firm's valuation-dependent model calls for a 0.7% real return for U.S. large-cap stocks and 0.5% inflation-adjusted gains for the U.S. Aggregate Bond Index. Real return expectations are more encouraging for those two asset classes using the firm's "yield and growth" model--3.3% for U.S. large caps and 0.6% for the U.S. Aggregate Bond Index.
Like GMO and Morningstar, the firm has higher return expectations from foreign stocks and especially emerging markets. Its valuation-dependent model suggests a nearly 6% real return over the next decade from the MSCI EAFE index (developed markets foreign stocks) and a nearly 8% return from emerging markets equities.
Vanguard Highlights: Nominal U.S. equity-market returns in the 3% to 5% range during the next decade; 6% to 8% returns for non-U.S. equities; 2.5% to 4.5% expected returns for global fixed-income markets (December 2018).
In its 2019 Economic and Market Outlook, Vanguard's Investment Strategy Group wrote that its 10-year return assumptions for global stocks and bonds are modestly higher than this time last year. But the firm isn't forecasting blockbuster gains from any of the major asset classes. It's expecting U.S. equities to post gains in the 3% to 5% range, lower than its forecast for non-U.S. equities (6% to 8%). Thus, like other firms, it's emphasizing the importance of geographic diversification. In contrast with several of the aforementioned firms, however, Vanguard calls valuations in emerging markets "stretched." Ditto for valuations in the U.S., which Vanguard's economists expect to contract as yields rise over the next decade.
Note that Vanguard expresses its capital markets return assumptions in nominal rather than inflation-adjusted terms. However, the report's authors don't see any reason for investors to expect runaway inflation.