Why investors should get set for ten lean years

published 27 January 2020

It didn’t matter too much what you invested in over the past decade. Most assets delivered strong returns. The MSCI World index of global equities had a gross total return around 12% per year in sterling terms (gross total return means including reinvested dividends but not allowing for the cost of taxes that some countries deduct from dividends). The S&P UK Gilt Bond index of British government bonds managed around 5.5% per year, with bonds with longer maturities doing better because they started on higher yields. UK commercial property has returned around 9% per year, according to the MSCI UK Monthly Property index.

Obviously things have got steadily tougher for cash as interest rates dwindle, and emerging market stocks failed to beat less risky developed ones (6% per year for the MSCI Emerging Markets index in sterling terms). But if your portfolio was well diversified between assets and countries, you’d normally have done fairly well – your individual choices didn’t matter that much.

The bull must run out of breath

That very satisfactory situation is unlikely to be repeated in the 2020s. We’ve had a bull market running for more than a decade almost everywhere. Most assets are significantly more expensive than they were in 2010. While markets often rise far beyond what looks rational, it’s difficult to see how such a broad-based bull market can last until 2030.

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The chart above shows long-term estimates for various asset classes from the US investment managers GMO and Research Affiliates. The two firms use different models, but both assume that extreme valuations are likely to revert back towards historical averages. This may not happen as quickly as you’d expect: GMO’s team was consistently wrong in its forecasts for US equities in the 2010s because both valuations and margins have remained very high. It may well be too pessimistic again. But even Research Affiliates’ less pessimistic model does not produce returns in any asset class that are close to what we’ve seen over the last ten years.

Both expect a big difference between the best and worst asset classes, with emerging-market stocks coming top. That’s helpful for investors – at least there is one asset class that offers some opportunities. But there are few investors who would be comfortable having most of their assets in emerging markets. So the wider conclusion for anybody who wants to keep a prudently diversified portfolio is that we must expect a much leaner decade – and prepare to save more (or spend less) to make our long-term financial plans work in that environment.

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Cris Sholto Heaton is an investment analyst and writer who has been contributing to MoneyWeek since 2006 and was managing editor of the magazine between 2016 and 2018. He is especially interested in international investing, believing many investors still focus too much on their home markets and that it pays to take advantage of all the opportunities the world offers. He often writes about Asian equities, international income and global asset allocation.

Cris began his career in financial services consultancy at PwC and Lane Clark & Peacock, before an abrupt change of direction into oil, gas and energy at Petroleum Economist and Platts and subsequently into investment research and writing. In addition to his articles for MoneyWeek, he also works with a number of asset managers, consultancies and financial information providers.

He holds the Chartered Financial Analyst designation and the Investment Management Certificate, as well as degrees in finance and mathematics. He has also studied acting, film-making and photography, and strongly suspects that an awareness of what makes a compelling story is just as important for understanding markets as any amount of qualifications.