Returns Look Low Going Forward

“In an industry dominated by promises of higher return investors need to ask higher than what?” This question is posed in a recent Barron’s article (provided by Research Affiliates) which argues that many investors face less than 5% annualized returns on their retirement nest eggs over the next decade. The following portfolio types are discussed:

Classic 60/40: This blend of U.S. stocks and bonds has been, according to the article, “perhaps the most comfortable to own,” and has performed well over the years. “But from today’s vantage point, with U.S. bonds exceptionally low and equity P/E ratios in the top decile of an 100-year history, future returns are likely to be extremely muted.” Specifically, Research Affiliates data predicts a 0% chance for this type of portfolio to achieve a 5% or greater annualized return.

Diversified portfolio: “Perhaps the odds are better,” the article asserts, but explains that data shows that a “typical public pension plan” with 24% in non-U.S. assets and 6% of diversifying strategies has only a 7% chance of achieving a 5% real return over the next ten years.

Target date funds (which are managed to correspond with an investor’s retirement horizon) face similarly poor results, the article says, whether assuming a 10, 20 or 30-year target date. “Today, given the current starting cocktail of low-cap rates and high public-equity valuations in the United States and the substantial capital flowing into these markets, we are hard pressed to imagine an outcome in which a 20%–24% alternatives allocation could push a portfolio over the 5% real hurdle.”