Does a Change in Expectations Require a Change in Strategy?

Add John Bogle to the growing list of respected investors  — GMO, Research Affiliates, William Bernstein, Ray Dalio, Robert Shiller, Cliff Asness — who believe investors should temper their expectations for future market returns in the coming decade.

From a recent interview with Morningstar:

So, I think the best thing we can expect–and this is higher than I’m going to talk about tomorrow–is that 8%, [or 2% dividend yield and 6% earnings growth]. But in fact, I don’t think earnings growth is going to be that good, and so I think the P/E could easily get to a more normal long-term range of 15. So, that would be 3% from that number. So, you’d have an investment return of 2% and 5% for 7%, minus 3% for speculative return. That would be 4% for stocks, and that’s not a very good number.

These are pretty intelligent people. They can’t predict the future, but it would be unwise to completely ignore their warnings. As they say, trees don’t grow to the sky. The one thing investors tend to forget over and over again is that markets are cyclical.

But it’s worth noting that timing is everything on these types of forecasts. Plus or minus a couple of years and you can go from looking like a genius to looking like a fool. Some well-known commentators have been calling for low single-digit returns since 2012 or so. Since then stocks are up more than 70%. Stocks were up 9% last month alone. That would be roughly one-fifth of the total return in Bogle’s ten year scenario. Even in a potentially low-returning environment, markets never move in a straight path.

Bogle is only talking about U.S. stocks here as he is generally against investing internationally. All of these forecasts for low returns in the U.S. say nothing about what the diversified investor can earn around the globe in foreign markets. The U.S. has been the world-beating stock market for some time now and that leadership can’t last forever.

However things shake out over the next decade, I think investors have to ask themselves a few questions when playing the expectations game:

  1. Does a change in my expectations for market returns require a change in my overall strategy?
  2. If I do change my strategy, do I understand the potential risks involved?
  3. Will trying harder and doing more really improve my results?
  4. What if I’m wrong?

None of these are easy questions to answer, but at the very least investors should take some time to consider the ramifications from making wholesale changes to their portfolio strategy simply because they expect lower returns in the future. It’s much easier to change your expectations than your investing process, but investors seem to feel much more comfortable changing the latter than the former.

Read here for more on Bogle’s thoughts behind this forecast:
Bogle: Tough decade ahead for equity investors (Morningstar)

Further Reading:
What’s the Biggest Risk Right Now?



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What's been said:

Discussions found on the web
    • Ben commented on Nov 03

      And this would actually be the best scenario for those who will be net savers in the coming years.

    • Mark Massey commented on Nov 04

      I hope there is another huge correction. The sooner the better. What a wonderful buying opportunity 2008-2009 was.

  1. Jim Clark commented on Nov 03

    Weren’t lower returns also expected in the infamous “Death of Equities” issue of “Business Week” in 1979 that told us to invest in gold, commodities and art? S & P 500 have averaged 11.8% total return annually.
    Certainly these are very bright people but none of them have a crystal ball.

    “Pray for the best, expect the worst and take whatever you can get.

    • Ben commented on Nov 03

      Works for me. I agree that it’s much better to be surprised on the upside. Worse case then is you end up with more money.

  2. Francisco G commented on Nov 04

    With some arguing that EM bonds are undervalued and possibly considering them as a change of strategy for higher return, are historical returns in EM bonds telling us that returns may be higher in the future? as prices move down probabilities of future returns move up, right?

  3. Mark Massey commented on Nov 04

    4% average per year for next 10 years? What about in year 11 and 12 and 13? Is it suddenly going to be 7% per year for those 3 years, or 8% or 10%? Or less? Why does a smart guy like Bogle make these predictions? There is a good reason: He wants everyone to buy Vanguard index funds.
    My response to that prediction is that it depends on what you are invested in. The S&P 500 may get you only net 4% over the next decade, but who is 100% invested in the S&P 500 index? I hope no one is. I bet my portfolio of individual domestic and foreign equities does better than 4% per year over the next decade because they are much much cheaper than the S&P 500 and trading at much lower EV/EBIT and FCF multiples than the S&P 500.

    • Ben commented on Nov 04

      In his defense he does give a disclaimer that he has no idea if he’ll be right or wrong, but I agree that throwing out an exact number is fairly useless.

  4. Clark Herring commented on Nov 04

    I have to wonder if there is some generational bias in these forward return estimates. I am not sure about the age of all of these guys but some of them are into there 60s and 70s. It seems to me , and I realize that this is only anecdotal and not data driven, that as investors, especially successful ones, age their view on future market returns becomes much more conservative. Bill Gross also falls into this category. I wonder if they become so focused on what helped them succeed in the past that they cannot believe that it will not work in the future. Market change and successful strategies change as well. Full disclosure I am 58.

    • Ben commented on Nov 04

      Good observation. I agree that many of these investors are at risk of missing out on a new regime change by assuming the past will play out in the future. My take? It’s different every time.

  5. michael Choniski commented on Nov 10

    This is a good time in market history for investors to not only reconsider their expected returns from a long position in an asset class over a reasonable investment time period, but to also reconsider their entire approach. Having to install a substantial reset of the expected return (adjusting from an historical mean) in a paradigm of Gaussian Normal distributions of investment returns (academic folly) should send a warning signal regarding reliance upon MPT generally. Low expected returns from risk assets and ZIRP tend to produce more interest in alternative investment strategies, even by those who generally adhere to the random-walk and efficient-market hypotheses. Finding track records that are more likely to work on a forward basis may be best advised to look at focused approaches rather than ones which rely upon diversification and linear correlations of periodic investment reruns across asset classes.