As the market went through its recent “celebrations of the 25th anniversary of the single worst day in its history — the Market Crash of 1987 — most experts who were asked said that investors should expect similar crashes and freefalls in the future.
Lost amid those headlines, however, was what experts said investors should not expect to see again for the foreseeable future, namely the kinds of historic returns they came to expect before and after that crash, and that most people expected to get for a lifetime. Ask most investors what they expect to get from the stock market and the answer typically comes out at 10 percent. That’s an homage to an old study by Roger Ibbotson and Rex Sinquefeld that showed several generations of investors that stocks average that level of return — albeit before any transaction costs — over time.
No matter how much the market has bounced around, investors typically have the sense that if they can stick with the market, long enough, they will come away with that 10 percent gain.
The problem is that the experts, including Ibbotson himself, don’t believe it.
“Starting in 1926, the return on the large-cap market has been 9.8 percent, but this was during a period when inflation rates were higher than they are today, and risk-less rates were higher than they are today,” said Ibbotson, a Yale professor who also currently serves as chairman and chief investment officer at Zebra Capital Management. “You have to knock it all down by a couple of percent, because we really are in a risk-less rate environment where the rates are close to zero.”
For the next quarter-century or more, Ibbotson said he would “not predict more than an 8 percent return on the market, but that’s not bad. That’s a great return.”
Likewise, Vanguard Group founder Jack Bogle — who, like Ibbotson, appeared on my radio show this month — said the current market, which he called the “most challenging he has ever seen” is going to deliver smaller returns than what experienced, adult investors have in their heads. He pegged the return in the 6 percent to 8 percent range for stocks going forward, also citing low yields and low inflation as key reasons to alter long-term expectations.
Of course, a lot of investors would be thrilled to get 8 percent from the market these days, a far sight better than the returns they have earned over the last decade, but if history has not been suspended — and the experts don’t think it has been, they just believe returns will be lower — the lowered expectations do significantly change long-term financial and investment planning.
Consider someone who starts investing in their 20s and has a long life ahead of them. A 10 percent market return would double their market return every 7.2 years, compared to a 9-year time frame when the return is just 8 percent.
If their initial investment was $10,000, it would be $160,000 in 36 years if it compounds at 10 percent annually. It would be half that amount over the same time period if the return is 8 percent. “The challenge is that inflation is still in the 2 percent to 3 percent range … and the real challenge for investors is that they really can’t get to where they want to be with a less than 2 percent Treasury bond, combined with a 6 percent to 8 percent stock market,” said Jeffrey Coons, president of the mutual fund firm Manning & Napier. “You combine those together and you never really get to those numbers you use in your retirement calculators, or that a pension plan would use for its actuarial assumptions. Those absolute returns really are the issue.”
Aside from changing the assumptions they plug into those calculators — a move that makes the ultimate outcomes look significantly more bleak and doubtful — experts are split over what investors should do as a response to this less fruitful environment.
Ibbotson said: “One way or another, however, I think most people have to change their behavior, change their equation. That’s the only way this turns out over the coming decades the way people expect and hope for.”
Chuck Jaffe is senior columnist for MarketWatch. He can be reached at cjaffe@marketwatch.com or Box 70, Cohasset, MA 02025-0070.
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