Navigating the not-so-roaring 20s
20 January 2020 | Topical insights
By Shaan Raithatha, economist for Vanguard Europe.
The way investment markets have boomed over the last decade illustrates just how much they've benefited from the policy responses to the 2007-08 global financial crisis and its aftermath.
With central bank money flooding the system after the collapse of Lehman Brothers, asset prices generally floated ever-higher in the 2010s, with the value of the global stock market almost trebling and global bonds delivering annualised returns of around 4% in sterling terms1.
Despite government-driven austerity, it was a solid economic decade too, with growth in most developed countries running close to, or faster than, their historic trends.
The US, in particular, blazed a trail as it recovered from the deep economic recession that followed the global financial crisis. Not only did the world's biggest economy go through a decade without experiencing a recession for the first time since the 1850s, the US stock market also delivered annualised sterling returns of 16%2.
Despite the debt crisis that befell – particularly in Portugal, Ireland, Greece and Spain – the euro area economy as a whole also grew by 1.4% per year on average. In the UK, real GDP growth averaged 1.9% last decade.
In most cases, unemployment has continued to fall too.
However, we don't expect the 2020s to be like the 2010s.
That's because an increasingly unpredictable political environment is dragging on international trade and holding back investment and, by extension, crimping global economic growth. We don't know how long this will last but we envisage a ‘new age of uncertainty' that will likely hold back economic activity and weigh on markets for the foreseeable future.
The monetary stimulus that drove asset returns and economic growth in the 2010s is also unlikely to be repeated.
Some things, we believe, won't change that much: inflation will probably remain either close to target or, in the case of the euro area, continue to undershoot. As we saw in 2019 as the Federal Reserve changed tack on interest rates and the European Central Bank revived its programme of quantitative easing, stagnant inflation coupled with weak economic growth could also continue to defer the task of normalising monetary policy.
In addition, the technological dislocation that has shaken up a range of industries will likely continue.
But, in general, we expect investment returns to be much more subdued.
Interest rates are likely to remain lower for longer at a time when long-term borrowing rates – as represented by bond yields – are already depressed, which will keep a lid on bond returns. Equity valuations, while still reasonable, are also significantly higher than they were ten years ago, providing a headwind to future returns.
As a result, it is important for investors to be more realistic about return prospects going forward and to prepare accordingly.
We expect returns in sterling terms for both global equities and global bonds in the 2020s to be around half of what they were in the 2010s, at 5% and 1.5%, respectively. However, this is a median projection and the distribution of possible outcomes remains wide.
To try to increase portfolio returns, investors may be tempted to overweight assets believed to offer a higher-expected-return or higher-yield, such as corporate bonds or emerging market equities. While some of these strategies could improve the risk-return profile marginally, they are unlikely, by themselves, to escape the strong pull of the low-return forces in play.
Ultimately, in this challenging investment environment, investors with an appropriate level of discipline, diversification and patience are likely to be rewarded over the long term.
For a deeper dive into our thinking and what it might mean for investors, read Vanguard's 2020 economic and market outlook.
Economist for Vanguard Europe
1 Based on the MSCI All Country World total return index and the Bloomberg Barclays Global Aggregate Bond total return index (hedged).
2 Based on the S&P500 total return index.
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