The McKinsey Institute urges professional and retail investors alike to reevaluate their expectations in their recent report; Diminishing returns: Why investors may need to lower their expectations. “Total returns on equities and bonds in the United States and Western Europe from 1985 to 2014 were significantly higher than the long-term average,” they said. “These returns were driven by an extraordinary confluence of favourable economic and business fundamentals.” They identify falling inflation and interest rates, favourable demographics, productivity gains, and rapid growth in China as being factors helping to push growth above long-term averages. As a result, they say “equities in [the USA and Western Europe], average annual returns could be anywhere from approximately 150 to 400 basis points lower, or 1.5 to 4.0 percentage points. For fixed-income, the gap could be even larger, with average annual returns between 300 to 500 basis points lower (3 to 5 percentage points), and in some cases even lower than that.” So what does this mean for investors?
“A two percentage-point difference in average annual returns over an extended period would mean that a 30-year-old today would have to work seven years longer or almost double her savings to live as well in retirement.”
It’s not just those saving for retirement that are affected; public pension fund managers, asset managers, and insurers could all face increasing pressures as the real returns they receive on their investments falls. “Public pension fund managers in the United States assume that returns on a blended portfolio of equities and bonds could be about 8 percent in nominal terms, or 5 to 6 percent in real terms. This would imply equity returns as high as 6 to 8 percent, considerably above the level in our projections. As a result, these pension funds could face a funding gap that is even larger than the one they are struggling with today. Among others likely to be affected are asset managers, whose fees will come under pressure in a lengthy period of lower returns, and insurers that rely on investment income for earnings. On both sides of the Atlantic, policymakers may need to prepare for a later generation of retirees with less income.”
Read the executive’s summary of the report here: (VIEW LINK)
Or access the full 60-page report here: (VIEW LINK)