Stan Choe, Associated Press
NEW YORK (AP) - Everything's awesome for investors, but how much longer can it last?
Stocks, bonds and most everything in between have delivered strong returns the last seven-plus years, helping to inflate retirement nest eggs and college-savings funds. But don't expect a repeat, says Richard Turnill, global chief investment strategist at BlackRock, the world's largest asset manager.
Turnill forecasts big U.S. stocks over the next five years will return maybe a third of what they did over the last five years, for example. For bonds, simple math means he's anticipating long-term Treasurys to lose a modest amount over that time. Bond yields have sunk, hitting a record low this summer, limiting the income they pay out. And when, or if, interest rates rise from that low base, it will mean drops in their price. Turnill recently discussed his outlook for the markets. Answers have been edited for clarity and length.
Q:Stocks are at a record high. Bonds have delivered strong returns this year. Is this nirvana for an investor?
A:You're in a sweet spot for financial markets, created by a combination of low-but-steady global economic growth and very accommodative monetary policies around the world. That is supporting prices now and dampening volatility. And even though we're seven years into this economic expansion, we see very few signs that it's getting long in the tooth, that it's about to come to an end.
Monetary policy, we believe, is going to remain very accommodative. We expect to see a gradual tightening by the Federal Reserve, but 'gradual' is the important word. And we see further easing in the rest of the world, particularly Europe and Japan.
So, is this nirvana? I'd say that it's very dangerous to extrapolate the very strong returns we've had the last few years and assume they'll continue. For bonds, yields have come down. Valuations are higher. It's also true in equities and commodities. Yes, we're in a very favorable market, but investors need to readjust their expectations to getting lower returns going forward than they've had in recent years.
Q:Do you think investors are generally doing that, lowering their expectations?
A:Not yet. It's starting to happen, but a lot of investors still focus too much on the short term and what's just worked really well. The very strong flows into bonds are a good example of that. You've seen some strong returns this year, but for a buy-and-hold investor, the most you'll get from a bond is its yield. And we know that because of the fall in yields, the prices of bonds are much more sensitive to changes in interest rates, so volatility is going to rise.
Q:For stocks, you're forecasting a pretty significant cut in returns versus the last five years.
A:Over the last five years, returns have been driven by factors which we know are not going to be sustainable. First of all, they've been driven by a huge increase in earnings. But profit margins are now close to record levels and wages are starting to pick up, so there are some headwinds to earnings coming through.
Second, valuations (or the amount that investors are willing to pay for each $1 of profit a company produces) have increased. This has been particularly important the last few years, where earnings have been going down but the market has been going up. Valuations in the U.S. are now fair to moderately high.
Third, you've seen the markets supported by stock buybacks and dividends. But if you look now, companies are paying out more than 100 percent of their earnings in dividends and buybacks. That's unlikely to increase from here.
So we think a mid-single digit return from stocks is actually a reasonable return. And it looks attractive compared with what you're going to get from other asset classes.
Q:Are there any mistakes you're seeing investors making now?
A:We see investors reacting to short-term movements, chasing good performance or selling after bad performance.
Q:Hasn't that always been the case, where people buy high and sell low?
A:I think the recent market environment has exacerbated the trend. Because of the high levels of uncertainty we have today, I think investors have been shortening their investment horizons.
The second mistake we see is very large holdings still of 'safe-haven' assets. Those include cash and traditional government bonds. Both cash and government bonds play an important role, but it's about how much you own. Our view is clients typically hold too much.
Q:To be fair, if you're forecasting more modest returns for nearly everything, it's not like investors are losing out on much by sticking with cash rather than stocks or bonds. The opportunity cost is low.
A:The short-term opportunity cost is relatively low. But the long-term opportunity cost is very significant. Cash does play an important role, but if you hold onto that cash for too long, you're steadily losing pricing power (because inflation makes it worth less).
In many cases, the bigger issue is not the cash but the large holdings they have in government bonds. When investors look at their statements, they'll see very high returns for this year because yields have declined. They need to recognize that those returns have come at the expense of low yields, which means lower future returns.
Q:To put things in context, you're not forecasting 10 percent drops for bonds or calling this a bond "bubble."
A:I think the term 'bubble' is inappropriate to use anywhere right now. I don't see evidence of bubbles. The very low yields we see in bond markets today reflect the low-growth and, until now, subdued-inflation environment we're in. I don't believe investors need to be worried about double-digit losses in their bond portfolios. But I do believe returns are going to be lower.
Published: Mon, Sep 12, 2016
