Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 291

Great investment expectations are deluded

Sadly, investors lost one of their greatest advocates recently, when Jack Bogle, the founder of Vanguard and a pioneer of the index investing movement, passed away. Jack’s legacy is that he created a practical real-world application for a well-established academic idea. The efficient market hypothesis holds that the current price of an asset should already fully reflect all available information. Given this, it should be impossible to outperform the market by actively picking stocks or bonds.

Unrealistic expectations for stable returns

While in the real world, the idea of efficient markets is more a useful framework than an established investing law, over the long run, market returns dominate the outcomes of most traditional buy-and-hold investment strategies. For a typical long-only stock portfolio, market returns will usually explain at least 80% of total portfolio return over time. Mr Bogle identified that the investment returns in the traditional mutual funds could be replicated for a fraction of the cost than was being charged.

The ‘Vanguard effect’ forced a dramatic re-pricing of fees across the investment management industry. It also established a fair hurdle that all active managers must beat to justify their existence. Perhaps more important, Mr Bogle’s crusade brought home to ordinary investors one of the most important underpinnings of investing: the fallacy that it is easy to consistently and predictably outperform the market.

The idea that beating the market should be thought of as hard and unpredictable is a vitally important concept with a number of significant implications.

Consider how many investors set their own investment expectations. Surveys typically show that investors are wildly optimistic when it comes to their own investment goals. For example, a 2017 global investor survey by Schroders found that 41% of Australian investors expected annualised returns of over 10% from their whole portfolio over the following five years. Similarly, the most recent ASX Australian Investor Survey (prepared by Deloitte Access Economics) showed that the average return expectation for an Australian investor was 9%. Even more revealing are the acceptable risk tolerances. Fully 67% of Australian investors surveyed by the ASX held a risk appetite that accepted only ‘guaranteed’ or ‘stable’ returns. Indeed, the most prevalent investment held was cash, with 56% of those surveyed putting their savings in the bank, compared to only 51% who owned some shares.

An inconvenient truth on investment returns

Humans are emotional actors. When investing, we are prone to behavioural biases such as over-confidence and trend-chasing. The highly-ambitious double digit return expectations could only apply to investors willing to bear the risks in a portfolio solely invested in higher-risk assets, like shares or private equity. There is of course nothing guaranteed, and very little that is stable, about investment into these sorts of asset classes.

Determining reasonable ‘long run’ return assumptions for an asset class is an inherently problematic exercise. Most academics and industry experts would hold that long run share market return expectations should be somewhere between 5% to 8% a year. While global share market returns have annualised at 9.7% in A$ terms over the last 10 years, over the last 20 and 30 years (horizons picking up both bear and bull markets) these returns have been 3.7% and 7.1% respectively.

It is a particularly optimistic investor who uses a long-run return expectation of greater than 10%, even for a portfolio consisting only of shares. With cash rates for retail investors at only 2%, such returns are herculean for investors with a low risk tolerance (ie guaranteed or stable returns). Under the efficient market paradigm, it is impossible to outperform the ‘market’ while taking significantly less risk than the market.

We live in a world of low nominal growth and ultra-low interest rates that looks very different to the past. Over the 10 years leading up to the GFC, the average Australian cash deposit rate was 5.5% and real economic growth averaged 3.6%. Today, growth is running at 2.8% and cash returns are 2%. Economic theory tells us that, short of significant technological change (a possibility), future returns for investors should be a function of current interest rates and expected economic growth.

In the real world, markets are not efficient. There are managers and investment strategies that have shown that they can, to some degree, bend the risk-versus-return equation in favour of investors. Indeed, many of these strategies and managers can now be accessed by retail investors via the ever-expanding breed of new LICs and ETFs arriving onto the ASX. There is a limit however to what investors should let themselves expect as no manager or strategy will perform as hoped all the time.

Hope is not a strategy

For the first time in years, many investors will have suffered losses over the calendar year of 2018, particularly over the final six months. While painful, times like this can serve as a great test to see if your risk profile matches your risk tolerance in both the good years and the bad. If your losses were greater than what you willingly accept from time to time, ask yourself some questions about what you should realistically expect and the risks you are willing to take to get there.

Judging by the survey findings, the average investor today expects high returns from a low growth, low interest rate world. Over the long run, those are not safe assumptions to make when planning for important savings goals like retirement. Happily, there is one sure-fire way to bridge the gap between unrealistic expectations and needing to provide for your retirement. It’s not very glamorous and we’ve all heard it before. Save more.


Miles Staude of Staude Capital Limited in London is the Portfolio Manager at the Global Value Fund (ASX:GVF). This article is the opinion of the writer and does not consider the circumstances of any individual.


The potential of smart beta


Most viewed in recent weeks

10 little-known pension traps prove the value of advice

Most people entering retirement do not see a financial adviser, mainly due to cost. It's a major problem because there are small mistakes a retiree can make which are expensive and avoidable if a few tips were known.

Check eligibility for the Commonwealth Seniors Health Card

Eligibility for the Commonwealth Seniors Health Card has no asset test and a relatively high income test. It's worth checking eligibility and the benefits of qualifying to save on the cost of medications.

Hamish Douglass on why the movie hasn’t ended yet

The focus is on Magellan for its investment performance and departure of the CEO, but Douglass says the pandemic, inflation, rising rates and Middle East tensions have not played out. Vindication is always long term.

Start the year right with the 2022 Retiree Checklist

This is our annual checklist of what retirees need to be aware of in 2022. It is a long list of 25 items and not everything will apply to your situation. Run your eye over the benefits and entitlements.

At 98-years-old, Charlie Munger still delivers the one-liners

The Warren Buffett/Charlie Munger partnership is the stuff of legends, but even Charlie admits it is coming to an end ("I'm nearly dead"). He is one of the few people in investing prepared to say what he thinks.

Should I pay off the mortgage or top up my superannuation?

Depending on personal circumstances, it may be time to rethink the bias to paying down housing debt over wealth accumulation in super. Do the sums and ask these four questions to plan for your future.

Latest Updates

Investment strategies

Three ways index investing masks extra risk

There are thousands of different indexes, and they are not all diversified and broadly-based. Watch for concentration risk in sectors and companies, and know the underlying assets in case liquidity is needed.

Investment strategies

Will 2022 be the year for quality companies?

It is easy to feel like an investing genius over the last 10 years, with most asset classes making wonderful gains. But if there's a setback, companies like Reece, ARB, Cochlear, REA Group and CSL will recover best.


2022 outlook: buy a raincoat but don't put it on yet

In the 11th year of a bull market, near the end of the cycle, some type of correction is likely. Underneath is solid, healthy and underpinned by strong earnings growth, but there's less room for mistakes.


Time to give up on gold?

In 2021, the gold price failed to sustain its strong rise since 2018, although it recovered after early losses. But where does gold sit in a world of inflation, rising rates and a competitor like Bitcoin?

Investment strategies

Global leaders reveal surprises of 2021, challenges for 2022

In a sentence or two, global experts across many fields are asked to summarise the biggest surprise of 2021, and enduring challenges into 2022. It's a short and sweet view of the changes we are all facing.


2021 was a standout year for stockmarket listings

In 2021, sharemarket gains supported record levels of capital raisings and IPOs in Australia. The range of deals listed here shows the maturity of the local market in providing equity capital.


Let 'er rip: how high can debt-to-GDP ratios soar?

Governments and investors have been complacent about the build up of debt, but at some level, a ceiling exists. Are we near yet? Trouble is brewing, especially in the eurozone and emerging countries.



© 2022 Morningstar, Inc. All rights reserved.

The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.