The DIY Income Investor approach suggests investing in different asset classes, as an investor moves up the Income Pyramid. These assets classes include cash, gilts, equities and corporate bonds (plus ETFs based on these asset classes). What is the return you might reasonably expect?
The 2011 Barclays Equity Gilt Study is a rich source in studying the returns on different asset classes quoted on the London stock market, extending back for most assets 111 years.
There's a great quote right at the beginning of the report:
"People almost invariably arrive at their beliefs not on the basis of proof but on the basis of what they find attractive" (Blaise Pascal, The Art of Persuasion)
The 2011 report contains the following table of real asset returns (i.e. excluding the effect of inflation):
| % pa | 2010 | 10 years | 20 years | 50 years | 111 years |
|---|---|---|---|---|---|
| Equities | 8.9 | 0.6 | 6.0 | 5.4 | 5.1 |
| Gilts | 4.4 | 2.4 | 5.8 | 2.5 | 1.2 |
| Corporate Bonds | 3.9 | 2.1 | n/a | n/a | n/a |
| Index-linked | 5.3 | 2.4 | 4.3 | n/a | n/a |
| Cash | -4.1 | 1.1 | 2.6 | 1.7 | 1.0 |
(This and the following table were quoted in a recent article by Tony Reading on Motley Fool)
To me the table shows that the long-term real return on equities is 5-6% but the recent crash and recovery have skewed the results for the last 10 years - implying perhaps that we should expect the future average to return to the long-term trend.
Surprisingly (to me, at least) the real returns on gilts over 20 are pretty competitive with equities, although they are poorer over the shorter and longer term.
The return of corporate bonds seems fairly mediocre over the last 10 years but this does not chime with my own recent experience, which is a much higher return. I may be taking greater risk, of course.
Interestingly, index-linked investments (which I don't have or encourage) have also performed quite well recently and over the last 20 years.
Finally - and as expected - cash performs fairly poorly in real terms with a long-term trend of 1-2%.
Real Return Over Decades
Another table from the report sets out the real returns over each of the past 11 decades:
| Equities | Gilts | Index- linked | Cash | |
|---|---|---|---|---|
| 1900-1910 | 4.0 | -0.1 | - | 1.9 |
| 1910-20 | -7.9 | -10.8 | - | -6.3 |
| 1920-30 | 12.8 | 13.1 | - | 9.8 |
| 1930-40 | 2.3 | 4.0 | - | -1.2 |
| 1940-50 | 6.3 | 0.3 | - | -1.1 |
| 1950-60 | 12.1 | -4.1 | - | -0.6 |
| 1960-70 | 3.3 | -1.4 | - | 1.6 |
| 1970-80 | 0.4 | -3.2 | - | -3.1 |
| 1980-90 | 11.7 | 6.0 | - | 5.2 |
| 1990-2000 | 11.8 | 9.4 | 6.2 | 4.2 |
| 2001-2010 | 0.6 | 2.4 | 2.4 | 1.1 |
As the Motley Fool article notes, these data do not support the notion that gilts are a good way of diversifying away from equities. Gilts have given their best performance when equities are strong, and have performed poorly at times when equities have been weak.
The US Market
The report notes that US asset returns followed a similar trend to those of the UK and that equities were the best performing asset, despite periods of intense volatility.
The Future
The Barclays study gives a pretty poor prognosis for the next decade. The equity premium is expected to be only 3%, with an outlook of 3% annualised notional return on bonds and 6% on equities (demographic changes in developed countries are expected to be a significant factor). If inflation is around 2% (as forecast by the study), real returns are likely to be modest - especially for bonds.
I am not a financial advisor and the information provided does not constitute financial advice. You should always do your own research on top of what you learn here to ensure that it's right for your specific circumstances.
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