James Picerno | Dec 02, 2022 08:49AM ET
Expected long-run returns for most of the major asset classes remain relatively attractive, based on updates of models run by CapitalSpectator.com. The outlier: US stocks, which are posting the softest relative performance forecast compared with the trailing 10-year return.
For risk assets overall, the outlook has improved recently vs. results for the past decade. The average of three models (defined below) that forecast total returns project a long-run performance that’s roughly in line with the past ten years, based on the Global Market Index (GMI), an unmanaged, market-value-weighted portfolio that holds all the major asset classes (except cash). The ex ante estimate for GMI is slightly below its trailing 10-year result, but this marks a rebound from recent years. As recently as data through August estimated GMI’s expected performance was significantly below its realized return for the trailing decade.
Today’s revised estimates, based on numbers through November, show (for a third month) that the majority of the major asset classes are projected to earn returns above their trailing 10-year performances. The only exception: US stocks are forecast to generate a 7.9% annualized total return in the long run — well below the 12.9% annualized 10-year performance posted through last month.
GMI represents a theoretical benchmark of the optimal portfolio for the average investor with an infinite time horizon. On that basis, GMI is useful as a starting point for research on asset allocation and portfolio design. GMI’s history suggests that this passive benchmark’s performance is competitive with most active asset-allocation strategies overall, especially after adjusting for risk, trading costs and taxes.
Keep in mind that all forecasts above will likely be incorrect in some degree, although GMI’s projections are expected to be more reliable vs. the estimates for the individual asset classes shown in the table above. By contrast, predictions for the specific market components (US stocks, commodities, etc.) are subject to greater volatility and tracking error compared with aggregating forecasts into the GMI estimate, a process that may reduce some of the errors through time.
For historical perspective on how GMI’s realized total return has evolved, consider the benchmark’s track record on a rolling 10-year annualized basis. The chart below compares GMI’s performance vs. the equivalent for US stocks and US bonds through last month. GMI’s current 10-year return (green line) is a solid 6.2%. That’s fallen substantially from recent levels and it’s slightly below the current long-run projection, but it still represents an attractive performance if realized.
Here’s a brief summary of how the forecasts are generated:
This model for estimating equilibrium returns was initially outlined in a Dynamic Asset Allocation . Note that this methodology initially estimates a risk premium and then adds an expected risk-free rate to arrive at total return forecasts. The expected risk-free rate is outlined in BB above.
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