Nothing happening with stocks and bonds lately will matter when you look back a decade from now.
Your balanced portfolio has come unglued? Returns on an average annual basis will be just fine when you look in the rear-view mirror in 10 years. The terribleness of bonds will be a distant memory, and stocks will have found a middle ground between the euphoria of last year and the declines of 2022.
Guidelines for financial planners on long-term investment returns, inflation and more are released annually by the FP Canada Standards Council and the Institut québécois de planification financière. This year’s edition is a must-read because of the abnormality of recent returns. Use the guidelines to set your future expectations for returns over the next 10-plus years.
Stocks always dominate conversations about investing, but what’s happening in bonds is the bigger story today. The FTSE Canada Universe Bond Index was down close to 11 per cent for the year through May 18 on a total return basis, which means price changes for bonds plus interest paid. Stocks rise and fall – we all get that. But bonds dropping by double-digit amounts? It’s unprecedented for most investors.
Interest rates must rise to slow inflation, and this, in turn, hurts the price of bonds. At some point this year or next, rates will peak and the pressure on bonds will ease. Over the next 10 years, the guidelines for planners say you should expect annualized returns of 2.8 per cent from bonds.
The S&P/TSX Composite Index was down a little over 4 per cent on a total return basis for the year to date, but gains over the three years to April 30 averaged 11.1 per cent. Don’t expect anything like that over the long term.
The guidelines for planners suggest a total return of 6.3 per cent for Canadian stocks, and 6.6 per cent for foreign developed markets that include the United States. This latter estimate would be quite a departure. While the S&P 500 Index has fallen 17.5 per cent this year, the average annual return over the past 10 years was 13 per cent.
Willing to add risk to a long-term portfolio to juice returns a bit? The guidelines project average annual returns of 7.7 per cent from emerging market stocks over the 10-plus years.
The past six months have added some urgency to the matter of real returns, or what’s left of your gains after inflation. Inflation has steadily risen to 6.8 per cent in April, which is a very high hurdle for a portfolio to clear.
The planning guidelines project a long-term inflation rate of 2.1 per cent, which is in line with the pre-COVID-19 world. Inflation is projected to slow down in the second half of 2022, but we’ll need lower oil prices and better-functioning global supply chains to make real progress.
We’ve seen in the pandemic how events in the near term can trigger exceptional events in financial markets. The benefit of using the planning guidelines is that they’re based on unbiased analysis by the Canada and Quebec pension plans, surveys of portfolio managers by pension consulting firms and long-term historical returns.
The guidelines will help you make sense of one of the most disturbing investing developments of 2022, which is the way a traditionally balanced portfolio of 60 per cent stocks and 40 per cent bonds has been thrashed. You could easily be down 10 per cent for the year to date if you used an exchange-traded fund or mutual fund representing the broad bond market and had exposure to Canadian, U.S. and international stocks.
The financial planning guidelines suggest balanced portfolios will resume delivering mid-single-digit returns. If 40 per cent of a portfolio was in bonds, 30 per cent was in Canadian stocks, 30 per cent was in developed market stocks outside Canada and 5 per cent was in emerging markets, the expected annualized return would be 5.4 per cent before fees for the next 10 years or more. The planning guidelines assume fees total 1.3 per cent, which means a net 4.1 per cent return.
DIY investors holding stocks could conceivably get their fees down to virtually zero if they hold stocks and use a digital broker with no trading commissions. Using exchange-traded funds in a DIY portfolio could mean fees of up to 0.3 to 0.5 per cent, including commissions to buy and sell.
Advisers charging fees set as a percentage of account assets usually charge between 1 and 2 per cent, with investing product fees extra. Ensure you’re getting value to justify that cost, including financial planning that covers retirement, taxes and estate matters.
Paying 1.3 per cent just to have a balanced portfolio managed for you seems an overpayment, especially when you can buy ETFs that package portfolios at various risk levels into a single easy-to-buy product. The cost of owning these asset allocation ETFs is just 0.2 per cent or so, which leaves you almost all of the modest returns projected for the next 10-plus years.
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