Mike Earl, CFP®, CPWA®
Stocks and bonds compete with one another to attract investment capital – all over the world.
Low bond yields today make bonds a less compelling investment than at past times in history -- and make stocks become more attractive on a relative basis.
What do low bond yields signal for forward-looking bond returns? This is not a trick question. Low yields signal lower expected returns going forward.
U.S. Treasury bonds have not yielded this little interest since the 1940s (see the yellow line in the chart). Correspondingly, bond returns in the 1940s were a meager 1.8% per year.
Thus, it’s fair to expect U.S. bonds to return something on the order of 2% per year over the next 10 years.
You might then ask: why do we own bonds at all? The answer is because there is value in stability. A terrible year for bonds is a -3% return. If your worst-case scenario is a 3% decline in a given year, you’re gaining a strong stabilizer in contrast to equities, which can drop 30% or more in a given year.
And, it’s not just U.S. bonds offering low yields:
If your bond returns are just 2% per year and inflation kicks up to 3% (or higher), it makes clear the need to own stocks – to keep pace with (and ideally outpace) inflation.
What does this mean to you, our client?
BlackRock sums it up well: “Feeling safe may be risky.” In our client portfolios, we maintain an overweight to equities (relative to our historical norm) to make sure our clients are growing their wealth relative to inflation.
Disclosures: Because The Wealth Group, Austin B. Colby & Associates is independent of Raymond James, the expressed written opinions above are our own and not necessarily reflective of Raymond James’ opinions.