Bill Gross, PIMCO bond king, wrote the following in his recent August Investment Oulook - Cult Figures.
1. From 1912 to 2012, stocks had a real return of 6.6 percent per year and this is fading. This 6.6% return will be hard to replicate in the future because two drivers that contributed to corporate profits are already at historical lows (i) labor costs (ii) corporate taxes. Bond returns are fading as well. The Barclays U.S. Aggregate Bond Index currently yields only 1.8%.
2. Today, a diversified portfolio comprising stocks returning a nominal 4% and bonds returning a nominal 2% may produce an aggregate portfolio return of 3%. After inflation, it becomes zero. Bill Gross goes on to say that assumptions of 5-6% real returns used by portfolio and pension fund managers are unrealistic. Realizing this, policymakers' solution will be to inflate ourselves out of the predicament. But growth from inflation is not real growth as people will realize.
3. Unfair as it may be, investors will be forced to find an inflationary solution, something that will outpace inflation over the next years and decades. Investors should not count on stocks or bonds for asset growth.
I think this article effectively counteracts Jeremy Siegel's Stocks For The Long Run published in the 1990s. The book affirmed and fueled our society's equity cult. By going back 100 years, Gross' analysis looks back much further. I recall Siegel's book being one of the must-reads in business school. But in real life, stocks never seem to provide returns the equity cult promises.
Real estate in high demand, limited supply cities has always provided good returns net of inflation. I experienced this as a boy in Malaysia and now as an almost-middle-aged guy in New York. Shelter is a basic human need hence it has use apart from being just an inflationary hedge. In contrast, gold, the other inflation hedge, does not have a use but is just nice to keep when people don't believe in fiat money anymore.
Wei Min Tan is Managing Director of Castle Avenue Partners and focuses on luxury condominiums as an investment in Manhattan. He was recently interviewed by The Wall Street Journal on Foreigners Buying U.S. Properties.