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So I was surprised to hear Jean L. P. Brunel, chief investment officer at GenSpring Family Offices, tell me that he was preparing his clients for a sustained period of low investment returns. And further, he is counseling those clients — families with hundreds of millions of dollars — that they may need to spend less or change their estate plan. If this is his advice for the wealthy, what does it mean for people with considerably less, who may simply be saving for retirement? Mr. Brunel argues that the classic link among the return premiums for bonds over cash and stocks over bonds still holds, but they are substantially lower because of the low interest rates set by the Federal Reserve. Here is how it works. The return on cash is typically the expected rate of inflation plus some real interest rate that is derived from the rate a central bank sets to promote growth. The return on bonds is cash plus some additional amount to account for the duration of the bond. The return on equities is the bond returns plus some premium for the risk associated with stocks. He noted that cash typically had a return of 4 percent, putting bonds at 6 percent and stocks at 8 to 9 percent. With cash now yielding zero, that has lowered bonds’ return to 2 to 2.5 percent and stocks to 5 percent. The problem, as he sees it, is that too many people are stuck on the old numbers. “I don’t want you to read into this that we have precise information on real returns,” he said. “I could be wrong. It wouldn’t be the first time. But whichever way you cut it, the environment is radically different.” Sure, the stock market is off to a nice start this year. But 2011 also started strong — until the tsunami in Japan and the uprisings throughout the Arab world touched off a downward spiral. For the year, the Standard & Poor’s 500-stock index finished flat, unless you include dividends, which put it up 2.1 percent. We’ll find out if Mr. Brunel’s gloomy take is right. But in the meantime, his forecast of low returns is worth thinking through. LOWER EXPECTATIONS The consensus among other analysts I spoke with is that most people should plan for single-digit investment returns for a while. That time horizon ran from five to as many as 20 years, in the case of Jim Russell, regional investment director at U.S. Bank Wealth Management. “If we’re able to generate returns above that, that’s a good problem to have,” he said. “Most clients think the worst is over, but most professional investors think the black swan event is possible.” (A black swan, a term popularized by the economist Nassim Nicholas Taleb, is the unlikely event that too few people plan for.) Darrell Cronk, chief investment officer for the Northeast at Wells Fargo Private Bank, said the issue for many clients was the effect of negative real interest rates on their portfolios. This is often a hidden problem because, for example, a 10-year United States Treasury bond was paying 2.295 percent on Friday, but core inflation is around 3 percent. In other words, owning government bonds costs investors money. “Over the past decade or two, we’ve had positive real rates of return,” Mr. Cronk said. “We talk about purchasing power risk, scarcity of income for portfolios and duration risk, but a negative real interest rate is a challenge for the bond market.” Maria Elena Lagomasino, chief executive of GenSpring, said clients were not pleased with the implications when she talked to them about Mr. Brunel’s calculations. “The clients get mad when you say what we thought was true in the past may not be true in the future,” she said. “Maybe it won’t happen. But what if it does?” HOW IT ENDS Mr. Brunel’s forecast is bleakest in how he believes the environment of low investment returns will end: global hyperinflation to reduce government debt burdens. Given this gloomy time, he may well be overly pessimistic — the flip side of being overly optimistic when it seems that markets can only go up. (Mr. Brunel said that even his son was rooting against his end-game prediction.)
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