Bill Gross doesn’t think the future will look like the past.
In his latest investment outlook, published on Thursday morning, Gross wrote that he thinks the stellar returns experienced by both bond and stock investors over the last 40 years are an anomaly that will not be repeated.
Gross looks at two simple charts – the Barclays US Aggregate bond index and the S&P 500 – and says the steady upward march in bond prices and the rockier but still rewarding upward climb in stock prices can’t happen again.
Here’s Gross (emphasis added, charts his):
Since the inception of the Barclays Capital U.S. Aggregate or Lehman Bond index in 1976, investment grade bond markets have provided conservative investors with a 7.47% compound return with remarkably little volatility. An observer of the graph would be amazed, as was I, at the steady climb of wealth, even during significant bear markets when 30-year Treasury yields reached 15% in the early 80’s and were tagged with the designation of “certificates of confiscation.”
The graph proves otherwise, because as bond prices were going down, the higher and higher annual yields smoothed the damage and even led to positive returns during “headline” bear market periods such as 1979- 84, or more recently the “taper tantrum” of 2013. Quite remarkable, isn’t it? A Sherlock Holmes sleuth interested in disproving this thesis would find few 12-month periods of time where the investment grade bond market produced negative returns.
The path of stocks has not been so smooth but the annual returns (with dividends) have been over 3% higher than investment grade bonds as Chart 2 shows. That is how it should be: stocks displaying higher historical volatility but more return.
But my take from these observations is that this 40-year period of time has been quite remarkable – a grey if not black swan event that cannot be repeated. With interest rates near zero and now negative in many developed economies, near double digit annual returns for stocks and 7%+ for bonds approach a 5 or 6 Sigma event, as nerdish market technocrats might describe it.
You have a better chance of observing another era like the previous 40-year one on the planet Mars than you do here on good old Earth.
As tends to be the case with almost all “black swan” references, it’s unclear if this actually meets the criteria of a “black swan.”
A “black swan” is a tail risk – or a negative event – that occurs outside the realm of what had once been deemed possible, but is now sort of used to describe “bad things we think might happen.”
Of course, what good is pointing out that a phrase might not be used inside its original definition if a somewhat warped usage still effectively communicates a point we know the author is trying to make, right? In this case, Gross just wants to use “black swan” as a way to describe investment returns across more than one asset class that were better than math would’ve predicted inside something like a standard bell curve distribution. And we all sort of know that, so why be a pedant about it? Etc., etc.
The actual investing part of Gross’ outlook implies, basically, that if you want good investment returns you’ll have to go to space. Or something like that.
And as has been the theme in Gross’ last several investment outlooks, he calls for tougher times ahead for investors that will see higher volatility and lower returns – which is, of course, the exact opposite of how financial risk-taking works. In theory.