Three times in the last 10 days, I have been exposed to a rather heated debate about the expectations for returns for stocks and bonds. Each person presented their case with great passion and enthusiasm.
With such a large amount of time and energy put into the issue, it would be easy to assume that having the right answer to the question of “what will the markets do?" is critical to successful financial planning.
It ain’t.
Life presents too many variables and too much chaos. The critical issue is not so much one of “What if?" It is a matter of “What then?”
I guess some people get lured into trying to find the “correct” forecast of the equity risk premium because it sounds more sensible than predictions of the next crisis or market correction. The latter predictions feel more speculative and unlikely to work over the long term.
I put the word “correct” in quotes because the word seems to be defined differently by various creators of the forecasts.
Some describe their estimate as a destiny. “X% is what you will get.” Hopefully you don’t take that suggestion too seriously.
Some describe their estimate as a ceiling. “X% is the most you will get.” This is only marginally better than the destiny approach.
Most describe their estimate as a probability. “X% is what you will probably get.” The more realistic they are about the range of possibilities around their expectation the more credible they strike me.
It is notable that the methods used to come up with these prognostications vary considerably. What I see most often are building block methods and valuation based methods.