Coming to Grips with Diminished Expectations

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Coming to Grips with Diminished Expectations

We live in a capitalist economy.  Our well-being depends largely upon the returns generated by the investments we make and those that are made on our behalf by others. 

Our ability to plan for the future relies on the validity of the assumptions we make about those investments.  While past performance is no guarantee of future returns, it is only by analyzing trends that we can formulate meaningful assumptions.

With that in mind, the Trends editors set out to understand what the next twenty years of investment performance is likely to look like based on the factors driving performance.  Rather than start from scratch, we are building our work on top of a ground-breaking analysis from the McKinsey Global Institute embodied in a report titled, “Diminishing Returns:  Why Investors May Need To Lower Their Expectations.” 1

McKinsey & Company is in the business of advising firms on business strategy rather than advising individuals or institutions on investments.  So, unlike the “talking heads” featured on CNBC, FBN, or Bloomberg, they are not trying to influence your investment decisions.  They are simply putting the pieces together to provide a context for smart decisions by their clients.  Therefore, we believe this represents a very realistic base-case against which we can compare various options and alternatives.

The Installation Phase of the Fifth Techno-Economic Revolution began with the “big bang” surrounding the launch of the first microprocessor chip in 1971.  For the first fifteen years, this shock wave was masked by the omnipresent noise of the decelerating mass-production revolution, which had begun back in 1908. 

From an investment perspective, the speculative “Installation Phase” and subsequent “Transitional Phase” of the Digital Techno-Economic Revolution provided the context for a “golden era for investment returns” lasting from 1985 to 2014. 

Given the waves of turbulence that have swept through financial markets in recent years, including the 2000 dot-com meltdown and the 2008 financial crisis, it may sound odd to describe the past three decades as “a golden age for investors.”  But the reality is that total returns on equities and bonds in the United States and Western Europe from 1985 to 2014 were significantly higher than the long-term averages.

These returns were driven by an extraordinary confluence of favorable economic and business fundamentals:

  • Inflation and interest rates declined sharply from their peaks in the late 1970s and 1980s.
  • Global economic growth was strong, fueled by positive demographics, productivity gains, and rapid growth in China...

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