Outlook: Cracks in the optimistic outlook

Yes, equities have it again by a mile. According to the latest equity/gilts study from BZW, now renamed Barclays Capital, the average real rate of return on equities over the 79 years since 1918 was nearly four-times higher than that of gilts. Even the great stock market crash of 1929 and the awful bear market of the mid 1970s failed to reverse this pattern for any more than a brief interlude of years. And as for the crash of 1987, it barely registers as a blip on the long-term chart.

The big question is whether that relationship, and more importantly the spectacular 8 per cent per annum real rate of return delivered by equities since the end of the First World War, can be expected to continue. With the Asian crisis and talk of global deflation and recession, the fear is that this 79-year-old bull market in equities may be drawing to a close. The tentative conclusion of Michael Hughes, group economic adviser to Barclays Capital and author for some years now of this invaluable piece of research into long-term investment trends, is that it is not.

His case is a compelling one. The rate of growth of dividends is higher than its long-term average and likely to stay so for some years, boosting equity returns. Meanwhile, demographic change - more over-55s saving for retirement - will boost savings and help reduce long-term gilt yields, further increasing returns. Hence the forecast in the report - several more good years for equities because of corporate profit and dividend prospects; but also an improving relative performance by gilts.

Where are the cracks in this optimistic investment outlook? For a start, there is the near-term danger of a stock market correction. Then there is the possibility the more or less constant year-on-year increase in the corporate sector's share of the economy is halted or reversed. Profitability gains in the UK and US are in part a reflection of productivity improvements, but at some point the division of these between capital and labour is highly likely to tip back in favour of the latter. At the moment there appears to be a "new paradigm" of growth and jobs without inflation and wage claims. The worry is that this virtuous circle will prove temporary.

The prospect of higher savings thanks to the age structure of the population also depends on several assumptions. For example, if the retirement age falls, there will be more pensioners spending their past savings rather than more near-pensioners saving furiously for their retirement.

On balance, however, Mr Hughes is probably right. The short-term outlook for equities may be rocky, but further out they continue to look a good bet. The underlying economic background has unquestionably changed for the better, delivering investment returns as high as the golden age of the late 1950s and early 1960s. The most important change is reduced inflation. It is too early yet to rejoice in stable prices, but governments and central banks are determined not to repeat the inflationary mistakes of the 1970s.

A second blessing for holders of gilts is the apparent conversion of governments to prudent budget policies. The chance of big deficits, subsequently inflated away, looks remote. So, although a question mark must still hang over returns to equities in the short-term, their long-term appeal looks decisive. In some respects the outlook for gilts is even better, even if the prospect of the gilt-equity yield gap flipping back to its pre- 1958 state looks remote. The world has undoubtedly changed, but not that much.

Start your day with The Independent, sign up for daily news emails
Sport
Tim Sherwood raises his hand after the 1-0 victory over Stoke
footballFormer Tottenham boss leads list of candidates to replace Neil Warnock
Arts and Entertainment
L to R: Hawkeye (Jeremy Renner), Captain America (Chris Evans) & Black Widow (Scarlett Johansson) in Avengers Assemble
film
News
Nigel Farage celebrates with a pint after early local election results in the Hoy and Helmet pub in South Benfleet in Essex
peopleHe has shaped British politics 'for good or ill'
News
news
PROMOTED VIDEO
News
i100
Travel
Suite dreams: the JW Marriott in Venice
travelChic new hotels in 2015
Arts and Entertainment
Sink the Pink's 2013 New Year's Eve party
musicFour of Britain's top DJs give their verdict on how to party into 2015
Sport
Yaya Sanogo, Mats Hummels, Troy Deeney and Adnan Januzaj
footballMost Premier League sides are after a striker, but here's a full run down of the ins and outs that could happen over the next month
ebooks
ebooksA year of political gossip, levity and intrigue from the sharpest pen in Westminster
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Selby Jennings: VP/SVP Credit Quant- NY- Investment Bank

Not specified: Selby Jennings: VP/SVP Credit Quant Top tier investment bank i...

Selby Jennings: Quantitative Research | Equity | New York

Not specified: Selby Jennings: Quantitative Research | Global Equity | New Yor...

Selby Jennings: SVP Model Validation

Not specified: Selby Jennings: SVP Model Validation This top tiered investment...

Selby Jennings: Oil Operations

Highly Competitive: Selby Jennings: Our client, a leading European Oil trading...

Day In a Page

Aren’t you glad you didn’t say that? The worst wince-and-look-away quotes of the year

Aren’t you glad you didn’t say that?

The worst wince-and-look-away quotes of the year
Hollande's vanity project is on a high-speed track to the middle of nowhere

Vanity project on a high-speed track to nowhere

France’s TGV network has become mired in controversy
Sports Quiz of the Year

Sports Quiz of the Year

So, how closely were you paying attention during 2014?
Alexander Armstrong on insulting Mary Berry, his love of 'Bargain Hunt', and life as a llama farmer

Alexander Armstrong on insulting Mary Berry and his love of 'Bargain Hunt'

From Armstrong and Miller to Pointless
Sanchez helps Gunners hold on after Giroud's moment of madness

Sanchez helps Gunners hold on

Olivier Giroud's moment of madness nearly costs them
A Christmas without hope: Fears grow in Gaza that the conflict with Israel will soon reignite

Christmas without hope

Gaza fears grow that conflict with Israel will soon reignite
After 150 years, you can finally visit the grisliest museum in the country

The 'Black Museum'

After 150 years, you can finally visit Britain's grisliest museum
No ho-ho-hos with Nick Frost's badass Santa

No ho-ho-hos with Nick Frost's badass Santa

Doctor Who Christmas Special TV review
Chilly Christmas: Swimmers take festive dip for charity

Chilly Christmas

Swimmers dive into freezing British waters for charity
Veterans' hostel 'overwhelmed by kindness' for festive dinner

Homeless Veterans appeal

In 2010, Sgt Gary Jamieson stepped on an IED in Afghanistan and lost his legs and an arm. He reveals what, and who, helped him to make a remarkable recovery
Isis in Iraq: Yazidi girls killing themselves to escape rape and imprisonment by militants

'Jilan killed herself in the bathroom. She cut her wrists and hanged herself'

Yazidi girls killing themselves to escape rape and imprisonment
Ed Balls interview: 'If I think about the deficit when I'm playing the piano, it all goes wrong'

Ed Balls interview

'If I think about the deficit when I'm playing the piano, it all goes wrong'
He's behind you, dude!

US stars in UK panto

From David Hasselhoff to Jerry Hall
Grace Dent's Christmas Quiz: What are you – a festive curmudgeon or top of the tree?

Grace Dent's Christmas Quiz

What are you – a festive curmudgeon or top of the tree?
Nasa planning to build cloud cities in airships above Venus

Nasa planning to build cloud cities in airships above Venus

Planet’s surface is inhospitable to humans but 30 miles above it is almost perfect