Significant Downside Risks: Plan for Lower Portfolio Returns

Significant downside risks (the three most important words in the last US Federal Reserve Statement) are three words that the financial markets do not like to hear, especially in the aftermath of the most recent recession. Economic uncertainty and slow economic growth are the new reality and this reality is not good for investment portfolios. As my charts on the momentum tab of my blog show, except for Canadian real estate investment trusts and ten year bonds, every other major asset class is underwater.

Investors need to think about Japan. The Nikkei 225 hit a record high of close to 39,000 back in 1989 before the Japanese equity market collapsed. A few years latter it was trading around 15,000. Today the Nikkei trades around 8,000. In the past 22 years, the Nikkei has never even got close to that record high.

With bond yields at record lows, and equity markets tanking (the TSX lost 6.5% this week), it is hard to achieve decent portfolio returns.The 8.25% annual portfolio return that was used in calculating retirement portfolios ten years ago is now a distant memory. Historically, the yield on a 10 year government of Canada bond has outperformed the dividend yield on the TSX, but with bond yields now so low dividend paying stocks are looking attractive. Currently, the yield on a 10 year government of Canada bond is 2.59%, the same value as the TSX dividend yield in July.