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Expected returns: Estimates for your financial planning

Anyone figuring out their asset allocation or plotting a bid for freedom with their own financial plan needs to have some idea of their expected return.

The expected return is the average annualised1 growth number that you can reasonably hope your portfolio will deliver over time.

With a credible expected return number you can work out whether you’re investing enough money to meet your goals before the clock ticks down.

But what on Earth does a credible expected return look like?

Expected returns - uncertain but not entirely unpredictable

Great expected returns

We already know that a volatile asset like equities could fruitlessly gobble up most of our coins in the years ahead, or else deliver a three cherry win on the one-armed bandit of life.

Or most likely something in between. Nobody can say for sure.

But the wild variations in outcome tend to even out over time. So one reasonable method for estimating your expected return is to look back at what equities and bonds have produced since reliable records began – that’s around 1900 in the UK. You’ll see this figure in my table below.

However, many commentators believe that the last five years of historically low interest rates and Central Bank counter-measures have changed the game.

The consensus gel has hardened around the idea that equities’ historic verve is being sapped by near-zero interest rates.  The theory goes that investors are only prepared to invest in risky equities (as opposed to stable cash and government bonds) because they earn a bonus for doing so.

This bonus is known as the equity risk premium.

Historically, equity investors in the UK have earned a risk premium of more than 4% over cash. As returns on cash and bonds are currently being suppressed by low interest rates, that implies that equities will be held back, too.

In other words, if cash historically returned about 1% a year, then an equity risk premium of +4% would imply an average return from equities of 5%.

But if cash is likely to return 0% in the years ahead, then equities can still only be expected to return +4% over that. Which sadly would mean equities only raking in 4% a year, on average – well below the historic norm.

Fat tails of the unexpected

Given the uncertainty ahead, I’ve gathered a selection of credible return estimates from a range of independent analysts and commentators from both sides of the Atlantic. (I think it’s useful for UK investors to be aware of the US perspective, because passive investors are likely to have as much as 50% of their equity portfolio invested in American companies.)

Remember, there’s nothing baked-in about any of these numbers. They are long-term ranging shots designed to give you a realistic prognosis for what lies ahead – but no guarantees!

Each and every one of these sources would be the first to say their number will be wrong. That’s why some sources offer a range of probabilities.

It’s also important to note that the numbers do not speak of the fevered gyrations that can grip the markets at any time. Your wealth won’t smoothly escalate by a pleasant 4% to 5% a year.

On any given day you have a 50-50 chance of tuning in to see a loss on the equity side of your portfolio. Every year, there’s on average a 30% chance of a loss.

For this reason, some commentators also throw in a measure of risk (volatility) to express how much a given asset might veer from the expected in any given year.

This measure is known as standard deviation.

  • If your expected return is 5% but the asset’s standard deviation is 20%, then two out of three annual returns can be expected to fall roughly within the range of -15% to +25%.
  • Nineteen out of 20 returns would fall within two standard deviations: -35% to +45%.

In other words you can expect your actual returns to be about as smooth as sandpaper toilet roll.

  • The UK’s biggest real-term loss for equities was -71% in 1973-74. It took ten years for investors to break even again.
  • Meanwhile on the bond side, investors endured a -73% real-term loss between 1947 and 1974. They only fully recovered in 1993, 46 years after the slide began.

We can aim to avoid this kind of nightmare by diversifying globally.

Many happy expected returns?

You can use the range of expected return numbers below – high, low, and intermediate – to test the durability of your plan as you plot your own scenarios.

You may be shocked at the difference between the worst and best cases.

If your goal is mission critical then take action to ensure you smash through the tape, rather than hoping to scrape over the line.

Note: These annual return forecasts are in real (after inflation) terms.

Forecaster Equities (%) Gov Bonds (%) 60:40 split (%) Forecast
Ferri 5 1.9 3.76 Jan 2014
Dimson, Marsh, Staunton 3-3.5 0.5 2.15 Feb 2013
Evensky 5.5 1.75 4 May 2012
Hale 6 1 4 Oct 2013
FCA2 4-5.5 0.5-1 2.6-3.8 Apr 2012
UK historical 5.2 1.5 3.72 Feb 2013
World historical 5 1.8 3.72 Feb 2013

These expected returns don’t account for taxes or portfolio fees (fund charges, platform fees, trading costs etc) – your number should.

Sources and notes:

Rick Ferri – US passive investing champion and wealth manager. 30-year forecast. Equities figure is for developed world stocks. Bonds figure is for 10-year US Treasury Notes. Click through for more asset classes.

Dimson, Staunton and Marsh – Professors at the London Business School. 20- to 30-year forecast. Equities figure is for developed world stocks. Bonds figure is for 20-year UK Government bonds.

Harold Evensky – US wealth manager. Figures for developed market and US Treasuries.

Tim Hale – UK passive investing champion and wealth manager. 20-year forecast. Equities figure represents a portfolio including emerging markets, small cap, value, and global property assets. Bonds figure refers to UK Gilts with 0-5 year maturities.

FCA – Report by PricewaterhouseCoopers. Used as basis for regulatory pension projections from 2014. A 10-15 year forecast. Equities figure is for UK stocks. Bonds figure is for 10 to 15 year UK Gilts.

UK and World historical – Dimson, Marsh, Staunton (again). Credit Suisse Global Investment Returns Yearbook 2013.

Take it steady,

The Accumulator

  1. i.e. Yearly. []
  2. Financial Conduct Authority. []

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{ 29 comments… add one }
  • 1 Steve February 4, 2014, 10:08 am

    Your illustrated Bonds die seems to be broken – or you’ve paid over the odds for a non-standard die. The 1 & 6 should be on opposite faces.

    Now to read the actual story …

  • 2 Paul S February 4, 2014, 10:33 am

    Nice summation. Worth noting that Jeremy Siegel calculates the standard deviations of real returns for a 20-year holding period of both US stocks and bonds as about 3%. Using the “consensus” figures from your table of about 5% for stocks and 1.5% for bonds that gives a 1SD spread (68% probability) of 8% to 2% for stocks and 4.5% to -1.5% for bonds.

  • 3 dearieme February 4, 2014, 11:01 am

    Almost all demonstrations of what a good wheeze equities are use only US and UK figures. If you look at the figures for other advanced countries, a different picture emerges. So the question is, is the US now (for instance) like the US in 1950 or like Austria in 1913? Who knows?

  • 4 dearieme February 4, 2014, 11:08 am

    Two other points.

    (i) Looking at the DMS figures, I see that your prediction for a 60:40 portfolio is equal to 0.6 x 3.25 + 0.4 x 0.5 = 2.15. That’s a bit gloomy, in that it doesn’t allow for the merits of an annual rebalance.

    (iii) On the other hand, it’s a bit optimistic in that it doesn’t allow for taxes and charges.

  • 5 Snowman February 4, 2014, 11:09 am

    I like to think of equity returns being like the climate. Equity markets and returns (like climate) are complex adaptive systems not conforming to some nice mathematical probability distribution the mean and variance of which can be inferred from past returns. Because temperatures have averaged x degrees over the past 150 years it doesn’t mean they will average x degrees over the next 150 years.

    That is where the inherent difficulty lies in estimating future returns, and estimates based on purely past returns are of limited use.

    The supply side models that look at what our equities will supply us as investors by way of future dividends are a better attempt to make a prediction of the essentially unpredictable.

    For example if dividends grow with inflation, which is a vaguely reasonable assumption as dividend growth lags GDP growth (because of new ventures where the entrepeneurs setting them up pocket the GDP they create before they are floated on the stock market) then a bit of simple mathematics says real returns will be roughly in line with the current dividend yield in real terms, so the 3 -3.5%pa real return that Dimson, Marsh and Staunton come up with looks by far the most plausible estimate of the unknowable.

    The message then is that it is essential to control costs in equity investing. You can’t afford to lose a lot of a zig-zagging 3-3.5% real return or else you are taking risk for no reason.

    And if you are modelling what real return you need to stop the money running out in later life you need to be realistic about returns.

    Some people taking advice are losing upwards of 2.5%pa through charges and advice costs. As has been pointed out by Paul Lewis (of Moneybox fame) the conclusion is the investor takes all the risk and the financial services industry takes all the reward in those scenarios.

    That is one of many reasons I advocate like monevator a low cost passive approach.

  • 6 neverland February 4, 2014, 11:09 am

    Whether its 2.15% or 4% real there isn’t much room in those numbers to pay for:

    – platform charges
    – dealing costs
    – active management fees

    Just brings home what a crappy deal most people get out from their ISA/pension providers

  • 7 neverland February 4, 2014, 11:11 am


    snap! #groupthink

  • 8 vanguardfan February 4, 2014, 12:03 pm

    So, if we take 3% as an average real return before taxes and costs.
    What assumption should we make for taxes? Obviously if you can shelter in SIPP and ISA you can largely avoid tax in the accumulation phase. What assumptions should be made for taxable accounts? At the moment I’m definitely paying some additional taxes on interest and dividend income. Let’s be cautious and say 20%. That reduces returns to 2.4% real.
    Let’s assume that we can keep costs to 0.5% (I am not sure if I achieve this, with dealing costs, account fees and TERs – I suspect I underestimate the effects of these and could be anything up to 1%). So that gets it down to 1.9% at the lower end, 1.4% at the higher end. Even compounding over 40 years, that’s not going to grow enormously.

    Of course, the further problem with this is that it is meaningless to project any of these figures as a smooth year on year growth rate. What you need to do is simulate returns which give a mean of your selected growth rate but also vary year on year. Any chance of a follow up post on available simulation tools and reasonable measures of volatility to plug into them alongside these growth estimates?

  • 9 Luke February 4, 2014, 2:03 pm

    These forecasts highlight (yet again), the need to keep costs down and your investments away from the grubby mitts of the taxman!

    Using consensus figures and an aggressive 80:20 split over the next 20 years doesn’t return much over 3% real p/a, even when using an ISA.

  • 10 Juan February 4, 2014, 8:29 pm


    The taxes you pay on dividens are simply “not diferred”. You were going to pay them anyway. In other words, you pay them now instead of paying the taxes at the end.

    So the impact of not being able to difer these taxes is not as large as 20%. It is less, I don’t know how much or how to calculate it, but definitely less.

  • 11 The Accumulator February 4, 2014, 11:09 pm

    @ Dearime – the worst of the other developed countries basically amount to the losing sides of WWI or WW2 or both. Given that WWIII will definitely set my retirement back a bit, it seems reasonable to use the UK figures or indeed the aggregate World figures (by which I mean developed world) which are near enough the same as it turns out.

    Here’s Rick Ferri on why it’s not worth hoping for a rebalancing bonus (his conclusion is similar to yours) http://www.rickferri.com/blog/investments/why-correlation-doesnt-matter-much/

    @ Snowman – one of the differences between DMS/FCA and Hale is that Hale is throwing in a bonus for a stiff commitment to risk factors like Value and Small Cap. That’s probably why it’s worth testing the range of numbers (assuming your allocation includes risk factor tilts). It’s as important not to crush your own spirit from the outset as it is to temper expectations.

    @ Vanguardfan – the FCA paper linked to in the table has a section that estimates the tax take from various model portfolios. That’s a good starting point.

    FireCalc is the best Monte Carlo sim I know of. It has a lot of tweakable options. See if it’s what you’re looking for.

    @ Steve – dodgy dice? Sheesh, you can’t trust the internet for nuthin’

  • 12 ermine February 5, 2014, 9:24 am

    The geek in me feels uncomfortable about the use of the term standard deviation for a variable that isn’t normally distributed but has a long term upward drift. However, your logic seems fine to me.

    Appreciating this horrifically large noise signal on top of the market value helped me deal with the highs and lows, congratulations for a clear overview of something that it took me a long while to feel my way towards..

    The active devil in me would suggest the CAPE as a indicator of fair value if you are going to start bandying around numerical analyses of historical data, but I know I shouldn’t 😉

  • 13 The Investor February 5, 2014, 10:11 am

    Personally, I don’t expect stock market returns to be greatly lower in the future than they have been in the past. In fact they may turn out to be slightly higher, as compensation for the extra perceived risk and volatility if it persists, especially relative to bonds.


    Appreciate this is a pretty heretical view. 😉

    I have had the opportunity to argue personally with one of men behind the sources in The Accumulator’s table, and he didn’t really disagree, he just said (following the same logic as T.A.) that his was the most rationale “best guess” and he was employed to give such a guess, not to speculate about ways in which return projects might be confounded.

    I totally see that, and would likely take the same approach if I was a professional forecaster.

    But I think times have been distorting enough recently (massive bond bull market followed by QE taking interest rates to 300 year lows on top of two huge crashes in a decade) that there’s a good chance from an equity perspective, the spread over bonds approach is misleading currently.

    In terms of planning, it’s clearly best to be prudent and respect the view of a wider range of sources. If they turn out to be too gloomy, then great, more Werther’s Originals and afternoon trips to the cinema in your old age. 😉

  • 14 Snowman February 5, 2014, 11:15 am

    @ the accumulator

    Yes, looks like Tim Hale goes for 5% real return for developed equity markets and then the premiums you mention, small cap, value premiums (and emerging markets premium) take it up to 6%pa.

    To get to the 5%pa he says ‘assuming a dividend yield of 3% in the UK and a not unreasonable assumption of earnings growth of 5% in nominal terms and inflation of 3%’.

    Looking at the Dimson, Marsh Staunton analysis of 19 countries real real dividend growth of 19 countries 1900 -2010, just over half of countries have experienced negative real dividend growth. The world figure is 0.83% pa real growth reflecting the high US component (1.17%pa). So Tim Hale’s roughly 2% figure (5% – 3%) looks optimistic.

    Other estimates I have seen start with earnings rather than dividends (or cyclically adjusted earnings x a sustainable payout ratio) so there is scope for turning the real return on equities to a figure you are happier with.

    A 3% real return on equities would do me fine so I take comfort from the DMS figures, if I needed a bit more I might focus on one of the other estimates!!

    As long as we are all happy and in good health we should be able to deal with the inevitable divergence from our estimates.

  • 15 neverland February 5, 2014, 1:47 pm

    Things didn’t use to be this way and returns look awful going forwards

    For instance there are at least five (risk free) UK government index linked gilts in issue that paid (when issued at par) RPI plus more than +2%

    They were all issued before 2005

    So basically up to 2005 you could achieve, risk free, the same real rate of returns (after costs) that DMS/low end FCA say you should be able to achieve with a mixed bond/equity portfolio

  • 16 dearieme February 5, 2014, 2:00 pm

    Ah, neverland,the early issues of index-linked savings certificates knocked 2% + RPI into a cocked hat.

  • 17 Rob February 5, 2014, 4:28 pm

    I did my calculations based on a 5% annualised return using a Hale-like 100% equity portfolio (well, and some in cash). According to most of the predictions above, perhaps I’m being optimistic?

    My portfolio risk is already high. Even if I knew the rate of return would be say 2%, I’m not sure it would make a huge difference – I try to save as much as I can anyway.

    This is where (wannabe) early retirees get the advantage – if they’re running short, they can increase savings rate and/or save for longer. And the higher the savings rate (% of income), the less difference the rate of return makes (less time for compounding). So the take home is surely save as much as you can and aim to retire early, if only for the added safety margin?

    As an aside, I wonder whether many of these places keep their estimates deliberately low to avoid another PPI/endowments etc. scenario. I can’t really see MoneySavingExpert running a campaign complaining people are much richer than they expected…

  • 18 neverland February 5, 2014, 5:14 pm


    Two massive stock market crashes are what put paid to the previous comfy 10%+ (including inflation) equity return predictions

    All the FTSE-100 has given you since 31 December 1999 is a minus 8% capital loss and maybe 50% back in dividends

    I think that is actually less than inflation (RPI Dec 1999 = 167.3, RPI Dec 2013 = 253.3), before costs/taxes are even taken into account

  • 19 The Investor February 5, 2014, 6:37 pm

    I don’t have a source to hand — UK total returns are a bane to get hold of — but the total return from the FTSE 100’s late 1999 peak would be something like 2% a year to now, going on the last data point I’ve lodged in my head.

    So basically flat, in real terms.

    However I don’t think it’s very useful or insightful.

    That was the peak of a bubble of historic proportions. And anyone who invested all their money — from nothing to everything — into that one asset — and one index to boot — at the top would have paid a deserved price.

    In the real world investors put new money into the markets for decades. If you’d invested £1,000 a year into the FTSE 100 from 1990 to 2014, say, and reinvested all dividends, you’d have done okay. And if you’d invested across a diversified portfolio of global equities and other assets including bonds, cash, property, small caps, and precious metals, you’d have seen a return something like 10% p.a. nominal, as an informed guess.

  • 20 NaeClue February 5, 2014, 7:10 pm

    Snowman, you started off well and then wrote this:

    “For example if dividends grow with inflation, which is a vaguely reasonable assumption as dividend growth lags GDP growth (because of new ventures where the entrepeneurs setting them up pocket the GDP they create before they are floated on the stock market) then a bit of simple mathematics says real returns will be roughly in line with the current dividend yield in real terms, so the 3 -3.5%pa real return that Dimson, Marsh and Staunton come up with looks by far the most plausible estimate of the unknowable.”

    A simplistic dividend argument like this would imply the UK market would return 3-3.5%, the US market by 1.8% and the Japan less than 1%. Nonsensical?

  • 21 NaeClue February 5, 2014, 8:59 pm

    To be a bit geeky, this is not quite right:

    “If your expected return is 5% but the asset’s standard deviation is 20%, then two out of three annual returns can be expected to fall roughly within the range of -15% to +25%.
    Nineteen out of 20 returns would fall within two standard deviations: -35% to +45%.”

    The reason is that the returns on asset prices are not normally distributed. An asset can go up by 200%, but not down 200%. A better distribution for asset prices is a lognormal distribution. If you use this, with volatility 20%, expected (0sd) return 5%, then this implies an underlying continuously compounded drift of about 7% (ln(1+5%) + (20%)^2/2) and gives a 1sd case “two out of three annual returns can be expected to fall roughly within the range of -14% to +28%”, 2sd case “Nineteen out of 20 returns would fall within two standard deviations: -30% to +57%.”. So always skewed to give a bit more upside to the percentage numbers than downside.

    The 71% fall you mentioned would be more than a 6sd event (2 in a billion). That would give a range of -68% to +249% in a year, based on 20% vol, 5% expected return. This is where the basic statistical model shows itself up as being inadequate, unless you believe that a 2 in a billion chance really cropped up.

  • 22 NaeClue February 5, 2014, 9:34 pm

    Good article by the way. Even more reason to squeeze intermediaries and fund providers until their pips squeak.

  • 23 Snowman February 5, 2014, 9:46 pm


    I used the UK as it is the market most of us are most familiar with.

    One of the reasons I suspect the US dividend yield is lower is because of the prevalence of share buybacks in the US. These probably account for as much of distributed profits as dividends so would explain the apparent discrepancy.

    Don’t know if anyone who has a better understanding of the US market can confirm this.

  • 24 Snowman February 5, 2014, 11:01 pm

    I keep a record of the FTSE all share total return index (at the end of each month)

    To answer the earlier question since 31 December 1999 to 31st January 2014 the FTSE all share TRI has returned 0.9%pa in real (RPI) terms.

    The FTSE all share total return index (measured only at the end of each month) reached an all time high in real terms on 31st December 2013. That is if you had invested on the last day of any month until 31st December 2013 your investment would have increased in real (RPI) terms if you had achieved a return in line with the FTSE all share index.

  • 25 Paul S February 6, 2014, 10:33 am

    Nice post. I enjoyed the maths lesson. I suspect the reason that the 1972-1974 fall seems so extreme is that it is derived from point to point data (daily or monthly) rather than annual averages (it might only be capital too not total return, I don’t have the UK data to check).

    The fall in the US market total return for that period, using annual averages, was 33% which is hardly outside the 2SD spread which you derived.

  • 26 NaeClue February 6, 2014, 1:11 pm

    @Snowman, The UK market does share buy backs to, as well as rights issues, liquidations, management buy outs, issuing debt, corporation tax and its fair share of Ponzi schemes that when uncovered result in dividends stopping and sometimes capital being wiped out. There are far more flows into and out of companies than just dividends, which is why I consider any approach which just looks at dividends is at best naive and at worst a marketing scam by someone trying to sell a fancy Smart Tracker.

  • 27 dawn February 10, 2014, 4:43 pm

    hi . can anyone advise?
    im looking for the cheapest ss isa platform and the share centre looks best for me at £57.60 a per year fixed fee.[my balance I expect by next year £40000] Halifax share dealing ss isa comes in at £12.50 a year blackrock and vanguard funds appear to be avaliable to put in it this isa. but when I google around it never comes up in the searches. whats the problem with the Halifax ss isa. its seems so cheap at £12.50 a year. am I missing something???/

  • 28 The Accumulator February 10, 2014, 11:20 pm

    Dawn, take a look here at iWeb and Interactive Investor: http://monevator.com/compare-uk-cheapest-online-brokers/

    I think they’ll work out better than Halifax or The Share Centre.

  • 29 dawn February 11, 2014, 2:08 pm

    thanks accumulator
    ive looked at i web. it has the vanguard and blackrock funds i want to put in and it appears to be just £25 opening fee and thats it platform charge wise!
    so prob go with them now
    love your site its so helpful

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