By John Grace
Contributing Columnist
For decades, investors have been spoiled by one of the greatest wealth-building runs in history. The U.S. stock market has delivered roughly 10% annual returns over the past century, creating generations of believers in the gospel of “buy, hold, and don’t look down.”
But now even the usually optimistic crowd at Vanguard is waving a caution flag. The investment giant recently projected U.S. stock market returns of just 3.5% to 5.5% annually over the next decade.
That is not a typo. For baby boomers approaching or already in retirement, that is more than a forecast. It is a reality check with steel-toed boots.
Many retirement plans were built on assumptions from the roaring past. If your portfolio was designed to expect double-digit returns while simultaneously funding withdrawals, required minimum distributions, inflation, taxes and a longer life expectancy, the math suddenly gets uncomfortable. Fast.
Here is another number that should make passive index investors stop scrolling and pay attention. Much of the stock market’s recent strength has come from a surprisingly narrow group of artificial intelligence-related companies.
According to discussion highlighted on the Retire SMART Podcast, if you stripped out many of the major AI chipmakers, storage companies and businesses powering the AI boom, the S&P 500’s recent gains would look dramatically smaller. Instead of soaring more than 40% over roughly the last two years, returns would have been closer to the mid-teens.
Translation: a handful of superstar stocks have been carrying a very large piano up a very steep hill. Under the hood, breadth matters. The S&P 500 cap-weighted index is soaring, but its equal-weighted-counterpart, which tracks the average stock, is heavily underperforming, notes Business Insider.
The challenge becomes even greater when you look under the hood at stock valuations. Measures like the Shiller CAPE ratio — a long-term gauge comparing stock prices to normalized earnings — remain near some of the highest levels ever recorded.
The only time valuations climbed higher was during the tech bubble, before the Nasdaq collapsed by roughly 78%. Even the infamous 1929 market peak, which preceded the Great Depression and an 89% plunge in stocks, did not reach today’s speculative extremes in some sectors.
Yet, instead of allowing markets and economies to naturally cleanse excesses through recessions, central banks worldwide have repeatedly chosen the easier road: print, baby, print.
Cheap money has inflated nearly everything: stocks, real estate, collectibles, even companies with no profits and business plans thinner than airport coffee. Investors became conditioned to believe every decline would be rescued by another round of monetary adrenaline.
Dividend yields tell part of the story. Historically, dividends provided meaningful income and acted as a valuation anchor.
Today, yields remain extremely low compared to history, much like bond yields were for years. In plain English, investors are paying enormous prices for relatively modest payouts.
As the old saying goes, there is no limit to what a fool will pay when convinced prices only go one direction. That does not mean catastrophe is guaranteed tomorrow morning before your second cup of coffee.
But it does suggest investors may need a different playbook for the next decade than the one that worked since disco, cassette tapes and “set it and forget it” investing first became fashionable.
John Grace is a registered representative with LPL Financial. His On the Money column runs monthly in The Wave. The opinions expressed here are for general information only and are not intended to provide specific advice or recommendations for any individual.
