4 ms·

The assumptions of 4-5% market returns and 7% inflation seem a bit suspect to me.

the_lonely_road 5y ago
Its an example of a possible scenario so not really possible to be suspect. All you need understand is that if inflation is greater than expected return potential you are in the described scenario. It can come about from either lever: confidence in returns is lost causing no one to invest, or inflation outstripping expected returns for a significant period of time (like in Venezuela).
- klodolph 5y ago
  > Its an example of a possible scenario so not really possible to be suspect. This doesn't follow. I would expect any financial planner worth their salt to consider many different scenarios and make decisions based on which scenarios they think are likely... not based on which scenarios they think are possible. The fact that it's possible for a decision to put you in a disadvantageous position does not mean that you made the wrong decision. It may just mean that you made a reasonable decision but failed to predict future market behavior. The idea of using a 40-year high for inflation to do your long-term planning sounds like some pretty outrageous incompetence to me.
hammock 5y ago
Isn't it the exact scenario we are in today?
- sokoloff 5y ago
  The trailing 12 month return for the S&P500 is a little over 16%. Other broad-based equity indices are also substantially higher than 5%.
  - deathanatos 5y ago
    The S&P500 is currently at ~4250. 12 months ago, it was at ~3898. That's a 9% return, is it not?
    - sokoloff 5y ago
      You have to add dividends to that. TTM is commonly calculated on full months: https://ycharts.com/indicators/sp_500_12_month_total_return https://ycharts.com/indicators/sp_500_12_month_total_return Whole month returns, excluding dividends: https://ycharts.com/indicators/sp_500_1_year_return https://ycharts.com/indicators/sp_500_1_year_return
keltex 5y ago
That's pretty accurate. Vanguard estimates US equities 10 year returns in the range of 2.3%-4.3%. And inflation is at 7% right now. https://advisors.vanguard.com/insights/article/marketperspectivesdecember2021 https://advisors.vanguard.com/insights/article/marketperspec...
- sokoloff 5y ago
  It seems pretty unreasonable to take Vanguard’s equities return projections over the next 10 years and simultaneously ignore their inflation projection from that same source. Equity returns and inflation are not independent and the assumptions that led to their equities prediction are embodied in their inflation prediction.
- MontyCarloHall 5y ago
  It’s only accurate if 7% inflation also persists for 10 years, which seems unlikely.
  - jmarbach 5y ago
    High inflation persisted in America in the 1970s. Why wouldn’t it happen again?
    - anotherman554 5y ago
      Because we have different Federal Reserve policy than we did in the 1970s, for one thing.
      - thallium205 5y ago
        The fed in the 70s slowed inflation by raising interest rates to 20%. The current fed will never do that.
        sfe22 5y ago
        Correct. And there is a reason, at 10% interest rate, the federal government is bankrupt.
missedthecue 5y ago
What were they in the 1970s?
- nostrademons 5y ago
  During the 1970s real returns were negative. Inflation-adjusted S&P 500 was 632 in 1970; it was 395 in 1980. After the 1970s it shot up; it was 788 in 1990, and then 2322 in 2000. https://www.macrotrends.net/2324/sp-500-historical-chart-data https://www.macrotrends.net/2324/sp-500-historical-chart-dat... I've seen some academic papers remark that investors tend to undervalue the earnings side of inflation. They will discount future earnings by the high interest rates that go along with inflation, but they will fail to account for earnings growth that goes along with having a profitable business in a high-inflation environment, and for the changes in competitive dynamics that follows inflation. (When rates and expenses rise, it tends to flush out the more marginal and unprofitable firms, which means dominant firms have less competition.) Warren Buffett made a large portion of his fortune by investing in businesses with little competition during times of high inflation. Basically, it's good to be a stock buyer in times of inflation, and bad to be a stock seller*.
  - YZF 5y ago
    That makes intuitive sense because stock valuations depend on interest rates. Long periods of low interest rates -> high P/E. Long periods of high interest rates -> low P/E.

Its an example of a possible scenario so not really possible to be suspect. All you need understand is that if inflation is greater than expected return potential you are in the described scenario. It can come about from either lever: confidence in returns is lost causing no one to invest, or inflation outstripping expected returns for a significant period of time (like in Venezuela).

klodolph 5y ago
> Its an example of a possible scenario so not really possible to be suspect. This doesn't follow. I would expect any financial planner worth their salt to consider many different scenarios and make decisions based on which scenarios they think are likely... not based on which scenarios they think are possible. The fact that it's possible for a decision to put you in a disadvantageous position does not mean that you made the wrong decision. It may just mean that you made a reasonable decision but failed to predict future market behavior. The idea of using a 40-year high for inflation to do your long-term planning sounds like some pretty outrageous incompetence to me.

hammock 5y ago

Isn't it the exact scenario we are in today?

sokoloff 5y ago
The trailing 12 month return for the S&P500 is a little over 16%. Other broad-based equity indices are also substantially higher than 5%.
- deathanatos 5y ago
  The S&P500 is currently at ~4250. 12 months ago, it was at ~3898. That's a 9% return, is it not?
  - sokoloff 5y ago
    You have to add dividends to that. TTM is commonly calculated on full months: https://ycharts.com/indicators/sp_500_12_month_total_return https://ycharts.com/indicators/sp_500_12_month_total_return Whole month returns, excluding dividends: https://ycharts.com/indicators/sp_500_1_year_return https://ycharts.com/indicators/sp_500_1_year_return

keltex 5y ago

That's pretty accurate. Vanguard estimates US equities 10 year returns in the range of 2.3%-4.3%. And inflation is at 7% right now. https://advisors.vanguard.com/insights/article/marketperspectivesdecember2021 https://advisors.vanguard.com/insights/article/marketperspec...

sokoloff 5y ago
It seems pretty unreasonable to take Vanguard’s equities return projections over the next 10 years and simultaneously ignore their inflation projection from that same source. Equity returns and inflation are not independent and the assumptions that led to their equities prediction are embodied in their inflation prediction.
MontyCarloHall 5y ago
It’s only accurate if 7% inflation also persists for 10 years, which seems unlikely.
- jmarbach 5y ago
  High inflation persisted in America in the 1970s. Why wouldn’t it happen again?
  - anotherman554 5y ago
    Because we have different Federal Reserve policy than we did in the 1970s, for one thing.
    - thallium205 5y ago
      The fed in the 70s slowed inflation by raising interest rates to 20%. The current fed will never do that.
      - sfe22 5y ago
        Correct. And there is a reason, at 10% interest rate, the federal government is bankrupt.

missedthecue 5y ago

What were they in the 1970s?

nostrademons 5y ago
During the 1970s real returns were negative. Inflation-adjusted S&P 500 was 632 in 1970; it was 395 in 1980. After the 1970s it shot up; it was 788 in 1990, and then 2322 in 2000. https://www.macrotrends.net/2324/sp-500-historical-chart-data https://www.macrotrends.net/2324/sp-500-historical-chart-dat... I've seen some academic papers remark that investors tend to undervalue the earnings side of inflation. They will discount future earnings by the high interest rates that go along with inflation, but they will fail to account for earnings growth that goes along with having a profitable business in a high-inflation environment, and for the changes in competitive dynamics that follows inflation. (When rates and expenses rise, it tends to flush out the more marginal and unprofitable firms, which means dominant firms have less competition.) Warren Buffett made a large portion of his fortune by investing in businesses with little competition during times of high inflation. Basically, it's good to be a stock buyer in times of inflation, and bad to be a stock seller*.
- YZF 5y ago
  That makes intuitive sense because stock valuations depend on interest rates. Long periods of low interest rates -> high P/E. Long periods of high interest rates -> low P/E.