For long term investors, earning 5% to 7% annual return (after tax) is a suitable target to aim for. But this is difficult to pull off today. The current expected returns of the financial markets are extremely low by historical standards. Traditional asset classes such as stocks and bonds are generally overvalued now.
Stock Market Expected Return = 3.2%
The Shiller P/E ratio is currently about 31 for the S&P 500 stock market index. This is much higher than the historical average ratio of 16. The Shiller P/E ratio is based on average inflation-adjusted earnings from the previous 10 years. The inverse of the ratio (1/31) is how much the market is expected to earn for investors going forward.
Bond Market Expected Return = 2.3%
Here are some popular bond ETFs.
- BMO Aggregate Bond Index ETF (ZAG) – Weighted Average Yield to Maturity = 2.34%
- Canadian Aggregate Bond Index ETF (VAB) – Weighted Average Yield to Maturity = 2.28%
- iShares Core Canadian Universe Bond Index ETF (XBB) – Weighted Average Yield to Maturity = 2.35%
As we can see, all their Avg YTMs are below 3%. The 10 year Canadian government bond is paying only 1.9% as of writing this post. 🙁
As a long term investor I don’t see the point of buying a bond that pays less than 2% interest when the Bank of Canada openly declared it wants to erode the Canadian dollar’s value by 2% a year. That effectively creates a projected negative real return on investment, 😮 ouch. This is why I stay away from ETFs like these which primarily hold low yielding government bonds. These funds aren’t necessarily bad investments. I’m just saying they’re not for me. We can find slightly higher yields in U.S. bonds, but not much better.