Expect more modest returns from equities for next 20 years, says study

Investors were yesterday warned to expect more modest returns from equities in the coming decades.

A new study by London Business School for the investment bank ABN Amro predicts a big fall in the "equity risk premium", the stock market's outperformance compared with keeping cash in a risk-free government savings account.

And professors reckon that could mean there could be long periods where equities are a less successful investment than bonds, throwing up new challenges for individuals' and companies' pension planning.

Elroy Dimson and Paul Marsh, professors of finance at London Business School and the pair who designed the FTSE 100 index, calculate that UK shares are likely to outperform cash by an average of only 2.3 per cent a year. That compares to 4.5 per cent in the century and a bit since 1900.

Their forecasts are based on an analysis of the composition of the historic risk premium of UK equities. In the past century, equities in part outperformed because of historically high dividend increases and a reduction in risk as investors were able to diversify into new sectors and markets.

The study has recalculated historic returns from shares, bonds and cash investing and suggests the historic outperformance of the stock market has been less than previously assumed.

Mr Dimson said lower average outperformance would mean there could be more years when equities do not outperform at all. The percentage chance that equity returns will be less than returns from cash over the next 20 years is well into double figures.

"The implications are that focusing only on equities is wrong and we need other assets to balance a portfolio. Companies also have to revise the notion that they can expect to continue to fund pensions through outperformance of the equity markets," he said.