Posted inFixed Income

Beyond the reasonable – retail investors’ income expectations

Most investors, especially in Europe, would be delighted with their equity portfolios returning 7.9% annually over the next five years or so. But European retail investors expect to pocket such a return before capital appreciation, and only in the form of interest and dividend payments. However, with average dividend yields of the MSCI World at less than 3% and European investment grade bond markets yielding less than 1%, such expectations seem a little unrealistic.

Junk bonds and emerging market debt yield significantly higher, but investors would have to allocate most of their portfolios to these asset classes to even get close to generating an income of 7.9%. In fact, only some local currency emerging market bonds offer yields higher than that, but they come with significant currency risks.

Investors’ elevated income expectations prompted Schroders to fire a warning shot: “Unrealistically high return expectations raise concerns that investors could be left disappointed,” as Gavon Ralston, head of thought leadership, put it mildly.

Once bitten, twice shy?

It’s highly unlikely that retail investors would be prepared to stock up on risky bonds, as last year’s Schroders survey showed that European retail investors allocate almost half of their assets to low-risk investments such as government bonds and cash. The ambitious one-year return expectations they had formulated back then are also very unlikely to have been met. European investors expected a return of 10%, but the MSCI World was down about 8% in euro terms a year later….

Well, at least income is unlikely to be negative for retail investors over the coming year, provided Bunds don’t take up too big a share of their portfolios. So, at least there is a floor to the disappointment of overconfident income investors.    

Part of the Bonhill Group.