Why bonds produced such dreadful returns after 1945
In the 1940s, interest rates had been falling for the better part of 20 years as the Great Depression drove knee-jerk risk aversion, and hit record lows as various policies and incentives moved to cheaply finance wartime deficits.
According to Yale economist Robert Shiller, 10-year Treasuries yielded
- 5% in 1920,
- 3% by 1935, and
- 2% by the early 1940s.
The consensus came to believe low rates were a permanent fixture. "Low Interest Rates for Long Time to Come," read one newspaper headline in 1945.
But as the saying goes, if something can't go on forever, it won't.
- By 1957, 10-year Treasuries yielded 4%.
- By 1967, 5%.
- They breached 8% in 1970, and zoomed to
- 15% by 1981 as inflation scorched the economy.
Since bond prices move in the opposite direction of interest rates, this was devastating to returns. Deutsche Bank has an archive of Treasury returns in real (after inflation) terms, which tells the story:
Period | Average Annual Real Returns, 10-Year Treasuries |
|---|---|
| 1940-1949 | (2.5%) |
| 1950-1959 | (1.8%) |
| 1960-1969 | 0.2% |
| 1970-1979 | (1.2%) |
Source: Deutsche Bank Long Term Asset Return Study.
Don't underappreciate how awful this was. In real terms, $1,000 invested in 10-year Treasuries in 1940 would have been worth $584 by 1979 -- this for an investment often trumpeted as "risk-free."
Lessons
No one knows if the same performance will be repeated over the coming years.
Japan is a good example of extremely low interest rates sticking around for decades.
But the risks are obvious.
- With 10-year Treasuries yielding 1.5%, there is virtually no chance of high returns over the next decade.
- The odds of being hammered and suffering negative real returns are, however, quite good.
No comments:
Post a Comment