The magnitude of this demographic shift will create issues for the return potential of a number of currently widely held asset classes and also a number of compelling investment opportunities outside of these assets. In short, this powerful trend should not be ignored for its potential affect on both returns and risks.
Public Market Returns: From 1946 through 1997, stocks had an average compound annual return of 7.5% after inflation. Robert Schiller, author of Irrational Exuberance, argues that returns over the next 20 years could fall below 5% after inflation as price-earnings ratios move back toward their longterm mean, a view endorsed by the US Federal Reserve.
Pension Solvency: The solvency of both public and private pension plans will be tested and we believe that in many cases found to be lacking. The combination of Zero Interest Rate Policy (“ZIRP”), unrealistic return assumptions and the rapid growth in the pool of recipients will see to this.
Sovereign Solvency: Sovereign borrowers have had unlimited privileges over the last two decades. Those privileges are gradually being revoked as the ability to repay is being called into doubt. Without the ability to roll over their obligations at current historically depressed interest rates, the truly precarious nature of sovereign finances will be revealed. Consider that while interest rates for many developed nations are at generational lows, sovereign debt loads as a percentage of GDP are at all time highs and entitlement liabilities are rapidly expanding.
Private Equity: In terms of absolute dollar size the issue of from where will the capital come to acquire the large cohort of private, baby-boomer small & medium enterprises (“SME”) coming onto the market is of the same or perhaps even greater magnitude than the other issues outlined above, but receives far less attention. Just how large of an issue is this funding gap? In a recent report CIBC estimated that “$1.9 trillion in business assets are poised to change hands in five years - the biggest transfer of Canadian business control on record.” and that “by 2022, this number will mushroom to at least $3.7 trillion as 550,000 owners exit their businesses...”
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