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Vanguard Says Avoid Heroics and Face Up to Low-Yielding World

Investors should avoid the lure of riskier assets, save their money and get comfortable with lower returns over the coming years, according to top strategists at Vanguard Group Inc., the worlds second-biggest asset manager.

The next five years are going to be more challenging than the previous five years in investing, said Joseph Davis, head of investment strategy and global chief economist at Malvern, Pennsylvania-based Vanguard, which oversees $3.8 trillion. Be cautious of trying to be heroic in this environment.

Joseph Davis
Photographer: Scott Eells/Bloomberg

Canada epitomizes the kind of risks investors are facing in a world where accommodative central bank policies have pushed bond yields to record lows and global growth isnt likely to roar back soon, Davis said. Although the Federal Reserve took a more hawkish tone after its meeting Wednesday, it held off raising interest rates as it waits for more signs of strength in the U.S. economy. The Bank of Japan announced a plan to hold its 10-year bond yield at zero.

Canadas a very good barometer of the world economy, because you have the strength of the financial system, but then we also have significant exposure to commodities and therell continue to be headwinds there, Davis said in an interview Wednesday in Toronto. The world is fragile, but its still going to continue to grow. Thats what we see in Canada.

Dangerous Game

Canada could be one of the next countries to actually raise interest rates in the next few years, Davis said. Any move from the Bank of Canada would follow a U.S. hike, but would be ahead of Europe or Japan, which he doesnt see raising rates until at least 2020, Davis said.

Theres about a 58 percent chance the Fed will increase interest rates this year after keeping them on hold on Wednesday, Fed funds futures show. For Canada, traders are betting the other way: with the probability for looser monetary policy outweighing chances of an increase, according to data based on overnight index swaps.

Given the uncertainty still facing the global economy, Vanguards global head of fixed income, Gregory Davis, cautions investors against ditching the safety of bonds in a search for returns in assets such as real estate investment trusts and high-dividend yielding stocks.

Thats an extremely dangerous game, he said in the interview. They dont have the defensive characteristics of high-quality bonds. Theyre taking on undue risk that theyre not necessarily appreciating.

An index of Canadian high-grade corporate and government bonds has returned 4.4 percent this year, according to Bank of America Merrill Lynch data. The S&P/TSX Capped REIT Index has posted a return of 17 percent this year including payouts, according to data compiled by Bloomberg.

Investors need to keep a diversified mix of assets and try to keep their costs low, Gregory Davis said. Vanguard sells low-cost exchange traded funds.

My main concern is, and what were trying to make sure investors recognize, is that just given where weve been over the last several years, theres been this tendency to take more and more risk, he said.

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