Vanguard released its annual outlook and analysis on global financial markets and economies. This year’s report, “A Return to Sound Money,” provides investors with a comprehensive economic roadmap and articulates Vanguard’s updated long-term investment thesis. Vanguard’s global team of economists explore essential themes that will drive the trajectory of markets, including the effect of “higher-for-longer” interest rates, policy shifts, asset class valuations, and more.

“Elevated interest rates will become the new norm for many economies globally,” said Joe Davis, Global Chief Economist and Global Head of Investment Strategy Group. “There is a powerful paradox to this new higher-rate world—while near-term financial market volatility is likely to remain elevated, long-term and well-diversified investors stand to benefit from a return to positive real rates.”

For consumers and businesses, higher interest rates force prudence in borrowing decisions, increase the cost of capital, and encourage saving. For governments, rates will necessitate a reexamination of fiscal outlooks in the near term. The new reality of rising deficits and higher interest rates will elevate concerns about fiscal sustainability. Barring a drastic productivity rebound, the chances of avoiding a recession remain low.

Vanguard research offers evidence that the neutral interest rate—the rate at which monetary policy is neither expansionary nor contractionary—has increased, driven primarily by demographics, productivity growth, and higher structural fiscal deficits.

Vanguard’s global outlook is designed to guide investors in maintaining a long-term perspective and support the case for portfolio diversification. Long-term investors in 60/40 portfolios have seen a dramatic rise in the probability of achieving a nominal return of 7 percent. This is due in part to higher interest rates spurring a substantial increase in bond return expectations. For equities, however, the higher-rate environment depresses asset price valuations across global markets while squeezing profit margins, as corporations find it more expensive to issue and refinance debt.

“This rise in interest rates is the single best economic and financial development in 20 years for long-term investors,” said Davis. “We believe this is a secular trend that will last not just months, but years.”

Read more at Vanguard.

_______