Why Top Investors are Warning of a 'Lost Decade' for Stocks

A few weeks ago, Goldman Sachs put out this note saying that they believe the S&P 500 during the next 10 years will deliver a real return of just 1% annually. It's a bit of a dire prediction. As you may have seen in the news over the past few weeks, it sparked renewed talk about this idea of a lost decade in the stock market; the idea that America, similar to Japan in the 1990s, is going to have a decade-long period of economic stagnation where the stock market provides basically no real returns for investors.

But what I want to explore in this video is whether there is any truth behind the sensationalist headlines. Interestingly, we have seen notable investors such as Ray Dalio and even the late Charlie Munger actually agree on the idea that stock returns will not be so good over the next 10 years. So in this video, let's break down this argument and see whether it's a real possibility across the next decade.

As the name suggests, the idea of a lost decade is simply referring to a 10-year period where stock market investors do not see their wealth increase. For example, if you had invested in the S&P 500, which is the 500 largest stocks in America, back at the highs before the tech bubble burst, it would have taken you all the way until May 2007 before you actually saw your brokerage account break even. So, seven years of stagnation. Just to add insult to injury, after you and your friends finished celebrating your amazing 0% return across seven years, well, your patience was then rewarded with the global financial crisis, where it would take you another five years to again be back to zero. So, overall, a 12 and a half year period of stagnation—so, lost decade in a bit.

What investors like the late Charlie Munger, Ray Dalio, Michael Burry, Jeremy Grantham, etc., are warning of is that with the S&P 500 so incredibly high in 2024 and with most U.S. businesses showing signs of very stretched valuations, there is a chance that investors today could be getting caught in that same trap, investing at the all-time highs before a prolonged period of stock market weakness. This is Charlie Munger in one of his final interviews talking about exactly this issue.

“We expect the next 10 years to have lower returns in the equity markets than the last 10.”

“It doesn’t give us an idea why?”

“The answer is yes, and could you give us a hint as to why that might?”

“Yes, because so many people are in it and the frenzy is so great, and the systems of management, the reward systems, are so foolish that I don’t think it’s going to work at all. I don’t think, I think the returns will go down. Yes, in real terms, the returns will be lower.”

Now, that's a pretty strong prediction from Charlie there, but there is nuance to his answer. The nuance is that he says that he believes real returns will be low, and that's an interesting point to understanding a lot of this lost decade debate. Investors’ real return factors in not only the rises and falls in stock prices, but it also considers inflation. For example, if you invested in Tesla 12 months ago, as opposed to just looking at the stock return, which has been roughly 30%, if you were to factor in the previous 12 months of inflation, which has been 2.4%, then your real return is actually something closer to 27%.

Or for the purposes of explaining Charlie's point, consider buying an S&P 500 Index Fund in June of 2021. Over the next 12 months, you would have made a stock return of -3%. Now, that's obviously not great in and of itself, but across that same time period, inflation in the U.S. also rose a whopping 9.1%. So, as an investor, you didn't just lose 3%; your real return was actually much worse than that. It is important to factor in inflation when you're thinking about your returns, because remember that is the investor's primary goal: to grow their wealth much faster than inflation is pulling you back.

The 1970s are a good example from history. From January 1970 to December 1981, the S&P rose 32.58% in total. That's not per year; that was in total. Now, across that same time period, this is what inflation looked like. There were three huge waves over the course of a decade, and over that time period, the Consumer Price Index rose a staggering 128.31%, meaning the investor's real return was actually -42%. Investors really copped it in that decade, thanks to inflation, and that's really the core of Charlie's argument.

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So thank you guys for your support. Thank you to Stake for really going out on a limb and supporting our community. Let's get back on topic. So as Charlie was saying, inflation is the first key element to this lost decade debate: the anticipation of high inflation across the next decade that may keep real returns negative.

What do you think of the dominations of quantitative easing and large fiscal deficits, and where are they going to lead us?

“Well, I've got a very simple answer, and that is it's one of the most interesting questions anybody could ask, and we're in very uncharted waters. Nobody has gotten by with the kind of money printing we're doing now for a very extended period without some trouble. And I think we're very near the edge of playing with fire.”

This interview was filmed back in December of 2020, and at the time, the U.S. Federal Reserve was in the process of the largest money printing regime in history. At that point, they had expanded the money supply by 89% in the space of roughly a year. But what's interesting is that despite the Federal Reserve recently lowering rates and letting a fair chunk of their treasury bonds roll off their balance sheet, their balance sheet today is actually almost identical to the day this interview with Charlie Munger was released.

While Charlie Munger was raising money printing and inflation concerns back in 2020 for a different reason, today there are still many reasons to be concerned about the potential money printing over the next 10 years. One of the key points here is the U.S. deficit because the U.S. spends more than it earns. The difference each year needs to be funded through the sale of Treasury bonds.

As people like Jamie Dimon have stated recently, there are a number of factors over the next 10 years that are going to be pulling at that expenses column. You know, increased military spending, spending on health care, massive infrastructure costs for the transition to a renewable economy—these are all long-term inflationary and will likely widen the deficit. But if we do see what the media has been concerned about, that being a reduction in global demand for U.S. Treasury bonds led by, you know, countries like China and Russia trying to diversify away from the dollar, and you know, ongoing concerns around political jousting of the debt ceiling, then it could very well force the Federal Reserve to step in to be that big buyer of U.S. Treasuries that no one else wants.

So, Charlie is essentially saying that we've really pushed the deficit a long way. We're in uncharted waters, speaking; the U.S. prints a lot of money and is getting more and more used to that, and that can only be inflationary in the long run, which hurts real returns of investors over time.

So that's the inflation side of the equation. And while we're on the topic of the U.S. deficit, there is another factor at play that could hurt investors' returns over the next 10 years that Charlie's longtime business partner, Warren Buffett, has spoken about a lot recently, and that is increased taxes. Because that expenses column is only widening when we look at America's income statement, Warren has warned that this will likely mean increased taxes on individuals and corporations over the next 10 years in an attempt to right the ship.

While taxes aren't officially considered in the equation of real returns, they really shouldn't be forgotten, as at the end of the day, if your gains are taxed at a higher rate, that will have a direct impact on the amount of money you get to take home from your investment. Warren is also concerned about the probability of higher taxes in the future. He actually cited it as a primary reason as to why he decided to sell so much of his Apple stock recently, despite still believing in the long-term prospects of the business.

“We are paying a 21% federal rate on the gains we are taking in Apple, and that rate was 35% not that long ago. And it’s been 52% in the past. I would say with the present fiscal policies, I think that something has to give. And I think that higher taxes are quite likely. The government wants to take a greater share of your income or mine or others; they can do it. They may decide that someday they don’t want the fiscal deficit to be this large because that has some important consequences, and they may not want to decrease spending a lot, and they may decide they'll take a larger percentage of what we earn, and we will pay it. I would really hope, with all America has done for all of you, you shouldn't bother you that we do it. And if I'm doing it at 21% this year, we're doing it at a higher percentage later on. I don’t think you’ll actually mind the fact that we sold a little Apple this year.”

So we've got macroeconomic factors that will likely weigh on investors' real returns over the next decade. But beyond that, the biggest argument for a lost decade is simply valuations. In the world of investing, valuation is predominantly based on cash flow.

So, imagine you're looking to buy a laundromat, right? If the laundromat, after factoring in all the repairs and expenses you might need to incur, makes, say, $50,000 per year, what would you be willing to pay to own just the whole thing? Well, if we put it another way, you wouldn't pay $1.85 million for it, right? Why? Because if you did, you'd need to own it for 37 years before you recouped your investment and you started actually making money.

You'd be much more comfortable paying, say, $250,000 for it, where you recoup your cost in five years as opposed to 1.85 million. Well, as crazy as it sounds, stock market investors are currently accepting the $1.85 million example as normal, just to own shares in the S&P 500. Right now, they are willing to buy the shares of the S&P 500 at 37 times the earnings. We've only seen that at three points in history: 1929, 2000, and 2021.

While the market can stay irrational for long, long periods of time, if you believe in the general principle that one day the market will even out to where it ought to be, as people like Warren and Charlie teach, then at the present time, you are not looking at a favorable scenario. The earnings of the S&P 500 will have to lift considerably, and if they don't, then to get back to normal ratios, stock prices will have to fall.

It's the same concept as talking about an individual stock. Take Nvidia as a good example; investors are piling in and bidding up the price on the future promise of earnings around their GPU sales, which has given them a PE ratio of 62—so 62 times earnings. By buying Nvidia now, they are going to have to grow like crazy to fit into that really monstrous valuation. But if they don't deliver over the long term, as investors expect, well, the price isn't going to go up; it's going to get completely eroded, which hurts investors buying in now.

So, long story short, stretch valuations across the board could very well mean the next 10 years is a time for companies to just grow into their valuations or for prices to fall back to reality, as opposed to a time like 2009, where prices rose back up to reality.

So those are three arguments for this supposed lost decade. But we can't leave it there because while there might be issues in the stock market, and even though, you know, the bright young minds at Goldman Sachs are calling this out in a big press release—big fancy press release—we also do have to think about the fact that it might not be a lost decade.

I mean, I'm almost 30, so I haven't really even been investing that long in the grand scheme of things, but I often think back to 2016-2017 when I was really first trying to figure out this stuff properly. Even then, there was so much commentary about how the stock market was overvalued and a crash was imminent, and economic conditions were unsustainable. The arguments were strong; it's not like they were just washed opinion pieces.

But, I mean, you just have to look at the chart of the S&P and overall returns during those years to understand how much you should trust those predictions, right? The S&P had a tremendous run all the way up until COVID, and if you had listened to those fear-mongering predictions and abandoned your investments at that point in time, you would have cost yourself some seriously good years in the market.

2018 was an iffy year with a negative 6% return, but 2016, 2017, 2019, and even 2020, even factoring in the COVID drop, they were all still really good years. So I know there are smart people calling out big problems, but now I also know from my own experience that this certainly does not mean the market will 100% just start underperforming. I've seen a lot more incorrect predictions of poor performance than correct predictions; I'll put it like that.

But nevertheless, hopefully this video has helped you understand what the arguments are for the idea of an upcoming lost decade in the stock market. I hope you enjoyed the video. I again want to say a massive thank you to Stake for partnering up with the channel for the long term. Honestly, this is a really big deal for us here at the channel; it's a really big deal for us continuing to put out our, you know, high-quality free content here on YouTube.

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