Equity and bond returns were about on par over the past decade in Australia, but that's an aberration says Credit Suisse, and equities will once again take the lead, but the bank warns returns will be much lower than in the past.
Based on an analysis of market behaviour before and after interest rate movements, Credit Suisse has found real equity and bonds return higher in the year following rate falls rather than the year after rate rises.
"When rates go up we can't really do much to boost returns from bonds or equities," says David McDonald, Credit Suisse Private Banking's local strategist.
![Credit Suisse has analysed financial market behaviour over 116 years.](/web/20161126053005im_/http://www.theage.com.au/content/dam/images/g/m/m/8/h/q/image.related.articleLeadwide.620x349.gmqdqh.png/1457494885301.jpg)
"The report found there was no investment strategy that could counter the notion, when rates go up markets do better."
After looking at the crises of the 1890s, 1930s and since 2008-09, the report found the first seven to eight years offered above average returns for both bonds and stocks.
After such momentous market distress stocks tend to start at very cheap valuations, and bond yields are trending downwards, making it an attractive time for investors to diversify and rejig their portfolios.
Given our current proximity to the last financial crisis in 2008-09, we are in for a period of "secular reflation" - where short- and long-term interest rates stay habitually below nominal GDP growth.
In fact, over the next decade the bank sees equities returning 4-6 per cent while bonds deliver zero, prompting the analysts to wonder what happens when bonds aren't bonds anymore.
"We're potentially looking at capital losses on bonds," said Mr McDonald. "And we might be in a better position than before, because during the global financial crisis central banks had learnt from the 1930s and could react and could recover quickly."
Professors Elroy Dimson and Paul Marsh and Dr Mike Staunton of London Business School examined 70,000 days of financial market history and 116 years of data across 21 countries, also examined investment performance of trading strategies over rate hiking and easing cycles.
Looking to the future, Credit Suisse is not ruling out another equity bubble as the labour market transforms thanks to robotic technology, and industries such as banking, autos, energy, retailing and healthcare succumb to inevitable technology disruption. As such, real equity returns will suffer as industry reorganises itself.
"This is not an attractive prospect for savers, or funds managers," says the report.
"Efficient diversification will not be enough to earn good returns; even very well established track records will provide a less reliable guide to future performance; and bond managers will probably have to stray far from their comfort zone to deliver even modestly positive real returns."