Real ex-post returns averaged 7% annually across two centuries, including default episodes, major wars, and global crises. This represents an excess return of around 4% above US or UK government bonds, which is comparable to stocks and outperforms corporate bonds. The observed returns are hard to reconcile with canonical theoretical models and with the degree of credit risk in this market, as measured by historical default and recovery rates.
A 7 percent average over 200 years is pretty good, but that got me curious. If this average was because of high 19th century returns, that would be ho-hum news. But if it’s because of high recent returns, that’s more interesting. And that’s what it turns out to be:
So there you have it. Past performance is no guarantee of future results etc., but it sure looks like a diversified portfolio of sovereign bonds is a pretty good investment these days. Even with the occasional default and haircut, the real return exceeds 8 percent over the past two decades.
It’s unclear why the premium over US bonds should be so big, but that’s just another mystery for the equity premium folks, I suppose.