How Demographics Will Shape Your Investment Returns

Politicians, finance professionals, academics and researchers completely underestimate the power of the demographic change coming to Australia and the western world.

They have not factored it into their calculations, policies and predictions properly because it has never happened before. That makes the effect of the change uncertain to statisticians, number crunchers and econometricians.

Without the data and historical evidence they need to come up with assumptions and models, they simply ignore the issue. And that is why they are willing to tell us ‘all is well’. Investment prices will keep going up, simply because they always have.

Well, all is not well.

I believe one of the key reasons investment prices have been going up over long periods of time is demographic. But that means if the demographic drivers of rising investment prices change, one of the fundamental assumptions behind investing for retirement will be proven wrong.

Investment asset prices will no longer go up as a whole over time. In fact, they could suddenly plunge once this reality hits.

Only one country has already experienced the kind of demographic change I’m talking about. But the whole western world will in coming decades. In the country where this trend hit, the national stock market index fell close to 80% over 20 years.

The property market fell by around two-thirds. In other words, this is not a Money Trend you can ignore if you want to be able to afford the retirement you’re hoping for.

As I just mentioned, once people realise this kind of future is in store, they won’t stick around to learn the hard way. They’ll sell out fast, leading to a sudden crash instead of a gradual downtrend that matches gradually changing demographics. That is why you need to act now.

By the time the government, the finance industry and your fellow retirees catch on, it will be too late, because that’s when the crash will occur. If you don’t want to be caught up in the fallout from changing demographics, it’s crucial to change your investment allocations before everyone else gets a grip on what’s going to happen. Because when they do, there will be a sudden rush for the exits.

But They Did See it Coming

If all this seems a bit dire, you should know that I’m far from the only one warning about this. Best-selling author of Rich Dad, Poor Dad, Robert Kiyosaki, says the coming demographic shift ‘will cause the biggest stock market crash in history‘. The Economist magazine referred to the demographic shift as a ‘time bomb‘. 

Australian researcher Nick Birrell PhD wrote a discussion paper in which he argued that Australian equity markets ‘will collapse as increasing numbers of retirees look to withdraw their savings or convert them to lower risk assets.’

The Bank of International Settlements, which was one of the very few institutions to warn of the 2008 financial crisis, published a report in 2010 in which it predicted that the retirement of baby boomers would reduce house price growth in Australia by 30% in real terms over the next 40 years.

The report focused on house prices, but acknowledged the same factor would affect other asset prices. And I consider it to be far too optimistic, because it fails to acknowledge the extent to which demographics pushed up house prices in the past.

And demographic expert Harry Dent, who wrote the rather prescient books The Great Boom Ahead in 1993, The Great Jobs Ahead in 1995, and The Great Depression Ahead in 2009, recently finished his latest book Demographic Cliff: How to Survive and Prosper During the Great Deflation of 2014-2019

When Population Pyramids Get Square

Population Pyramids are a graphical way of showing demographic information. They tell you how many people are in each age bracket. Here’s an example from Turkey. As you can see, each generation is larger than the previous one, except for the newest one.

click to enlarge

Since recorded history, population pyramids have been shaped like…well pyramids. Because of this, demand from the larger younger generations to buy investments outweighed the selling (supply) of older generations.

There were more young savers buying investments than old retirees selling investments. That’s why prices rose. But this state of affairs is about to change for the first time ever in the history of western civilisation.

Population pyramids in many countries are no longer shaped like pyramids. They have no widening base. The number of young people no longer dwarfs the number of old people.

Instead, the number of working age savers and investors is steadily falling in proportion to the number of older retirees selling their investments.

This is especially true for the baby boomer generation, which shows up as a bulge on demographic pyramids in Western and developed countries. The result is that the biggest source of demand for investment assets – the baby boomer generation – is going to turn into a source of supply for those same assets. And the law of supply and demand dictates that as this happens, investment prices will fall.

The only country to experience a demographic crisis like the one in the western world’s future is Japan. Its population pyramid no longer resembled a pyramid in 1990. Instead, the pyramid began to look more like an arrow.

Japan’s Population Pyramid in 1990

click to enlarge

The proportion of savers and investors relative to investment selling retirees peaked in 1990. Since then, it has been falling. And here’s what has happened to the stock market since:

Japan’s Nikkei225 Index
click to enlarge
Source: Yahoo Finance

Even with an impressive rally recently, the Japanese stock market is still nowhere near it’s all time high. Anyone who believed the mantra ‘shares go up in the long run’ has had a very rough time.

Investors and economists call this period the lost decade (even though it’s now in fact been two decades). But Japan’s demographics didn’t worsen overnight, or even over a period of a few years. Demographics, by their nature, move slowly. Yet investment prices have been shattered. So how can gradually changing demographics have such a sudden effect on asset prices?

The Ponzi Inflection Point

To understand why demographics have such a powerful effect on financial markets, think about a person’s financial lifecycle.

When they are young, people cost their parents money. They reach adulthood and go into debt to start their life, often getting a mortgage to buy a home. Paying off the mortgage and seeing their own children become financially independent are two key moments when income for saving and investing suddenly become available.

Both take place around say 45-50. So the period between 45 and 65 is the period of maximum saving and investing – the period of a generation’s maximum demand for investment assets.

But after around 65, this changes abruptly. People go from generating the largest amount of investment asset demand in their life to the very opposite. They suddenly begin to sell investments to pay for retirement instead.

So the key demographic relationship determining supply and demand for financial assets is the amount of selling by retirees above, say, 65 compared to the amount of buying by those in the stage of maximum accumulation – around 45-65.

In Japan, a demographic bulge reached the peak of their saving and investing phase in 1990. But after 1990 the bulge of investment buyers turned sellers. And, for the first time ever, they were selling to a group of buyers smaller in number than themselves, as the arrow I’ve included shows. Supply overwhelmed demand. The result was a famous tumble in the stock market.

Japan’s Population Pyramid in 1990

click to enlarge

To be strictly correct, it’s not actually about the number of buyers and sellers in terms of people. It’s the amount of buying and selling they’re doing in dollar terms. So the point at which the dollar amount of selling begins to outweigh the dollar amount of buying is the key.

And that point is called the Ponzi Inflection Point. That’s because, just like in a Ponzi scheme, it marks the beginning of the end.

Now I know that ‘Ponzi scheme’ is an emotionally charged term that gets thrown around like a ragdoll these days. But consider this. A Ponzi scheme operates by paying existing investors with new investors’ funds.

In that sense, the stock market and property market is a Ponzi scheme. Or, as I prefer to put it, they need greater fools to come along and buy assets at higher prices so that other investors can get their cash out at a profit.

Ponzi schemes fail when the inflow of cash from new investors (greater fools) can’t meet payments out to existing investors. When there aren’t enough greater fools, cash begins to flow out of the scheme instead of in. At that inflection point, the scheme is doomed.


Nick Hubble+
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Having gained degrees in Finance, Economics and Law from the prestigious Bond University, Nick completed an internship at probably the most famous investment bank in the world, where he discovered what the financial world was really like.

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