Setting reasonable investment expectations is crucial for long-term investing success. Investors should leverage prior knowledge and research to establish achievable return targets. For example, reviewing historical market returns can provide a baseline for anticipated gains. Factoring in risk tolerance also grounds projections. Conservative investors may target 6-8% yearly returns, while more aggressive investors could seek 10% or more.
Evaluating an investment’s fundamentals aids projecting its potential too. Strong leadership, durable competitive advantages and solid financials boost conviction in a target return. Regularly revisiting assumptions based on updated data enables modifying projections to align with reasonable expectations.
Leverage historical averages to set initial return expectations
Investing entails a degree of uncertainty, so investors should anchor return expectations to historical averages. For stocks, long-run annualized returns range from 7-10% depending on the time period examined. High-quality bonds generate 3-5% on average. Alternative assets like private equity and venture capital can potentially yield even higher returns, but also assume greater risk.
These benchmarks help in initially framing achievable return targets. An investor with a moderate risk tolerance could use the lower end of stock and bond return ranges to set a 6-8% aggregate portfolio return target. A more aggressive investor may believe they can beat benchmarks and target 10% or more annually.
Factor in individual risk tolerance to ground projections
No two investors share identical risk preferences. Conservative investors prioritize capital preservation and accept lower return potential. Aggressive investors tolerate larger periodic declines to pursue higher long-run gains. Most fall somewhere in between.
One’s financial situation also impacts risk capacity. Investors with stable jobs and minimal fixed obligations likely assume greater risk than retirees with extensive spending needs. Customizing return expectations based on personal risk tolerance and capacity to bear potential losses grounds projections in reality.
Evaluate investment fundamentals to boost conviction
Even when anchored to historical averages, return projections remain assumptions. Performing due diligence on an investment’s fundamentals—its underlying drivers of risk and return—can provide conviction that a target is achievable.
For a stock, assessing the strength of its leadership, competitive advantages, financial performance, operations, and growth outlook informs return potential. Bonds rely on the issuer’s creditworthiness. Real estate depends on property characteristics, location, tenants for income properties and overall housing supply/demand dynamics.
The more confidence derived from understanding an investment’s attributes, the firmer the belief in its ability to satisfy expectations.
Routinely revisit assumptions to align with reality
Markets evolve and asset fundamentals change, so investors should reevaluate return assumptions over time. If new data suggests lower (or higher) return potential than initially assumed, investors ought to adjust projections accordingly.
Periodic expectation setting also accounts for shifts in risk tolerance, time horizon and liquidity needs tied to life events. As an originally aggressive investor approaches retirement, their capacity to endure risk likely diminishes. Reducing return assumptions would align with this changing reality.
Leveraging historical averages, accounting for risk preferences, evaluating fundamentals and routinely revisiting assumptions enables investors to establish and maintain reasonable return expectations.