The C.D. Howe Institute is warning that return on retirement savings and pension funds is going to be lower than normal, possibly for the next two decades.

That's because low interest rates and slow growth due to demographic factors will limit the real return on Canadian risk-free investments to about one per cent a year, according to the report from Steve Ambler and Craig Alexander.


Pension funds could see lower returns on investment for the next two decades because of an aging population and low rates, according to a C.D. Howe Institute study. (Shutterstock)

A "risk-free" investment might be something like a Bank of Canada three-month treasury bill, which currently earns about 0.42 per cent.

A one-per-cent return on such an investment would be an improvement on what pension funds could earn now, but nowhere near the level they were earning in the 1990s or up to 2007.

Low rate environment

"The level of rates today are remarkably low, they are unsustainably low and ultimately there's going to have to be a rebalancing, but when that rebalancing happens the level of rates is not going to go up to anything like we had before," said Alexander, a former TD Bank economist who joined the think-tank earlier this year.

"If the Bank of Canada keeps the inflation target at two per cent, basically cash will return three per cent and that's a lot lower than we've had in the past," he said in an interview with The Exchange with Amanda Lang.

Pension funds, which have to aim for long-term earnings, typically combine risk-free investments such as treasuries with higher risk investments, such as stocks, to achieve an acceptable annual rate of return.

"Nevertheless, long-term investors, like pension funds, have a multi-decade investment horizon, and the analysis tells us they need to be braced for lower returns than in the past," Alexander said. Those returns may be closer to the 4-6 per cent a year range than eight per cent which they might be expecting, he said.

However, Alexander speculates they may have to adopt riskier investment profiles in future.

Aging population slows growth

The authors use economic theory to correlate the risk-free return potential for pension savers to real per capita income and population growth in Canada, factors that reflect on overall economic growth.

They point to Canada's aging population, which could mean lower population growth, a slowing of consumer spending and increased savings as retirees look to stretch their income over longer lifespans.

"At the end of the day, your short-term rates are anchored by the pace of growth in your economy and your pace of growth of population," Alexander said.

Real income per capita is expected to grow at an annual pace between 0.75 and 1.35 per cent over the next couple of decades, lower than in the past.

Some of Canada's biggest pension funds, such as the Caisse de dépôt et placement du Québec and Canada Pension Plan Investment Board, have been seeking out infrastructure and real estate investments in countries around the world in pursuit of real long-term returns.