The first quarter of 21st century wasn’t great for investors. The next needs an AI boost | Nils Pratley

The first quarter of the 21st century is almost up, assuming one regards 31 December 1999 to have been the last day of the last millennium (non-partying pedants insist the date actually fell on the final day of 2000). It is the cue for analysts at Deutsche Bank to remind investors how much can change in the course of 25 years, in this case from the days when Nokia phones and fax machines, rather than iPhones and Amazon, were everyday features of life.

Here’s one jaw-dropper: back in sunny days of 1999, there was a live debate as to when the US would pay down its entire stock of government debt. The Congressional Budget Office (CBO) reckoned the glorious day would arrive sometime in 2013. In reality, borrowing headed in the other direction almost immediately – and the US debt-to-GDP ratio is now above 100%. The CBO reckons annual deficits will take the ratio to 160% by 2050.

In similar fashion, delusional dotcom thinking at the turn of the century provoked ridiculous speculation that the stock market was heading for the moon. A book called Dow 36,000 became a bestseller, predicting that the Dow Jones industrial average, then about 10,000, would hit the named level “within a few years”. It took 22 years.

Deutsche calculates that, for stock market investors, the quarter century wasn’t much to shout about. US equities have left most other markets – including the UK – for dust, but they recorded their second-worst performance in the nine quarter centuries since 1800 with a 4.9% return above inflation. That is despite the increase in recent years from dominant tech superstars such as Apple and Nvidia.

Gold actually did better in an era of aggressive central bank and government interventions to combat everything from the bursting of the dotcom bubble in 2000, 9/11 in 2001, the global financial crisis in 2008, Covid in 2020, and the surge in energy and food prices after Russia’s invasion of Ukraine in 2022. “There’s still a big outstanding question as to whether this buildup of debt is storing up significant problems for the future,” writes Jim Reid, the Deutsche head of global economics. You bet.

Debt is one of his three helicopter-view big factors for the next quarter century, he argues. Another is demographics, where there is strong correlation to both growth in gross domestic product and returns from equities. Unfortunately, trends there are not encouraging.

“Given that demographics almost certainly deteriorate further in the 2024-49 quarter century, it stands to reason that all other things being equal (they may not be), you would expect another quarter century of below long-term average real GDP growth and real equity returns, especially in the developed market world,” Reid writes.

Thus it’s hard to argue with the conclusion that that if debt and demographics are weighing on rates of productivity growth, as they did in the last 25 years, AI is “the great hope” for investors: “The prospect of artificial general intelligence arriving as we reach the second half of the 2025-49 quarter century is real and could completely revolutionise the world.”

That doesn’t necessarily mean the outperformance of tech-heavy, but already richly valued, US markets is the way to bet. AI products could become “commoditised and inexpensive”, making it hard for the tech companies to recoup their hundreds of billions of investment while lifting the tide for everyone. Rather, Deutsche’s point is that “with regards to AI and tech-led productivity gains, it feels like we desperately need it given demographics and debt”.

That is the slightly depressing conclusion of its grand multidecade sweep of the horizon. Deutsche still sees equities recording “notably higher” real returns than government bonds, as is normal in most multidecade periods. But, geopolitics aside, the swing factor for returns is whether the AI-led revolution also revolutionises productivity.