The S&P 500 just completed its third consecutive year of double-digit gains—a feat achieved only five times since the 1940s. But before investors extrapolate recent performance into the future, Vanguard is issuing a sobering reminder: the next decade may look very different.

In its 2026 Economic and Market Outlook, the world's second-largest asset manager projects that U.S. stocks will deliver average annual returns of just 4% to 5% over the next five to ten years. That's a dramatic departure from the roughly 20% annualized gains of the past three years—and a forecast that demands attention from long-term investors.

Why Vanguard Is Cautious

Vanguard's muted outlook isn't a prediction that stocks will crash. Rather, it reflects a mathematical reality: starting valuations matter enormously for long-term returns, and today's valuations are historically elevated.

The investment firm identifies two primary concerns driving its forecast:

1. Already-high earnings expectations: Large-cap technology companies—which dominate the S&P 500—are priced for perfection. Their valuations assume years of exceptional growth that may be difficult to achieve consistently.

2. Creative destruction: History shows that today's tech leaders rarely maintain their dominance forever. Vanguard notes that investors typically underestimate how new entrants can disrupt even the most entrenched incumbents.

"The heady expectations for tech stocks are unlikely to be met over the longer term for two reasons: the already-high earnings expectations and the typical underestimation of creative destruction from new entrants into the sector."

— Vanguard 2026 Economic and Market Outlook

The Near-Term May Still Shine

Importantly, Vanguard draws a distinction between the next year and the next decade. For 2026 specifically, the firm remains constructive:

  • U.S. equity returns could reach double digits again if AI capital investment continues strongly
  • The wealth effect from recent gains could push GDP growth toward 3%
  • Risk may actually skew to the upside in the short term

The tension between bullish near-term views and cautious long-term projections creates a challenging environment for investors trying to position portfolios appropriately.

Where Vanguard Sees Better Opportunities

If U.S. large-cap stocks offer subpar expected returns, where should investors look? Vanguard's capital markets projections identify three areas with stronger risk-return profiles over the coming five to ten years:

1. High-quality U.S. fixed income: Vanguard projects bond returns of around 4% over the coming decade—close to current portfolio income levels. "Bonds are back," the firm declares, noting that high-quality bonds offer compelling real returns given higher neutral interest rates.

2. U.S. value-oriented equities: Value stocks trade at lower valuations than their growth counterparts, providing a more favorable starting point for long-term returns.

3. Non-U.S. developed markets equities: International stocks, particularly in developed markets, offer diversification and more attractive valuations than U.S. large caps.

The Inflation Wildcard

Vanguard's outlook also addresses the Federal Reserve's path forward. The firm expects inflation to remain above the Fed's 2% target, limiting the central bank's ability to cut rates aggressively in 2026.

Their Fed forecast is "a bit more hawkish than the bond market's expectations," suggesting that investors pricing in aggressive rate cuts may be disappointed. This has implications for both stock and bond returns, as interest rate levels affect valuations across asset classes.

What This Means for Your Portfolio

For investors who have grown accustomed to exceptional U.S. stock returns, Vanguard's outlook may require some mental adjustment—and potentially some portfolio adjustment as well:

Revisit return expectations: If you're planning for retirement or other long-term goals, stress-test your assumptions using 4-5% stock returns rather than the historical average of roughly 10%. This may mean saving more, working longer, or adjusting spending expectations.

Embrace diversification: The case for international stocks and bonds is stronger when U.S. large-cap expected returns are modest. Don't abandon diversification just because it has hurt recent returns.

Consider value tilts: If growth stocks are priced for perfection, value stocks may offer better risk-adjusted returns. This doesn't mean abandoning growth entirely, but rebalancing toward more attractively valued segments.

Don't ignore bonds: With projected returns around 4%, high-quality bonds offer competitive yields with far less volatility than stocks. For investors approaching retirement or seeking portfolio stability, bonds deserve a meaningful allocation.

A Historical Perspective

Vanguard's projection isn't unprecedented. Following periods of exceptional stock market gains, subsequent decades have often disappointed. The 1990s boom was followed by the "lost decade" of 2000-2009, when the S&P 500 actually lost value.

This doesn't mean history will repeat exactly. But it does suggest that investors should approach the next decade with realistic expectations rather than extrapolating recent returns indefinitely.

The Bottom Line

Vanguard's decade-long warning isn't a reason to panic or abandon stocks. Equities remain essential for long-term wealth building, and even 4-5% annual returns beat cash and most alternatives over time.

But the message is clear: the easy money has likely been made. The next decade will reward disciplined diversification, realistic expectations, and a willingness to look beyond the U.S. large-cap stocks that have dominated recent returns.

For investors willing to heed the warning, the opportunity lies not in chasing yesterday's winners but in building portfolios positioned for tomorrow's realities.