U.S. stock returns seen slowing till 2020

NEW YORK (Reuters) - The U.S. stock market is poised to show a sharp slowing in annual inflation-adjusted returns through 2020 as returns normalize after being very strong in the two decades up to 2000, an investor said on Tuesday.

James O'Shaughnessy, chairman and chief executive of O'Shaughnessy Asset Management, forecast at the Reuters Investment Outlook 2008 Summit in New York that the S&P 500 index .SPX would return 3 percent to 5 percent a year until 2020, compared with 13.85 percent in the 20-year period up to 2000.

"If you randomly select a 20-year period and look at the real rate of return of the S&P 500 between 1927 and now, you see that the real rate of return for the S&P in any 20-year period is 7 percent," said O'Shaughnessy, who specializes in "systematic" equity investing.

"Whenever we get exceedingly higher than that 7 percent or exceedingly lower than that 7 percent, we spend the next 20 years reverting to that long-term mean," he said.

Systematic investing is an offshoot of quantitative investing but seeks to outperform indexes more. It uses strategies that have been tested on data spanning many decades.

Before setting up O'Shaughnessy Asset Management this year, O'Shaughnessy headed systematic equity investing at Bear Stearns Asset Management.

O'Shaughnessy said the reversion to mean has already being observed since 2000. "A dollar invested in the S&P 500 on January 1, 2000, after you take inflation out, is currently worth 92 cents," he said.

On the other hand, $1 invested in large cap value stocks and small cap stocks when they were faring terribly in 2000 would be worth $1.30 and $1.82, respectively, he said.

O'Shaughnessy said 20-year periods best capture the retirement investment and birth cycles. "The demographic effect might be coming into play here," he said.

(For summit blog: summitnotebook.reuters.com/)

(Reporting by Muralikumar Anantharaman; editing by Leslie Adler)