It’s no secret that North America is getting older: one in five Canadians will have reached age 65 in the next 20 years. As this group expands, the working-age population will shrink , so much so that the ratio of workers to retirees is expected to be about 2:1 in 25 years (the ratio today is 6:1). These numbers are mild compared with those of Europe and Japan, all of which has serious implications for the world economy.

Several analysts have attempted to determine what this means for financial markets, but the lack of consensus is striking.

One theory is that stock prices will be repeatedly marked down as boomers find fewer buyers for their savings. Several years ago, Rob Arnott, managing director of California-based Research Associates, and colleague Anne Casscells, argued that the aging of the boomers would lead to a gradual flight of capital into safer investments as individuals moved to protect more of their potential retirement livelihood. This would put increased pressure on stocks, they believe, as buyers slowly disappear.

Baby boomers will sell their homes first and then their stocks, they say. They will be more interested in fixed-income assets because they represent guaranteed income. The last asset to go will be inflation-protected treasuries, which are designed to protect principal. Arnott would be surprised if stocks beat bonds in the next 25 years by more than one percentage point a year.

More recently, James Poterba, an economics professor at the Massachusetts Institute of Technology, argued that retirees will hold onto most of their assets in retirement rather than selling them. Aside from the automatic decline in the value of defined benefit pension assets, other financial assets decline only gradually when households are in retirement. Changes in government social policy, particularly retirement income programs, could affect saving rates by stimulating saving among younger workers, thereby changing this age-wealth accumulation profile, he says.

This a view echoed by Milton Ezrati, senior market strategist at New Jersey-based Lord, Abbett & Co. He says that older people will guard their retirement assets more carefully than in the past, trying to live as much as possible on the income those assets generate rather than by drawing down the principal. As a result, he maintains that the historical association between population age structure and real returns on treasury bills, long-term government bonds, and stocks will not be significantly affected by this changing demographic mix.

If the differential among assets does shrink are there ways to turn this aspect of demographics to advantage? Perhaps, says Stefano DellaVigna and Joshua Pollet, professors at University of California, Berkeley, and Harvard University, respectively. They argue that, because many analysts don’t forecast earnings longer than five years ahead, investors don’t incorporate long-term trends such as demographics into their investment decisions — to their detriment.

They looked at industries whose profitability depends heavily on the age distribution of the population — such as bicycle makers. The professors found that middle-aged people bought bicycles at nearly twice the rate of the overall population, largely because they were buying them for their children. By contrast, consumers under 27 or over 55 bought bicycles at rates far below the national average. The professors built a model of the yearly demand changes caused by shifts in the age distribution of the population. On average, they found that when their model predicted a one-percentage- point increase in demand for an industry’s goods or services, its profits that year were 5%-10% higher.

If investors were really taking into account the long-term effects of a changing population, the stock prices of age-sensitive companies would follow major changes in the country’s birth rate. The professors found that this seldom happens, however. In fact, the price of such stocks began to change only about five years before shifts in age distribution started to have big effects on that company’s earnings. Their conclusion: Invest in companies that, in six or seven years, are projected to be the biggest beneficiaries of demographic trends, and sell out as new investors finally catch on. IE