Taking the Long (and not so long) View…

The latest copy of the SBBI Yearbook just hit our desks. This annual publication, something of a bible for investment professionals, provides detail on more than eight decades of capital market returns. Much of what we have come to expect from stock, bonds and real estate – both their risk and return characteristics – is based on this historical data. 

This year’s edition yields a number of interesting observations. The first is that when you invest matters. Take a look at the chart below. For U.S. large cap stocks, the decades of the 1920s, 1950s, 1980s and 1990s offered up truly superior returns. Bonds were the place to be in the 1980s and 1990s.

The second observation is that our investment perspective is highly influenced by the time period in which we live. To individuals born during the Great Depression, stocks were best avoided and deflation a real threat. Baby Boomers, alternatively, having witnessed the booming markets of the 1980s and 1990s, tend to view stocks more favorably than their parents. But rapid inflation seems like a credible threat to this group even though it is historically a rare occurrence. Note that the high inflation levels witnessed in the 1970s were quite an aberration. While it is still too early to tell, I suspect millennials (those who came of age during and shortly after the Great Recession) will have less confidence in financial markets than previous generations.

The final observation is that stocks, if held for the long term, almost always produce results superior to any other asset class. Consider the chart above which looks at the rolling ten year returns for various asset classes. Since 1926, there have been 81 ten year periods (1926-1936, 1927-1937 etc.). In 77 (95%) of these, large cap stocks produced positive returns and in 79 (98%), small cap stocks produced positive returns. Bonds, which offer lower but more stable returns, produced positive results in all 81 periods. Finally, in the ten year periods with negative stock returns, the losses were relatively limited. For 20 year holding periods, both large and small cap stocks showed positive results in all periods. The point here is that the probability of losing money in any asset class is lowered the longer your holding period.

This longer term perspective is especially important to keep in mind today. After 8 up years, stocks are no longer inexpensively priced and there is no shortage of things to be concerned about (uncertain U.S. politics and monetary policy to name the latest). We do think that stock returns over the next decade or so are likely to be below their long term averages, maybe more like the 1960s and 1970s than the 1980s and 1990s. But history shows that they are still likely to be the best game in town. This is particularly true today given the low level of interest rates and correspondingly sub-par outlook for bonds.

Thanks to the shift to 401-(k) where individuals must take responsibility for retirement themselves, financial market returns matter to the average person more than ever.  While we can’t promise to fully alleviate the anxiety that comes along with investing, looking back at history can help put current market characteristics in perspective and ground expectations for future returns.