Time Tends to Heal All Wounds

I have heard from many people that “the stock market can be your best friend or worst nightmare.”  To the unsophisticated investor, this may be true, but to the knowledgeable investor, investing in stocks over the long term generally is a better investment than most of the alternatives.

As we all know, stocks usually have more volatility than Fixed Income (bonds) and Cash investments. We all should remember the bad stock market in 2008-09, when the S&P 500 lost over 40% and the down market cycle in 2000-2003 where stocks lost approximately 50%.   Obviously those stock market declines hurt all investors, but a long-term time frame helps to minimize the negative impact from a short term market decline.

Over the last 85 years (1926-2010), the total returns on the S&P 500 index have been positive in 61 (72%) of the past 85 years.  There have been 11 years in which the stock market lost more than 10% and only 6 years in which it lost more than 20%.  However, total returns have been greater than 10% in 49 of the past 85 years and greater than 20% in 32 of those years. (Consulting Group, Polaris, Morningstar).

Since the stock market decline of 08-09 is the most recent, let’s look at some longer-term statistics.  Consider the following chart:

3-31 Rolling

In reviewing the returns shown above over the last 10 years (quarter ending 3/31/14), the S&P 500 index earned a 7.42% average return per year, if you stayed invested for 10 years.  This 10-year time frame included the big downturn in 08-09 and the extreme market volatility of 2011, where the S&P 500 index only made 2.11% for the calendar year.  This very difficult 10-year time frame still managed to deliver a respectable return for those who stayed invested for all 10 years.

Many investors were also disappointed with their returns from bonds in 2013, where the Barclay’s aggregate bond index lost 2.02% – first loss over the last 10 years (calendar year ending 2013) and only the third negative calendar year loss since 1977.  Bond investors still earned a 4.86% average return over the last 10 years (calendar year ending 2013).

barclays US agg bond

We certainly don’t want to give you any false confidence that investing is easy and there is no risk involved. Developing an appropriate investment portfolio takes time, effort and knowledge.

There have been many articles that discuss diversification as one of the keys to successful investing, but another key is to understand your investment time frame and to stay invested for that period.  When you determine the appropriate asset allocation (ratio of stocks, bonds and cash) of your investment portfolio, substantial thought must be given to when the money will be needed.  If the money is required in the short term, more conservative liquid (cash and/or fixed income) investments should be utilized.  However, if the money is not needed for a longer period of time, having the discipline to stay invested for the long term, during the market ups and downs, should be a wise long-term decision.  Trying to predict the short-term direction of the market is probably more difficult than predicting the weather.  However, long-term investing generally has been more predictable.

The following chart illustrates the importance of staying invested for the long term.  If over the last 30 years, you stayed invested in the S&P 500 index for all 30 years, you would have earned an 8.4% annualized return on investment.  However, if you missed the 20 biggest up days over the last 30 years, your annualized returns would have been less than half or only 4.1% per year.  If you had missed the next 20 biggest days, your returns would have even been lower!

Additionally, staying invested in stocks has benefits compared to other asset classes.  As an example, from 1945-2010 US Large Cap Stocks have outperformed Long-Term Government Bonds and T-Bills in 45 of 56 rolling 10 year average time frames.  Long-Term Government Bonds and T- Bills only out performed stocks 4 and 7 times respectively, during that same time frame.

Obviously, past performance is no guarantee of future results.  The stock and bond market statistics shown can easily be debated with other data or different time frames.  All investments have risk and you should understand the risk/reward benefits before investing.  Stocks should be an important component of your overall asset allocation strategy, and should be utilized in the proper amount and appropriate time frame for your financial situation.  Investing in stocks for the short term can carry substantially more risk, but when investing in stocks for the long term, time can help to heal all wounds.