The good times make us forget the bad times
Be positive. Think positive. Don’t focus on the negatives. Forget about it. These are all great pep talk lines. But for investors in 2019 and beyond, they are a trap, and a good way to lose a small fortune…or a big one. See the chart immediately below for precisely why this is the case.
Above you see the rolling 10-year return of the S&P 500 Index. At the far right, you can see a spike in this figure, such that in the past couple of years, the trailing 10-year experience for an investor went from solid (around 6% a year) to over 11% a year. But now, the 10-year return is nearing its highest level in a long time, and it currently is at one of the highest levels since the 1960s. It is also right around the level at which it peaks and then declines. The message here: after a 10-year run like this, the S&P 500 is due for a rest, and more likely a period of weak returns.
Related: The S&P 500 In 2019 Looks A Lot Like S&P 500 In 200
Related: The S&P 500 May Be About To Disappoint A Generation Of Investors
I have said this many different ways over the past year or so, but what is significant now is that the fourth quarter of 2018 finally reminded investors that the S&P 500 and the stock market in general is not a one-way trip (up). Furthermore, the last thing an investor should do after a period of historically strong advances is assume that they will continue. But that is not how many investors think. Instead, they expect the good times to last…and I think it is because they can’t remember the bad times.
If they did, they would be all-weather investors instead of expecting that it will never rain, or snow, or freeze.As a reminder that all of those things do happen, there is this chart:
I presented this view of the S&P 500’s historical return back in 2018, while the stock market’s 9-year party was still in full force. At the time, I pointed out that for so-called “long-term investors” the 20-year return of the popular U.S. stock market benchmark was a mere 4.5%. It is so low because it factors in not only the past decade, but the one before it as well. Bear markets not only happen; they also remind us that bull markets are part of a long-term cycle, not a divine right to double-digit investment returns for all time.And as you can see in this chart above, the S&P 500’s 20-year return is not 4.5% any more. It is less than 3.7%
. The miserable fourth quarter of 2018, along with the removal of the fourth quarter of 1998 (in which the market’s entire positive return for that year was generated) caused the number to spike lower. But that is for us investment stats geeks to concern ourselves with. What most investors should get out of this chart, combined with the one above it, is that just setting an investment strategy with equities at the core, and letting it play out without much consideration for market cycles is a bad idea
. And, in the case where a financial professional is getting paid to advise that investor, it is a neglecting of duty.
Strong words, yes. But the data is right there, and the financial services industry has been complicit in helping investors forget that cycles exist, and that risk-management, not constant pursuit of the biggest returns is the key to long-term success. If you don’t believe me, just think about the concept of investment past performance, which I will cover in more depth in the near future. Investing is about
pursuing a long-term total return that gives you a high probability of achieving whatever objectives you specify at the start of the process, making adjustments to the process and, if desired, the objectives along the way. It is not about cookie-cutter mantras about being a long-term investor, ignoring threats to wealth, and always putting a positive spin on things. Investing is also about
understanding realities, probabilities and opportunities, all at the same time, and not standing still while it is going on around you.