Here is a more optimistic view of the state of the stock market by our contributing writer, Todd Smith, CFP. He shares some thoughts on long term investing strategies.
I have been around long enough to have heard many of the arguments for and against the stock market. And, depending on whom you talk to (i.e. real estate folks, bankers, etc.) and when you have the conversation, there is always something as, if not more, effective than investing in the equity markets. How true is that today?
Interestingly, I recently sat down with a banker at a local branch of one of the largest banks in the world. Discussing his career and aspirations (despite me turning a job down there) our talk transitioned to investing. Despite my explanations, brief as they may have been, he remained stuck on the notion that investing in equities was simply akin to sitting at the blackjack table. I am sure the CEO or any management member of his company would be mortified at such ignorance on the part of their employee. So, perhaps I expect more from someone who works in the financial industry even if that is not their particular forte. But honestly, any student of markets should know some indisputable facts about the long-term performance of the stock market. Such as the fact that historically, the stock market has outperformed any other asset class out there — yes, including real estate. This was something much harder for people to grasp when real estate was so “hot” a couple of years ago.
Own Stocks For The Long Run, Says Jeremy Siegel
Don’t want to take my word for it? How about listening to Jeremy Siegel, who’s a financial professor who teaches at Wharton (University of Pennsylvania). Dr. Siegel points out that most investors should think about putting their money in the stock market while having a buy and hold approach. This is pretty much the buy and hold strategy that has caused many a debate in this blog.
Jeremy Siegel first published a book in 1994 entitled “Stocks for the Long Run” and since then, despite the recent unsettling of markets, he has not changed his view. Frankly, it is nice to see and hear of someone that avoids thinking of today, tomorrow, and even next year. And, it’s nice for someone to actually show some hope for the future.
Aren’t there enough doomsday naysayers out there?
He truly is a student of markets and is convinced that while the stock market may have lower returns, long-term it is still one of the best places to be. Recently, he was quoted in the NY Times as saying, “it’s exactly times like this, when bearish sentiment has brought down valuations, that your chance of strong returns in the following years is greatest.” And Professor Siegel has also stated “to the contrary, the future is bright, and the possibility of a double-dip recession ‘minimal’.”
Professor Siegel thinks that “there is every reason to believe that mean reversion will continue” — so the expectation here is that even with the volatility we see in the markets over time, it is expected to yield average real returns (e.g. returns above the rate of inflation) that are more than 6% per year.
Long Term Ownership of Stocks: Historical Findings
In “Stocks for the Long Run”, Dr. Siegel’s analysis of the U.S. stock market covered historical data as far back as 1802 which pointed to the long term superiority of stocks over anything else. Interestingly, “long term” here actually refers to something longer than a couple of decades. If we decide to be a bit myopic and look at asset classes over 20 year periods, you’ll find that government bonds may have the advantage in terms of returns. But beyond that, stocks have done better as per Dr. Siegel’s studies.
He also explains that for those periods when stocks are undervalued (which you can measure via the market’s collective P/E ratio), then it’s much more likely to achieve positive returns in the following years. And if you’re going to apply that to today’s markets, we’re actually in undervalued territory. Do you believe it?
And if these averages hold true, then the market’s prospects should be pretty good. What does this mean? Stocks still have room to grow (again, as of this writing). The report in the NYTimes on this subject now purports that the likelihood of having positive returns via equities now stands between 95% to 100% if you’re looking at a long term timeframe. The claim? How does 11% over the next 2 decades sound?
So what do you think? Sounds too good?
Let’s look at the other side of the equation then. What about the big question: can we tell the future based on the market’s past behavior? Not necessarily, but what frame of reference do we have? Many state that the longer the time frame, the greater the uncertainty. We’re talking here about the possibility of dramatic unforeseen events that can throw a wrench on the markets and which may become more probable the longer the time frame. While this sounds like a decent counterargument, the fact is that all asset classes are subject to the same uncertainties, which evens the playing field for all classes on this particular matter. So in short, given all such exogenous factors and events which can hit all investment categories in virtually the same way, you can still expect stocks to perform better (or so Dr. Siegel says). It’s just as I have always believed, but I do not have the backing of Wharton on my side.
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