Is It Different This Time?

As stock prices have recently slumped, and are off close to 20% from the recent highs, investors are wondering if we are in for a replay of 2008. The media has provided us with a daily barrage of grim economic news, and the “doom and gloomers” and naysayers have reappeared, with renewed concern about the worldwide health of the banking system. As a result, some are questioning the wisdom of maintaining any equity exposure. In fact, I recently have read an article that recommended an “all bond” portfolio, as a means of dealing with this new environment, despite the fact that interest rates are at a 60 year low. C/D’s and US Treasuries that mature within 5 years, yield 1% or less Over the past 50 years stocks have outperformed all other investments with an average return of over 10%, as against 6% for bonds and 5% for cash. In real terms, an all cash and/or bond portfolio would have barely beaten inflation. (Source): Ibbotson and Associates.

I don’t know what the future for this business cycle looks like, and past performance is no guarantee of future results, but I do know that on many occasions in the past, investors were confronted with “unprecedented” events that tested their willingness to maintain a diversified portfolio and stay with their asset allocation.

Can I say for sure, it is not different this time? No, but there have been many reasons and events to exit the markets in the past, and there will be many more in the future. As a result of not staying with their investment plan, or a lack of one, the average investor has significantly underperformed the markets over time. According to DALBAR, over the 20 year period ending December 31, 2010, the typical investor earned about 3.8% per year, on average, vs. a total return of over 9% for the S&P 500.

We have had 13 ten-year periods since 1871 when the stock market went nowhere. In most of these cases, this stagnation was caused by a major market bust sometime during the period. In every single case, once stocks fell out of favor, they provided exceptionally good returns during the subsequent ten years. It should be noted, however, that past performance is no guarantee of future performance.

In my opinion, this is one of the best times in recent history to be optimistic about owning equities. Those who are listening now to the naysayers and doom-and-gloomers will be sorry they did so over the next several years.

“THE ERROR OF OPTIMISM DIES IN THE CRISIS, BUT IN DYING, IT GIVES BIRTH TO AN ERROR OF PESSIMISM. THIS NEW ERROR IS BORN, NOT AN INFANT, BUT A GIANT.”