Many of you have some fundamental beliefs about the process of investing. These beliefs understandably guide your investing behavior. Unfortunately, they are often dead wrong. This is not surprising, because the financial media and the securities industry have a vested interest in encouraging short-term thinking and other emotional behavior harmful to your returns.
Here are some examples of harmful beliefs.
Bonds have lower volatility than stocks and lower expected returns. When I mention "bonds," I am referring to 10-year U.S. Treasury bonds. I suspect most investors, and even many financial advisors and brokers, believe that 10-year Treasury bonds are "safer" and less volatile than stocks. As a consequence, you would expect these bonds to have lower historical returns.
Clifford Asness is the founder of AQR, a fund manager. He analyzed the data relevant to this question in a provocative blog post published in December of last year. He found significant periods of time where bonds outperformed stocks (defined as the Standard & Poor's 500 index). For example, from 1970 to 1974, bonds had returns of about 1 percent, while stocks lost 7 percent. From 2000 to 2004, bonds returned 7 percent while stocks lost 4 percent. From 2005 to 2009, bonds returned 3.5 percent while stocks lost 2 percent.
However, over the 45-year period from 1970 to 2014, stocks did outperform bonds. Bonds returned 3.5 percent, while stocks earned 5 percent. All of these returns are realized monthly returns, annualized. Based on this data, Asness concludes: "Five years is not a very long time. You see crazy things over five years. Of course, it often feels like a lifetime to actually live through it."
The takeaway for investors is not to draw conclusions from short-term data. Over the long term, which can be as long as 45 years, the expected return of stocks is higher than bonds. Intelligent investors will ignore short-term dataand stay focused on longer time horizons.
Following the financial news is helpful to investors. Last year was great for the U.S. stock market. The S&P 500 index rose 13.69 percent. This was the third consecutive year in which the S&P 500 index returned more than 10 percent.
What if you paid attention to daily headlines and studiously watched the financial news? Well, the year got off to a rocky start, with headlines such as, "U.S. Stocks Slide as Jitters Persist," a story in The Wall Street Journal. In April, another Wall Street Journal story was focused on concerns with slow housing numbers. Worry about "soft new-home sales" reappeared in October. Then in September, the media was consumed with widening sanctions on Russia over the crisis in Ukraine. Falling oil prices and tumbling gold prices were featured heavily in the news over the last quarter.
It would have been easy to be spooked by these headlines and dump U.S. stocks, to your great detriment.
Things were not so rosy in international markets. In 2014, the MSCI EAFE Index lost 4.90 percent and the MSCI Emerging Markets Index fell 2.19 percent. If you followed the headlines, you were buffeted by both positive and negative news. In May, there were stories about an emerging markets rally. Eurozone inflation remained at record lows. Scotland rejected a vote to become independent from the United Kingdom. On the negative side, there was the Ebola crisis, a slowdown in China, the emergence of Islamic State group (ISIS) and a potential default by Argentina.
The different messages triggered by these headlines no doubt created vast uncertainty for investors in foreign markets.
The reality is that viewing daily events from a short-term perspective, and making investment decisions based on headlines, both creates anxiety and proves counter-productive for your investing. You would be better offignoring the financial news.
Some “guru” can explain the market. Much of the financial news is based on a false premise. We want to believe there is someone out there who can bring order out of chaos and convey information helpful to our investing decisions. But once you understand the parade of "experts" cannot help you, you will be well on your way to making some fundamental changes that will improve your investing decisions.
Here's what happened to stocks in 2014:
- U.S. large-cap stocks significantly outperformed small-cap stocks.
- Large-value stocks outperformed large-growth stocks.
- Among small-cap stocks, growth outperformed value.
In international developed markets, Israel was the top-performing country, returning 22.77 percent. It was followed by New Zealand, which returned 7.34 percent and Denmark, which returned 6.18 percent. Portugal was the worst-performing country, losing 38.24 percent. It was followed by Austria, which lost 29.77 percent and Norway, which lost 22.04 percent.
In emerging markets, the top performer was Egypt, returning 29.33 percent. It was followed by Indonesia, which returned 26.59 percent, and the Philippines, which returned 25.59 percent. The worst returns were from Russia, which lost 46.27 percent. It was followed by Greece, which lost 39.96 percent, and Hungary, which lost 27.44 percent.
Raise your hand if any of the pundits you relied on at the end of 2013 told you to invest last year in U.S. large-cap stocks, to avoid U.S. small-cap stocks and to invest in stocks tracking the market in Israel and Egypt. I thought so. It’s all a charade.
Dan Solin is the director of investor advocacy for the BAM ALLIANCEand a wealth advisor with Buckingham. He is a New York Times best-selling author of the Smartest series of books. His latest book is "The Smartest Sales Book You'll Ever Read. source
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