It is easy to focus on what the markets have done over the last week, month, or year. However, we often hear less talk about how investments have performed during the last 10, 20, or 30 years. In our view, the shorter the time frame you focus on, the harder it is to say what markets will do.
By looking at a longer time horizon, we can use lessons from history to have more confidence around how various investments may perform. We can also take specific steps to improve our odds of a successful investment outcome and achieve our long-term financial goals. In this article, we will discuss some of the key tenets of being a successful long-term investor.
The first key for long-term investors is to start early. The earlier you invest, the more time your investment has to compound returns. For example, we would expect a $1,000 investment with 30 years to grow to become more valuable than a $1,000 investment with 10 years to grow, all else equal.
In the example below, we see the dramatic impact that time invested has on investment growth. In this illustration, each investor contributed $30,000 total and earned a return of 8% a year. However, the length of time they invested over varied widely, as one investor starts early, another starts in the middle, and a third investor starts late.
Investor A invests $1,000 per year for 30 years and their investment grows to over $120,000. Investor B invests $1,500 per year for 20 years and sees their investment grow to almost $75,000. Investor C invests $3,000 per year for 10 years. Despite contributing the same amount as the first two, their investment only grows to $47,000. Clearly, the extra time to grow can have a big impact on the size of your portfolio!
Investment Growth Over Time
Source: Author’s calculations. The performance does not reflect any expenses associated with the management of an actual portfolio.
With the ups and downs of the market and constant headlines of worries around world events and the economy, it seems like there is always a potential reason to take your money out of the market. This could be headlines around the debt ceiling, an upcoming election, high oil prices, or increasing unemployment. The list goes on.
When we look at the long term, markets have been able to grow over time despite these concerns. A dollar invested in global stocks in 1970 grew to around $80 dollars by the end of 2022. This all happened as investor experienced recessions, wars and natural disasters.
Growth of a Dollar (MSCI World Index (net dividends), 1970–2022)
Source: Dimensional Fund Advisors. In US dollars. MSCI data © MSCI 2023, all rights reserved. Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio.
Another important reason to stay invested is the difficulty in timing markets. Successfully timing the market requires two decisions. When to take your money out of the market and when to put it back in. In our experience, this has been tough to do and rarely do we see an investor successfully implement this approach.
Furthermore, missing a week or a year of time in the market can really hurt long-term returns. Over the last 30 years or so, an investor who missed the best week of market returns could see their ending account value be 16% less than it would have been if they remained invested. For an account that would have reached $1 million, that is equal to a loss of $160,000!
Similarly, if an investor had their account out of the market during the best year for returns, their account would be over 43% lower than had they remained invested. In our example, this would be a loss of over $430,000!
Large Company U.S. Stock Performance (S&P 500 Index, 1991–2021)
Source: Dimensional Fund Advisors. Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is not a guarantee of future results. In US dollars. For illustrative purposes. Best performance dates represent end of period. The missed best consecutive days examples assume that the hypothetical portfolio fully divested its holdings at the end of the day before the missed best consecutive days, held cash for the missed best consecutive days, and reinvested the entire portfolio in the S&P 500 at the end of the missed best consecutive days. Annualized returns for the missed best consecutive days examples were calculated by substituting actual returns for the missed best consecutive days with zero. S&P data © 2022 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. “One-Month US T- Bills” is the IA SBBI US 30 Day TBill TR USD, provided by Ibbotson Associates via Morningstar Direct. Data is calculated off rounded daily index values.
Invest in Growth Assets
For investors, investing in growth assets like stocks can make a dramatic difference over the long-term. During any particular year, the stock market can be way up or way down, while assets like intermediate bonds and cash typically have less volatile returns. However, over long periods, investors have been handsomely rewarded by taking on the extra risk that comes with investing in stocks.
If we look at an investor who invested in a variety of assets starting in the early 1970’s, an investment of $1 in the S&P 500 index would have grown to $166 by the end of 2021. This return is more than 20 times better than the return from cash (US Treasury Bills) and more than 3 times better than the return from long-term US government bonds.
Monthly Growth of Wealth ($1, 1973–2021)
Source: Dimensional Fund Advisors. In US dollars. Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is no guarantee of future results. US Large Cap Index is the S&P 500 Index. US Credit Index is long-term corporate bonds using the IA SBBI US LT Corp TR USD, provided by Ibbotson Associates via Morningstar Direct. US Govt Bond Index is long-term government bonds using the IA SBBI US LT Govt TR USD, provided by Ibbotson Associates via Morningstar Direct. Treasury Bills is the IA SBBI US 30 Day TBill TR USD, provided by Ibbotson Associates via Morningstar Direct. US CPI is the US Consumer Price Index. US Consumer Price Index data is provided by the US Department of Labor Bureau of Labor Statistics. S&P data © 2022 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. Bonds, T-bills, and inflation data provided by Morningstar.
Each investor has unique factors that determine how they should be invested. With that said, we encourage most of our clients to have growth investments in their portfolio. These assets give portfolios the ability to experience meaningful appreciation, outpace inflation, and protect against longevity risk (the possibility that you will outlive your investments).
Diversify Your Portfolio
The investors mentioned in the headlines usually aren’t the ones with diversified portfolios. Jeff Bezos, Bill Gates and the Walton Family became billionaires through one investment they held. Clearly, you can hold a concentrated portfolio and do very well. In fact, one of the best paths to extreme wealth is holding one investment that does incredibly well.
However, that one investment can also do incredibly bad. You are less likely to hear about those people in the headlines. A study looked at the stocks listed on major U.S. exchanges from 1926 to 2016 and the results were quite surprising (1):
- More than half of the common stocks delivered negative lifetime returns.
- Around 4% of the stocks in the study accounted for all the returns (value created) in excess of cash (one-month Treasury bill returns) for the market.
Thus, many individual stocks perform poorly. To do extremely well, you need to pick one of the few companies that drives strong market returns. If we consider the 4% number cited, about 1 out of 25 randomly selected stocks would be from the group that exhibited strong performance.
By taking a diversified approach, you reduce the likelihood of extremely good results and the likelihood of extremely bad results. A diversified portfolio improves the odds that you will own some of the strongest performers that drive market returns over time. This is why we focus on diversified strategies to help clients achieve their goals such as funding a comfortable retirement or covering their kids’ education expenses.
In the short term, it can be hard to predict what the markets are going to do. Many financial goals aren’t short term and may be something you will invest for over 5, 10, or 20 years. To increase your chances of successfully achieving your financial goals, we focus on a long-term approach to investing, using the tenets outlined above. If you would have a financial planner review your portfolio to see how it is positioned to support your goals over the long term, please schedule a call with us here.
(1) Bessembinder, Hendrik. “Do Stocks Outperform Treasury Bills?” SSRN Electronic Journal, 2017, https://doi.org/10.2139/ssrn.2900447.
The information contained herein is intended to be used for educational purposes only and is not exhaustive. Diversification and/or any strategy that may be discussed does not guarantee against investment losses but are intended to help manage risk and return. If applicable, historical discussions and/or opinions are not predictive of future events. The content is presented in good faith and has been drawn from sources believed to be reliable. The content is not intended to be legal, tax or financial advice. Please consult a legal, tax or financial professional for information specific to your individual situation.
Advisory services offered through Financial Life Management, LLC – Doing Business As – SummitView Advisors, a Michigan registered investment adviser. The adviser may not transact business in states where it is not appropriately registered, excluded or exempted from registration. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any securities or investment advisory services. Investments involve risk and are not guaranteed. Be sure to consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein.