Investment Outlook Fourth Quarter 2018 - Time is on Your SideBy: Nick T. Perini
Wednesday, February 6, 2019
After a painful end to the year, there is cause to step back and examine why we take the risk of investing in the equity markets. Would it be better to buy nothing but safe bonds, or an even more extreme option, to lock your cash away in a safety deposit box? Obviously, this is a rhetorical question. Taking measured risks in investing is what leads to returns that grow wealth and allow the money you have earned over time to compound and work for you.
The fourth quarter of 2018 was a stomach-churning ride that no investor wants to be part of – but it is the nature of investing. Two things that should make investors feel better is that time mitigates risk and taking measured risks lead to higher returns. Looking at your portfolio under the microscope of the fourth quarter of 2018 seems dreadful, but when you pull back and look over the last 5 or 10 years, the outcome is far different. Investing in equities can lead to some wild swings, both up and down, but that’s in the short-run. Over longer periods of time the risk associated with all asset classes is far diminished as can be seen in the chart below.
The table shows the best and worst returns of stocks and bonds over different periods of time. The trend of the bars shrinking as the time periods increase is the graphical representation of time mitigating risk. The volatility over a one-year period is far higher than the volatility over a longer period of time. It’s remarkable to look at the worst 20-year period for stocks and realize that stocks returned 7% annually over that period of time.
It’s commonly accepted that stocks are more volatile than bonds in the short-run, but as this chart shows, over longer periods of time, the results are less clear. The other commonly accepted point is that stocks outperform bonds over long periods of time. If, over long periods of time, the volatility of stocks and bonds are not all that different, and stocks outperform bonds (again over a long period of time) it is rational to invest more heavily in stocks for the long-term.
Many investors stumble and panic when times get tough. Trying to time the market is not the answer. Keeping a cool head and relying on your asset allocation and long-term view is the rational thing to do. Taking sensible risks over the long-term is still the best way to build wealth. Remember investors are rewarded for taking risk.
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