One Myth of Investing That Still Endures

Surely, one of the most horrible myths of investing in stocks over the last 25 years - the "average" rate of return as it applies to planning your future - will not survive the current downturn.

Surely, if they haven't already done so, your typical retail investor will soon realize that financial planning entails much, much more than historical performance data from Bloomberg, investment portfolios from Money Magazine, and a few simple calculations.

Well, if the business section of the New York Times has anything to say about it, maybe not...

Now that things have settled down a bit, those individuals who haven't just been tossing their brokerage statements in the trash these last few months and are now curious about how long it might take to dig out of the giant hole that has been made in their 401k can turn to the Times' latest interactive graphic - Calculate Your Financial Comeback - to find out.

Just plug the numbers in, adjust your rate of return (as if it were that easy...), hit Calculate and you'll get the bad news.

By the way, what you see above are the default values - I'm not sure if it's a good or bad indication that they've started with a $100,000 investment portfolio and assumed a 40 percent decline.

The annual contribution of $5,000 and a four percent return look reasonable, but if the $100,000 less $40,000 defaults are representative of American investors, the current malaise all of a sudden makes much more sense.

Anyway, the answer produced when the Calculate button is depressed is that it will take six or seven years with a four percent return to get back to the $100K mark, prompting the inevitable questions, "Where can I get a super-safe 4 percent return these days?" and, "Does this mean I have to take on more risk to get a better return".
Don't forget that the result includes $5,000 a year in new contributions which accounts for about two-thirds of the $40,000 return to six figures - four percent interest on $60,000 amounts to just $2,400 a year.

That's depressing...

By the way, not long ago, I actually talked to one of those fellows who hasn't been opening up any statements or checking their balance online for months - he was still as happy as can be about the world around him.

Comments

[futurestrader:]

Im not sure I would be planning or hoping for a 4% return with markets where they are today..Im assuming you are referring to an IRA, since you were using 5,000 yearly contributions...There is a plethora of solid stocks out there yielding in excess of 4% today, and to not take advantage of these opportunities would be foolish. In my opinion, the people that are banking on 4% probably dont even read financial blogs...

Jan 08 08:25 AM

[bricki:]

Agreed 4% return is nowhere near what yields will be when the market recovers. And if you are taking more active approaches like rebalancing you should recover much more quickly.

My portfolio is well diversified and undergoes yearly allocation tweaks. The result is I'm down about 5% right now. A year of a flat market will put me back where I was in late 2007 because of contributions, interest and dividends. Recovery would put me WAY ahead.

Jan 08 09:59 AM

[axelrod608:]

>> "your typical retail investor will soon realize that financial planning entails much, much more than historical performance data from Bloomberg, investment portfolios from Money Magazine, and a few simple calculations" >>

The lesson I learned last year was to pay for expert analysis and to follow it only if it made sense to me. Agreed, one cannot find much actionable stock intel in free media. Most is just hype.

Antone interested in a solid portfolio foundation has to look at royalty trusts and MLP's - Master Limited Partnership trusts - that are required by law to distribute dividends regularly. At current prices, many (most ?) are yielding double digit returns - hard to pass up in a ZIRP economy.

Jan 08 12:03 PM

[Assetology:]

Thanks for sharing.

This is a great calculator and it reveals that this 'temporary' setback is just that, temporary, especially if investors get back on the horse and buy a basket of solid, dividend-strong stocks.

My old money will be back on track in 3 years with a combination of dividends and contributions. Of course, this assumes that the dividends I have bought continue to be paid and without increases.

New and Future money should do well unless anarchy prevails.

Jan 08 12:44 PM

[Smarty_Pants:]

"Well, if the business section of the New York Times has anything to say about it, maybe not..."


Yep. I know that if I had lost 40% of my portfolio by following the advice of an investment advisor, the next place I would turn for advice would be the business section of the NYT.

I'm curious to know what the NYT thinks the best way to proceed would be if the market makes another 50% down leg before it starts the rebound in earnest? How many years longer will it take to recover not only the lost $40,000 but the extra losses on all those $5000 additions?

Or is the NYT implying that one shouldn't start with those $5000 additions until after the market truly bottoms? Wouldn't that be an attempt to time the market?

I also note that those $5000 contributions need to grow with inflation according to the chart you provided, thereby increasing the amount of new money that constitutes "recovering" to the old high water mark.

The authors introductory premise is correct. You can't expect to avoid poor market performance unless you put the time and effort into handling your own money. The 'professional' money handlers have such large amounts of money to use that they can't really avoid taking big hits when the market turns.

Thanks for noting what the NYT thinks on the topic of investing. Makes me glad I manage my own money.

Jan 08 03:19 PM

[doublebogey:]

axelrod 608 - I love you. I have literally bet the farm on the energy MLP/Royalty trusts. I worked in the natural gas pipeline and E&P busines for 25 years and IMHO it is the safest quickest way to "get even". In my case, retired, it seems the only feasible way to maintain spending power while you wait for recovery. If you can be patient (perhaps years) energy is a slam dunk. Housing perhaps but I dont see a bunch of housing sector stocks out there with bullet proof cash flow spewing out 10-15% distributions. There will be inevitable reductions in some distributions (however EPD just bumped theirs up 6% in the face of Ike issues and the drop in prices). The drop in prices, tax loss selling, and forced redemptions by hedge funds has presented investors with a once in a generation opportunity in these things. You just have to suck it up and learn the arcania of the tax issues.

Jan 08 03:35 PM

[auto44:]

Nothing in investing is a slam dunk or bullet proof. Everything carries risk and must not only be considered when purchasing but watched throughout the time that you own the asset.


On Jan 08 03:35 PM doublebogey wrote:

> axelrod 608 - I love you. I have literally bet the farm on the energy
> MLP/Royalty trusts. I worked in the natural gas pipeline and E&P
> busines for 25 years and IMHO it is the safest quickest way to "get
> even". In my case, retired, it seems the only feasible way to maintain
> spending power while you wait for recovery. If you can be patient
> (perhaps years) energy is a slam dunk. Housing perhaps but I dont
> see a bunch of housing sector stocks out there with bullet proof
> cash flow spewing out 10-15% distributions. There will be inevitable
> reductions in some distributions (however EPD just bumped theirs
> up 6% in the face of Ike issues and the drop in prices). The drop
> in prices, tax loss selling, and forced redemptions by hedge funds
> has presented investors with a once in a generation opportunity in
> these things. You just have to suck it up and learn the arcania of
> the tax issues.

Jan 08 08:50 PM

[Conan the B...:]

Axelrod 608: I love you too.
Auto 44: Never put all of your eggs into one basket, But if you have only one egg, watch it very, very carefully.

DoubleBoggey: The MLP/Royalty sector can be considered to be one egg within the Oil Basket. There are similarly high yields available from other sectors like pipelines and shippers...WMZ and TNK for example.

Jan 09 12:37 AM