Are Stocks Always Best for the Long Run?

Barry Ritholz (The Big Picture) has a great graphic comparing the results of investing in two different vehicles on January 1, 1994 here. The graph is shown below:

This gives new meaning to the phrase: "Cash is king."

But this story doesn't stop yet. The following graphic, from a Barron's article in March (here) shows the time periods that bonds have outperformed stocks since 1801.

Bonds outperformed stocks over three long periods of time: 69 years to start the 1800s, 21 years through the Great Depression and 40+ years not yet completed. This latest long time period only qualified with the sharp market drop at the end of 2008. Before that recent drop in stocks there was a period of approximately 22 years (about 1980 to 2001) where bonds outperformed stocks that is now imbedded in the longer period.

In between these periods with superior returns for bonds, there were long periods of dramatic outperformance for stocks (1900-1929 and 1950-1967). The remaining long time period of the last 209 years (1872-1899), there were many see-saw battles for supremacy with the 28-year returns about the same for stocks and bonds.

So that gives interesting results for 206 years, shown in the following table:

This may be an astounding result to some. However, if we just look at the years since 1900, the advantage for bonds is less one sided, 62 years to 47. But since 1950, the advantage for bonds is greater again, 41 years to 18.

Of course, the advantage for bonds is changed when we look at returns instead of time. Almost any investment finance textbook will have data showing that for time periods encompasing most or all of the twentieth century, stocks outperformed bonds by a margin of better than 2:1 (average annual returns), inspite of the large advantage in number of years that bonds outperformed.

The graph above clearly shows that the performance for stocks and bonds for the entire 100 years of the nineteenth century were about equal. And of course you had to go all the way from Thomas Jefferson to Ulysses Grant to break even. In between, bonds were ahead for 69 years.

So, at least since 1900, stocks do outperform in the long run. However, there are times when you have had to run for more than 40 years to get the outperformance. We are in one of those 40+ year runs right now. Are you getting winded?

Comments

[User 353732:]

1. One cannot generalize quite so readily esp. for individual investors. Retail investors who do their homework and make the effort to understand companies or have deep domain knowledge of specific industries refrain from buying "stocks" in general. Instead , they focus on buying specific companies. Such investors have, more often than not, been well rewarded for their selectivity , effort and patience. The model now for small investors is buy companies, not indexes or markets or even sectors. Clearly over long periods specific companies have outperformed their peers, their sectors and the economy and the stocks of such companies have been fine investments.
2. Since the advent of massive, highly leveraged,transactionally dense, internet based and inside information driven proprietary trading by Wall St the stock market has lost a lot of integrity. Its role as both conveyor of price signals and allocator of capital has been substantially degraded and corrupted. The stock market has, in important ways, been suborned into becoming a mechanism of wealth transfer from Main St to Wall St and from the middle class to the financial upper class. Given this wilful, Congress abetted, corruption of formal stock markets, it is not surprising that holding the market or buying indexes is no longer a profitable strategy for small, retail, investors.

Jul 08 08:16 AM

[Ferdinand E...:]

Thank you. In my international finance textbook I mention a book called 'Stocks for the Long Run' by some moron at Pennsylvania (I believe). I said essentially what you said in your last paragraph, only your article is a much better treatment of this matter than the one I presented.

Jul 08 08:43 AM

[kruser53:]

I think this article is one that would serve the average citizen who is a casual investor well. Many people who just idly put money into some IRA, 401(k) or other retirement mutual fund accounts each year which are basically indexed have no idea what they are doing. They believe the pablum that these fund and plan sponsors feed that says they can be successful on auto pilot.

The previous commenter has added some valuable discussion of why the auto pilot small retail investor has so much angina. The average guy on the street might not understand and appreciate the analysis of the commenter (most SA readers will), but the oversimplified presentation of the author would be more understandable to the guy on the street who hasn't been able to figure out why his retirement accounts have made so little progress.

Jul 08 08:53 AM

[kruser53:]

Oops! Prof. Banks comment got in before mine. The previous commenter I referred to is User 353732.

Jul 08 08:57 AM

[Graham and ...:]

Stocks are better than bonds, but only over periods lasting CENTURIES. If your time frame is less than 50-100 years, you probably need a "mix."

Jul 08 09:22 AM

[Larry House:]

Thanks, John. Investors should take heed. With many calling for muted returns from equities for perhaps years to come, this would appear to be a good time to mix into the portfolio some investment-quality corporate bonds. The risk/reward favors bonds at the moment.

Jul 08 10:24 AM

[rm:]

What impact might the GM bankruptcy outcome have on those bond returns?

Jul 08 11:29 AM

[Dave Shafer:]

The problem along with the issues 353732 pointed out, is that individual investors rarely have an investing span of more than twenty years. They are in their thirties before they have enough margin to make significant investments and start to draw back and panic in their late fifties and they see retirement creeping up. The variance we see from 20 year cycles are much larger than these long term studies indicate. Imagine if you were an index investor over the last 20 years and now approaching retirement. You would be looking at almost no net gains outside of dividends.

Jul 08 11:36 AM

[Neil B:]

I think this is a very important article. The paradigm regarding owning stocks for the long run has certainly been broken at the present time, and may not be true for the foreseeable future. I have my money at Fidelity, and I get irritated when they tell me that 50% of my money should be in stocks. I finally called up and asked them if they realized that it was possible for the stock market to go sideways for the next decade. They are so into selling mutual funds that they can't that they need to market more fixed income products for retired persons like myself.

Jul 08 12:19 PM

[Fred Voetsch:]

A couple of things stand out at me:

1. If you pick the right stock or stocks you can do much better than someone who picked the wrong stock or stocks. I believe that is more true of stocks as opposed to other investing vehicles.

2. Simply identifying an overpriced market at a time of severe downside potential and staying out for a good part of the decline can make a HUGE difference in your long-term returns. This bear market was easy to spot from a mile away as long as you ignored the shills and kept an eye on the real data. By the same token, you can save yourself another 50% (or more) decline by continuing to stay away from the market, though it certainly isn't as overpriced as 2 years ago.

The bottom line is that with stocks, research is vitally important, a bit more so, IMO, than with bonds or real estate or commodities.

Jul 08 03:54 PM

[Fred Voetsch:]

It's important to keep in mind that when people begin telling you that ENTER INVESTMENT HERE is no longer such a good investment is when that investment is probably becoming a good buy.

I believe that the DJIA will drop below 5,000 this year and could possibly go to under 2,000 in the next year or two or three or... but that is exactly when you want to begin aggresively buying for the long term.

The trick is to not cut yourself catching that falling knife.

Jul 08 03:59 PM

[SeekingTruth:]

An established economic newsletter once called bonds : "Certificates of Guaranteed Confiscation" when considering their net return after fees, inflation, taxes, and opportunity risk and obstructions.
While I grasp and appreciate the "smoothing effect" that bonds offer to a portfolio, I generally would rather stick to stocks and cash, although the accelerated corruption of the stock market in the last 25 years does give me pause from time to time.
An exception to this was in the eighties when I received 10% triple tax free muni's, Treasuries at over 14% and even better returns on Zero's . That tends to spoil one's expectations , but it also indicates what could happen in the future, in which case another bond blood bath would unfold for bond holder's at current levels - something I don't expect to happen for a number of years, but if the past is prologue , it will happen again somewhere along the line.
Meanwhile, TLT, TBT, and foreign bond funds offer some hedging scenario's worth considering.
Enjoyed the excellent article and most all of the intelligent and well balanced comments.

Jul 08 07:27 PM

[Steven Hansen:]

for me we are entering a period of incomparable uncertainty.

i can think of plausible scenarios now which you would not want to be holding stocks, real estate, bonds, or cash.

i believe all investors need to keep their eye on the ball, and not back themselves into any vehicle which will lock them into any long term investments.

within the last year, we have witnessed the impossible, and now the non-recovery recovery. normally docile fundamentals seem to be at war with forces that are allies.

you need to continue to challenge your beliefs, testing whether they are still viable.

Jul 08 07:38 PM

[Fighting Yoda:]

GM bonds did better the GM stock in bankrutcy.


On Jul 08 11:29 AM rm wrote:

> What impact might the GM bankruptcy outcome have on those bond returns?

Jul 08 10:08 PM

[Old Trader:]

"i can think of plausible scenarios now which you would not want to be holding stocks, real estate, bonds, or cash."

Steven,

Since that list just about covers the investing universe, are you suggesting what I like to call the "3B Portfolio"? (Bullion, bullets, and beans).

Jul 08 10:12 PM

[Fighting Yoda:]

Bonds outperformed not just stocks but also gold. I hope I don't get hate mail form gold bugs - but even stocks outperformed gold. Out performance comes simply from dividend - bonds yield higher than stock, stocks yield higher than gold - dividends is what you actually take home - rest is all a transitory illusion. Even Jeremy Siegel the author of “Stocks for the long run” fame conceded the fact.

Jul 08 10:13 PM

[Ricard:]

Ben Graham in 'Security Analysis' began with the premise that investing in stocks was equivalent to investing in cheap bonds with more upside potential and similar risk profiles. I think an astute stock picker could still outperform an astute bond picker in most markets.


On Jul 08 10:13 PM Fighting Yoda wrote:

> Bonds outperformed not just stocks but also gold. I hope I don't
> get hate mail form gold bugs - but even stocks outperformed gold.
> Out performance comes simply from dividend - bonds yield higher than
> stock, stocks yield higher than gold - dividends is what you actually
> take home - rest is all a transitory illusion. Even Jeremy Siegel
> the author of “Stocks for the long run” fame conceded the fact.

Jul 10 12:37 AM

[Rokjok777:]

One fly in the ointment, not yet mentioned here: interest rates. They dropped like a stone from 1982 to 2009, of course bonds did well.
Makes me think twice about large bond positions right now, with rates currently at zero.
There are entire decades where CASH was the best-performing asset class, perhaps we are in one of those decades. Capital preservation. No fun at all...

Jul 13 06:08 PM

[Rant and Rave:]

but Timmy Geithner says that we are coming out of it!

Jul 14 11:32 PM