Back to Breakeven for Equities? 2012-2013.

20% bear market declarations are pretty much useless, but they give journos and TV types something to sell ads with.  Mathematically speaking, the hurt starts at 13% losses.

Losses over 13% require gains of greater than 13% for recovery.  The graph below highlights how this works.  The blue line approximates the intuitive relationship of losses equaling gains.  The red curve is the reality. Click to enlarge:

Rule #1 in all investment allocation decisions is don't lose money.  Risk management is the name of the game at the asset and portfolio level.  If you are a European and invested in US shares you have lost 50% of your money after the currency conversion.  You would need a 100% return to break even.  
 
The acceleration point for losses requiring greater gains is around a 13% loss.  Think of it as inverting the power of compounding returns.  Currently the S&P is 26% below its highs.  To get back to the previous high point for domestic investors the S&P 500 needs to gain a little over 35%.  The long term 80+ year historical average return for equities is around 7-8%, so back to break even then in around 4 years.  Based on historical average return would be 2012-2013.

The ex dividend annual return for the S&P for a dollar based investor since 1998 has been roughly .3%.  When one factors in an inflation estimate of 2.5% per year, one ends up with an effective loss of purchasing power of 25% over the last decade.  Welcome to the lost decade. Download returncurve.xls

P.S. I am not such a buzzkill in real life. I am just pointing out some facts.

Comments

[Larry House:]

Sad but true.

2008 Jul 14 11:30 AM

[Jim Hawthorne:]

Thank you, Nick!
I think that far too many in the 'buy&hold'-'stocks for the long term' crowd fail to realize that a 50% loss can ONLY be made up by a 100% gain, and those are difficult to come by!
Cash is a VERY valid position... there is more to life than LONG and SHORT!
(confession: long QID, SKF, REW, SRS; with stops set daily)

2008 Jul 14 05:35 PM

[Mark McHugh:]

For way too many of us, the biggest stumbling block to success and prosperity is basic arithmetic.

2008 Jul 15 12:47 AM