Stocks Still Return 10% a Year

Here's an amusing USA Today piece. It highlights the author's challenges with his readers. He argues that stocks, on average, return 10% a year. But when the markets are down, he gets letters that he's crazy -- it returns no where near 10%. And in this piece, he gets a letter asking if 10% is too low to expect. Why? Because the market had a great year the previous year. Here's his response:

The market, on average, returns 10% a year. I have no idea how much the market will return this year or next year. It's also important to point out it's uncommon for the market to return exactly 10% in any given year. That's a long-term average. For all I know, this year the market may return 20% or it might fall 20%. But if you stay invested in stocks, and own the kinds of stocks that fit your taste for risk, a 10% average annual return isn't an unreasonable assumption.

That's right -- the AVERAGE is 10%. But in a five year period, there will likely be significant swings both above and below this level. But 10% is still a reasonable number to use when estimating how your stock portfolio will perform over the long term. In the short term, it's anyone's guess what your portfolio will do.

Another good thing with 10% is that it's easy to calculate in your head -- much easier than 8% or 12%. ;-)

I look at the performance of my portfolio (of course), but a bigger issue for me is the performance of my net worth. This number factors in not only how my portfolio is doing but also how much I'm able to add to my net worth by saving from current income as well as how my home is increasing in value (or decreasing as it is in the current environment). I've averaged a bit over 16% compounded growth in net worth for the past 15 years or so -- a figure I'm pretty happy with. But, as you can imagine, as my assets get larger, it's harder and harder to maintain that level as I'm trying to grow on a bigger base. That said, I certainly would rather have smaller increases on a large number than large increases on a small number. ;-)

Comments

[Anthony]

Dollar-cost averaging is a good way to build wealth over time, but it is nonsense to stay in a market that is going down the tubes. Asset prices across the board are falling--houses, stocks, etc. Way too much money was sloshing around the globe the last five years, and the loose monetary environment encouraged people to take risks that they really weren't prepared to endure should things start to tank, as they are now.

That is why I think it is always a good practice to keep some money in cash. Once stocks and housing decline to an acceptable level, you will be in a good position to buy them back at a discounted rate. That is why I can not understand why anyone would even think about buying a house right now: prices will keep falling because lenders are now much more cautious who they lend money to; that caution has now knocked millions of potential home buyers out of the market. Speculators are dumping inventory, as are new home builders. This thing gets uglier by the day, but when it is all said and done, I fully expect housing prices to be some 40% lower in California than at the peak...in some places, we are already down 20%.

[Aaron]

In reality the market has averaged a little less than 10% over time, maybe closer to 9. I think a large reason that 10% gets used is that it is so easy to calculate that way. Sometimes things are simplified too much.

[Ryan]

Over the last 50 years, the S&P 500 has returned an average return of over 11.5%. It's easy to get out of the market during a slow steady decline, but it is hard to time a volatile market. I definitly would not sell after a 10% correction. If you didn't sell already, it's too late. The holiday season is coming, so I'd expect the correction to reverse itself. Getting out now is suicidal.