I recently had a conversation with my grandma about the recent volatility in the stock market. She was bothered by the drop in her investments and said she had a better chance of winning at the casino than "playing" the stock market. I try not to argue with my grandma so I just laughed and agreed to take her to the casino.
Similar to my grandma's feelings, the renewed volatility in the stock market has also renewed anxiety for many investors. We are in the midst of the longest bull market in the U.S. since World War II and it has been over a decade since our last recession. As part of the normal cycle of the economy, we might be headed for a slowdown or recession, but it is important to remember that volatility and market drops are also a normal part of investing.
Over the last 40 years, the U.S. stock market (S&P 500 Index) has had a positive return in 33 of those years and averaged a return of 11.5%. However, during this period the market experienced drops within each of those years which averaged a decline of about -14%.
Since 1926, the U.S. stock market (S&P 500 Index) has delivered an average annual return of about 10%. However, the market has had a return near 10% (between 8-12%) in only 6 of those past 93 calendar years. In most years, the market's return was well outside of that range and deviated by an average of 20%.
Despite this year-to-year volatility, investors can increase their chances of having a positive outcome by maintaining a long-term focus. Imagine a lens on the stock market that gradually zooms out. For any given day, the chance of the market (S&P 500 Index) experiencing a positive return is about 50% (that is similar to gambling). For any given month, the chance of a positive return is just over 60%. For any given quarter, the chance of a positive return increases close to 70%. For any given year, the chance increases to about 75%. For any 5-year period, the chance increases to 88% and for any given 10-year period increases to 95%!
Unfortunately, my grandma did not win that particular day I took her to the casino. While she has won some jackpots (and even has her picture hanging at Prairie Meadows), she admits there is no doubt that she has lost money over the long run. The difference with investing in the stock market is that while losses are going to occur, a reasonably diversified investor will almost always make money over the long run.
The investment represents capitalism at work in the economy and over time, capital markets have consistently rewarded investors. By focusing on things we can control (like having an appropriate asset allocation, diversification, and managing expenses, turnover, and taxes) we can position ourselves to make the most of what capital markets have to offer.
