How to Win Any Argument About the Market

by Ben Carlson, A Wealth of Common Sense

It’s simple really. Just change the time horizon so it suits your stance.

I’ve seen this play out over everyone’s favorite yellow metal the past few years. Gold is down almost 40% since it peaked in 2011. But it’s still up almost 350% since 2000. Although since 1980, on an inflation-adjusted basis, it’s basically flat. However, since the early-1970s it’s up over 7% per year (or about 3.4% after inflation).

See what I did there? There’s ammunition for both sides of the gold trade to use to their advantage.

Anytime an investor cites an exact time series with precise start and end dates to drive home their argument, it’s a good bet that they weren’t invested over that time horizon. The amount of data available to investors right now is both a blessing and a curse because you can always find something that adds to your confirmation bias.

Over the last 3 years the S&P 500 is up over 21% per year, while the 5 year returns are almost 16% annually. It’s been on fire. But if you go back 15 years to include both the tech bubble and the Great Recession, the S&P is only up around 4.3% a year.

Extend your time horizon to 1980 and the performance is almost 12% per year. From 1928 to 1979, annual returns were much smaller, at around 8% per year. So it must be all about the 1990s bubble right? But that 8% figure includes the Great Depression and enormous stock market crash from 1929-1932 that saw stocks drop over 80%. Starting in 1933 improves annual performance to 10.7% a year from 1933-1979.

How about the 1966-1982 period where the market went nowhere? The total real return of the S&P 500 was 0%. Extend your time horizon from 1966 to 30 years and the total real return jumps to 5.3%, pretty close to the long-term average. This is because the horrible returns of the first 17 years were followed by spectacular returns over the next 13 years.

If you think about it, there’s no way that stocks return 9.6% a year over the entire 1928-2014 time frame if we didn’t have the Great Depression, the 1966-1982 sideways grind, the tech bust or the Great Recession. Those periods of risk are a necessary evil.

Japan is a perfect example of this at an extreme level. Japanese stocks have returned -0.7% per year since 1989. Yes, negative returns for more than 25 years. This is the ultimate example people use to play devil’s advocate against buy and hold investing. But since 1970, Japanese stocks are up 9.3% per year. This is because they rose nearly 23% on an annual basis from 1970-1989. That’s how huge the bubble was in Japan. The long-term returns are close to that of the U.S., but they were just extremely front-loaded.

Your timing as an investor (something you have no control over whatsoever) can almost completely explain how you view the markets.

It’s very easy to cherry-pick historical data that fits your narrative to prove a point about the markets. It doesn’t necessarily mean you’re right or wrong. It just means that the markets are full of conflicting evidence because the results over most time frames are nowhere close to average.

If the performance of the markets was predictable over any given time horizon, there would be no risk.

Further Reading:
GLD’s Fall From Grace
Torturing Historical Market Data
Was the 1966-1982 Stock Market Really That Bad?

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