Last version, I promise. This one is greatly improved. Monthly resolution, goes back to ~1870, added more colors and increased the range of returns.
--Bill
One of the best pieces of advice about investments and finance I have heard over and over again, which many knowledgeable people seem to agree on, is: Don't invest in something you don't understand.
There was once, when I was a child, a cartoon character named Leghorn. That apparently, I learned, is a type of rooster. His lines were often prefaced by something like, "I say ... I say again ..." and he was quite an assertive character, very opinionated, but likeable, as his point of view was rarely if ever 'obscure'.
I say ... I say again ... if people spent half as much time as they do analyzing funds and fees and studies of averages and variances, as they might spend reading up on publicly traded corporations, then they'd certainly see that major averages are almost irrelevant to investor long term returns. The price is the last thing to look at before buying; the earnings are the first.
There is also the factor of optimism v. pessimism, which can tint one's glasses, but just to say again what Buffett said one way: study the business. Good business with excellent products and/or services that are properly managed and whose management are forthcoming in their annual reports and 10k filings showing increasing sales and earnings, and a solid market base with expansion, will increase their sales and their profits and their stock will go up. That's the law, ma'am.
As for funds, I agree, it's obviously to their monetary advantage to convince the individual that it is impossible for her/him to select a portfolio of stocks. I didn't find the chart easy to read at all, and I really wonder how the guy came up with those numbers, but don't really care.
Can someone translate this? The way I read it Easterling is taxing an investor in the S&P from 1961 to 1981 to the tune of around 20% (income tax) of 90% of all the investor's cap gains each year.
For those who counsel buy-and-hold index funds, what is a better assumption? If someone is investing for 20 years, this to me means retirement investing, so the wise investor would let it sit and not mess with it. So how about an assumption of a one-time taxation at the end of 20 years of say 20%?
The discussion does not seem complete without mentioning the better assumption for this point.
Elle Student of the Socrates, Plato and Aristotle of stock investing (Graham, Siegel and Shiller)
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I'm sorry about that. I guess I copied the wrong URL. Hopefully, this one will work. I verified it in a Chrome incognito window.
--Bill
For convenience, the chart in question:
Actually, even taking the table presented - even with some goofy assumptions I'd pointed out earlier (absurd expense ratios, realizing 90% of cap-gains each year!), that chart still shows that the median annual return over a 20-year period was 4.1% - that's 4.1% *above inflation*. That's still a great return. I can't think of anything else which has done anywhere near as well. From memory: real estate somewhere around 1% above, short-term gov't bonds? right around inflation. long-term bonds, either corporate or government: 1-2% above inflation. Commodities? 0% above. And my numbers, again, they're only approx and from memory, do not take into account taxes, management costs, etc.
The raw number looks reasonable and comparable to the ones posted in the NYT graphic: 8.35% - minus (inflation + management + taxes) leaves about 4% at best, especially if using their inflated management and tax costs.
And, yes, investor returns are vastly different from investment returns. Investor returns typically demonstrate terrible timing and performance chasing. People buy funds *after* those fund have great years and then go and sell them after the bad years. Nothing like buy-high-sell-low to destroy one's capital.
That's pretty much how I read it.
It's not necessarily as absurd an assumption as I've been making it out to be. It depends on what you are using the S&P500 for in the example. If it's a proxy for a typical equity investor, then that level of turnover (plus the, to me, outrageously high expense assumption) are actually pretty good. Actively managed equity funds *do* have turnovers of over 100%/yr typically, and
*do* have expense ratios from 1-2%.However, I and many others here have long been advocates of people doing better than that by limiting costs that they can control. We can't control whether an active manager will consistently beat his benchmark for 20 years. We can control our expenses by choosing low-expense fund and we can control our taxes by choosing to hold low-turnover funds. If we do those things, we should be able to beat the returns shown in that chart. Most people don't do these things (and Wall Street gets very much richer off of all those people).
That's basically the assumption that fund companies are now forced to use when they display past performance in their marketing materials. Take a look at, say, the prospectus for Vanguard's Index funds. (The link was huge - just go to Vanguard.com, search for VFINX, click on "prospectus" tab at the top of the page, click on appropriate link).
On page 4, you'll find: Return Before Taxes Return After Taxes on Distributions Return After Taxes on Distributions and Sale of Fund Shares Standard & Poor's 500 Index (reflects no ded. for fees, expense or tax) and 1, 5 and 10 year returns adjusted appropriately for each of those four variations.
They do add the following: Actual after-tax returns depend on your tax situation and may differ from those shown in the preceding table. When after-tax returns are calculated, it is assumed that the shareholder was in the highest individual federal marginal income tax bracket at the time of each distribution of income or capital gains or upon redemption. State and local income taxes are not reflected in the calculations.
For many folks, it's probably pretty close to a wash if you ignore state taxes but put federal at the highest bracket (since most of us are at lower federal marginal rates, but do pay state taxes).
For folks holding in IRAs, 401(k)s, Roth IRAs, etc, the most relevant line is the probably the first (though in some respects, if the money is in a traditional IRA, you are actually getting hit worse if you pull out all the gains or distributions, since you are turning all those long term capital gains into ordinary income).
The problem is that any assumption, no matter how good, will be wrong for almost every individual. The best you can do is choose something useful in the aggregate. And, as I said, even though I made fun of the assumptions these guys made, they are actually probably pretty good if your goal is to show how a typical retail may have done.
To me, one of the big lessons is that with a little work, we should all be able to do better than that.
The fact that EIAs are not regulated by the SEC may be a bit of a red herring. As investment vehicles, they are little different from principal protected notes (PPNs) aka equity linked notes, though wrapped inside an annuity (thus returning less than a comparable PPN). Like PPNs, they are general obligations of the issuer (here, the insurance company); like PPNs (and like traditional fixed annuities), the cost borne by the issuer is typically embedded in the return offered.
The opaqueness seems to come less from the fact that these are annuities than from the inherent nature of this type of debt instrument.
See, e.g.
I agree the chart could be a tool to argue against active management. Active management taking place either via a high expense fund or an individual inclined towards timing or similar.
My objection is that the headline etc. declare the chart is an argument /for/ timing. Crestmont Research's site confirms it is trying to make this argument. 'Don't sail. Row,' argues some of Easterling's literature. Yet laying back and sailing (letting one's investments pretty much sit, maybe with a little steering here and there) is precisely the proven approach.
[snip for brevity; I agree generally with what you said.]Well we differ here. There is reasonable and there is unreasonable. Also failing to compare what one would have had one bought bonds or stuffed one's money in a mattress suggests to me the chart is a scare tactic based in fraud.
I would say one has to do even less work than Crestmont Research asks. 'Don't sail. Row,' argues some of Crestmont's (Easterling's) literature. Yet laying back and sailing (letting one's investments pretty much sit, maybe with a little steering (rebalancing, say) here and there) is the proven approach.
Thanks for sharing your view of the tax assumption. To me the assumption should read something more like, 'If you are one of those danged investors who does not buy and hold and tries to beat the market (but studies show, rarely do), then assume 90% of cap gains are realized each year... '
Perhaps. To be clear, all I want is full disclosure. It's not (to another poster's suggestion) that I don't understand them. It's the inability to pull a prospectus without having to sit through a delightful sales pitch.
I interpret it as showing if you have a holding period of at least 15 years then your SP500 return (adjusted ONLY for dividends and inflation) has been quite insensitive to buying or selling point - it stays around the 5 to 8% range. It would be a little surprising that liquidating on a 50% down day 3/9/09 doesn't matter, but that was probably lost in the granularity. Maybe today's dividends are too low to maintain the stability that was seen in that historical chart.
If so stable, why own bonds except for the first 15 years? Actually Harvard's Andre Perold says traditional 40% bond holdings will expose you to too much volatility
Interesting how the NYT presents this in a format that is arguably quite deceptive -- those who follow Edward Tufte know the NYT's graphics department has some very diligent people working on this stuff so this is a bit surprising. Some of their personal-finance stuff is top-notch. This one, not so much.
What I noticed first is how different this looks from the charts in a yearbook that DFA sends out every year in more or less the same format, which paint a much more positive picture of the index data. The cost and tax assumptions that people have mentioned explain that, and while they might be valid for high-turnover funds and higher-priced advisory/wrap fees it distorts the point about long-term real stock market returns.
[For reasons I do not know, DFA's stuff is stamped adviser use only and not on their site - it's basically that same chart format repeated for a bunch of different asset classes, as well as some balanced mixes of asset classes. For some of the data there are two sets of charts, showing both nominal & real (after inflation) returns.]Another less-than-Tufte-esque aspect of the graphic is showing positive returns in pink hues. We all interpret pink as a shade of red which means "in the red" which means "lost money." Right? But some of the pinks are positive, and a real return of 2.99% annually would be shown in pink...while it represents an increase in wealth/purchasing power. Yellow perhaps, but pink?
Further, having the scale go all the way to figures like 10%+ wastes the upper end of the scale. Real returns of 10% are just off the map really and again, it introduces a distortion by making the top color (dark green) so atypical. Imagine instead a scale shift with more shades of green devoted to the range of 3% to 7%, with the chart dark green for all blocks that were 7%+. Add in index-fund-like investment costs and tax assumptions and the "amended" S&P 500 real return chart is a sea of green with little red. Like you see on the DFA kinds of charts.
So I give a solid D- on that graphic NYT, get thee to back to the Tufte message boards!
-Tad
I see in the article at the link above the following statement: [L]ong-term risk is completely unpredictable. U.S. equities offered identical performance to U.S. Treasury bonds, for example, from 1968 to 2008 if held during the entire duration... "
Do you think the part about 1968-2008 is true? Being a student of Graham, Siegel and Shiller, and so stocks for the long run, this statement leapt out at me.
Using the S&P 500 reinvested dividends etc. calculator at
The note at the bottom of the NY Times page states, "Stock market matrix provided by Crestmont Research... Source: "Unexpected Returns? by Ed Easterling, Crestmont Research, updated by the author." It is nearly identical to the chart at
My sources say about 9% for stocks and only slightly lower for long-term bonds over that period.
But keep in mind how freakish that specific period was. Long-term bonds ended 2008 with...well, what do you even call it? Go look at ticker ^tyx on Yahoo and you'll see what I mean, that insane one-time-ever rush into Treasuries that left them up something like 25% for the year. It's the kind of end-of-year data point that should be thrown out.
And going into 1968 was just before the unwinding of the nifty fifty bubble.
So it's cherry-picking a starting point that is a stock market bubble, and an end point that saw bond rates that only make sense if you're cashing in your IRA to buy ammo and canned goods.
-Tad
One can get a lot of variation just by selecting the exact day of the month in 1968, and the corresponding day of the month in 2008.
To me this raises the issue of what the author above meant when he was talking about U. S. treasury bonds. I multiplied the yearly returns for 5-year treasuries by each other and then computed the annualized return over the 40 years. You're doing something very different.
I cannot tell what you mean by "long term bonds" above. Long term corporate bonds undoubtedly returned more than treasuries, but at more risk. Either way, the author's claim above is about U. S. treasuries.
Ibbotson's data, as reported in their annual SBBI yearbook (Stocks Bonds Bills Inflation). These are long-term Treasuries - I believe the average maturity is 20 years and it's an index, not an actual investment's return. Incidentally, long-term corporates of the same average maturity are shown as being a bit lower over this period.
John Bogle has a piece in today's (3/31/2011) Financial Times that is right on point to this thread. He says that return data that we see presented reflects biases and to be careful - once you factor in things like costs and inflation, actual long-term returns an investor sees may be significantly less.
The NYT data, as has been pointed out, is from a source that may be making an argument against buy and hold of a broad market index in favor of more active management. It seems biased too far in that direction, or at least, there are investors who can argue that the chart doesn't use assumptions applicable to them. The book I was looking at was from a fund company and some would say that means it's biased in favor of showing higher long-term returns, to encourage people to invest.
Where I think this matters the most is in fund advertising. Broad-market index data is almost academic in nature and can be overlaid with whatever assumptions we want. Markets can absorb a lot of money. But it's still routine for mutual funds to tout long-term returns that were actually realized by only a small group of people - because few were invested in the early years, when the fund didn't face the problem of how to invest a truly enormous sum and still beat the market. That cycle repeats itself over and over again, with so many investors in winning funds getting in long after the fund turned mediocre.
-Tad
Totally agree. And the weird thing about that is that the original charts on the Crestmont website DON'T do that. The original charts have losses in red, gains of 0-3% in pink, gains of 3-7% in blue, gains of 7-10% in light green, and gains >10% in dark green.
Now, that also "wastes the scale" as you say, but every grid square does have the actual return number in it.
I can understand why the NYT left the actual numbers out of the squares (makes it very cluttered) but they should have used more color "bins" and a more intuitive choice of colors. Very odd on NYT's part.
-- Rich Carreiro snipped-for-privacy@rlcarr.com
I misread what you were saying -- obviously the original charts do show some gains (0%-3%) as pink which I agree is wrong. I was thinking more in terms of the binning and (incorrectly!) remembered the NYT chart has having fewer color bins than the original chart.
It does not. They both have five color bins. Which is not enough. The NYT chart clearly hews (hues? :) too closely to the original. They should have re-binned (which they easily could have since the source had the specific number for every grid square) and definitely not used anything in the red family for a positive return.
I suppose one might make the argument that on a *nominal* returns graph one might want to color returns less than inflation in a red because you did lose purchasing power, but since the NYT graph (and the original graph it was taken from) was post-inflation it makes no sense to have positive returns in any shade of red.
-- Rich Carreiro snipped-for-privacy@rlcarr.com
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