Why peer through a peephole when you could be looking out a picture window? That's what we wonder when we see investors peering through a narrow window at just one year’s results. Whether the results are good or bad hardly matters -- it's that the view itself is distorted by the narrow dimensions. By looking through a bigger window – at 10, 20, or 100 years of results – suddenly the big picture becomes much clearer.
It's always wise to ask yourself what window you’re being asked to look through by any provider of financial services. This is true whether it's a website or a mutual fund ad or an individual stockbroker. Ask yourself why they're having you focus on THIS timeframe. If it's 1 year instead of 5 or 10, are they trying to influence your decision by emphasizing only the most stellar results over a shorter period of time? (Hint: yes.)
Even with rolling averages the timeframe can make a big difference. From 1997 to 2007, for example, the S&P 500 returned 8.14% on average. But if you roll forward just one year and look at 1998 to 2008, the results change dramatically to 0.96% on average. That’s an enormous difference based solely on timeframe.
The beginning of the Great Recession, of course, is the main culprit in the second scenario. Two different analysts wanting to make two different points might choose the first timeframe if they wanted to emphasize positive results, or the second timeframe if they wanted to emphasize negative results. It helps to understand this when looking at posted results from any source, because the timeframe can alter the picture quite dramatically.
With regard to our own results, if we wanted to emphasize how well we did, we might choose the 15-year period from 1992 to 2006 during which we actively invested for retirement. During that time the S&P 500 returned 10.66%. If instead we wanted to emphasize how many challenges we faced, we might choose the 15-year window from 1994 to 2008, when the S&P 500 returned 6.44% (thanks again to the Great Recession). But the clearest and most honest picture is usually the biggest one. The longest possible personal investment timeframe we can examine at the moment (from 1992 to 2015) results in an S&P 500 return of 9.04% – which happens to be right in line with long-term historical averages.
Our own feeling is, the bigger the timeframe the better. Let’s say you’re trying to decide what annual percentage to use to estimate future stock market returns in your personal portfolio. You could do worse than taking the longest possible historical view of the stock market. Moneychimp.com has a nifty calculator that allows you to enter 1871 as the oldest possible annual return for the S&P 500. So if we look at 1871 to 2015 (the latest available year), we get 9.05% as the annualized return based on compound annual growth rates.
If going back to the 1800’s seems a bit too extreme, then from 1900 to 2015 the annualized return is 9.7%. The 100-year window (1915-2015) is 10.22%, the 50-year window (1965 to 2015) is 9.75%, and the 25-year window (1990- 2015) is 9.3%.
Based on these results, we would recommend you use 9% as your predicted annual return for future years. That way, your ever so slightly conservative estimate is predicated on what might be called a super widepan view of the market. When you consider how much turmoil this ultra-wide timeframe encompasses – two World Wars, the Great Depression, the Great Recession, and innumerable other scares, upsets, and gyrations – it’s a comfort to realize that, in spite of it all, the stock market still returned more than 9% on average per year.
Taking the longest possible view over the longest possible timeframe cuts down on the noisy chatter from day traders and TV talking heads. It makes you realize that maybe this isn’t such a gamble after all. Maybe, just maybe, the stock market is more reliable over the long run than breathless TV pundits would have you believe.