Average Returns for Your Portfolio
Most of us don’t strive to be average. However, the average returns that are frequently quoted for value and growth stocks, bonds, and balanced portfolios are sounding pretty good right about now.
In fact, it may seem like a myth that stocks have returned over 10%, Bonds 5-6%, and balanced portfolios around 8-9% over long periods of time. It is not a myth; you just have to consider time horizons that are much longer than our brains are used to considering. Most people think of their lives, priorities, and goals in terms of weeks, months, or possibly even a year at a time. Thinking in terms of decades is not natural. The common way that people predict the future is to look at recent experience and then extrapolate that trend, expecting it to continue into the future. The reality is that financial market trends reverse themselves frequently and abruptly, making it hard to see any pattern in the time horizons that most investors consider.
Returns are almost never “average”:
The other reason that these “averages” seem suspect is that market returns in any given year are rarely even close to their long-term averages. It seems reasonable to assume that stock and bond market returns (plotted for each year) would have a few outliers, but the majority of returns would be clustered around the average. That is not the case. For example, the average return for stocks during the 89-year period from 1926 to 2014 was 10.2%. How many times during those 89 years do you think the annual return fell between 8 and 12%? Incredibly, that only happened 6 times! The average return for bonds was 5.4%, and the actual return each year fell between 3 and 7% only 27 times.
So what is the takeaway here? Don’t expect average. Over time, you will likely get the average returns that you have projected (and need) to make your retirement plan work. Yet, in any given year, that may be hard to see. Throughout your life, you will likely see long periods of better than expected returns and long periods of below average returns.