Investing Isn't for Wusses

A recent MFS survey found 40% of people between age 18 and 30 agreed with the statement, "I will never feel comfortable investing in the stock market."  

Can you blame them? In a way, yes. If these folks stick true to their word, the vast majority will struggle to reach retirement. Favoring cash that returns less than inflation while refusing to touch stocks, many trading near their lowest valuations ever, is financial self-destruction -- particularly for young investors who have decades before retirement.

On the other hand, it's been a zoo lately. The average day in August saw the Dow Jones (INDEX: ^DJI) go either up or down 1.94%. Over the past 30 years, that number has averaged 0.76%. Viewed another way, out of the 360 months in the past 30 years, August was the sixth wildest:

Sources: Yahoo! Finance and author's calculations.

This scares people silly. If you've been lulled into thinking that stocks return 7% to 9% a year (or whatever they teach in school these days), watching a blowout like August makes you wonder whether you've been tricked.

This is especially true since markets have effectively gone nowhere for the past decade (although returns are positive when dividends are factored in). If stocks are supposed to provide good returns, and the past decade has been a flat line, and the past month was an utter crapshoot, then why should you invest ever again? I think that's the attitude many in the MFS survey hold.

But there are reasonable explanations for all of it. Stocks have logged dismal returns over the past decade because that period's starting point is the dot-com bubble. Interestingly, people seem to get this when you flip the scenario around. Whenever I point out that the best time in history to buy stocks was 1933, someone always fires back that, "Well, duh. That was the bottom of the Great Depression." And, well, duh, 2000 was the peak of the Great Bubble. If you use 1995 as a start date instead of 2000, stocks have returned more than 9% a year for the past 16 years. Not bad. 

There's more to the frustration than that, of course. Investors have been told -- nearly assured -- that broad stock market averages return 7% to 9% a year. You read this in textbooks. You hear it from financial advisors. It's been engrained in investors' minds as an expectation benchmark. Own stocks, expect 7% to 9% a year.

But as my colleague Alex Dumortier recently wrote, "The expected return isn't the return you should expect."

This isn't as crazy as it sounds. Over very long periods of time, stocks will earn respectable returns of 7% to 9% a year. But among individual years -- even decades -- those returns will be all over the map.

Going back to 1928, annual stock returns have spent very little time around the 7%-9% range. While the average annual return indeed works out to 7%, most years are either well above, or well below, that level:

Annual Return

Number of Years the Dow Has Returned This Much Since 1928

Less than -50% 1
-50% to -30% 3
-30% to -20% 2
-20% to -10% 10
-10% to 0% 12
0% to 10% 14
10% to 20% 21
20% to 30% 13
30% to 40% 4
40% to 60% 1
More than 60% 1

Sources: Yahoo! Finance and author's calculations.

Out of 82 years, just 14 have fallen into the range that many investors expect to earn. The other 83% of the time, stocks were in some sort of wild bull or bear cycle.

This is simple stuff that most investors know in the backs of their heads, but it drives home a vital point that too often goes ignored: Building wealth -- the kind of wealth you can really count on over time -- can take glacial levels of patience. That isn't anything new. It's worked this way for centuries. Over a lifetime, you'll be tempted by incredible up years, and frustrated by agonizing down years. The trick is learning that the former doesn't mean you're a genius, and the latter doesn't mean you're being duped. Both are just what markets do. And both have to be accepted if you want to earn those magical 7% to 9% annual returns over time that we've come to expect.

Whether vowing to avoid stocks forever is rational depends on how you look at stocks. If you view them as something that should produce stable, steady returns without much volatility -- even occasional bouts of extreme volatility -- then avoiding them might be wise. Warren Buffett once said that unless you can watch your stocks fall 50% without becoming panic-stricken, you shouldn't be investing.

If, however, you accept that putting up with volatility is what allows stocks to be the greatest wealth generator out of any asset class over long periods of time, then recent experiences shouldn't change anything. Investing still makes sense. It just isn't for wusses.

Check back every Tuesday and Friday for Morgan Housel's columns on finance and economics.

Fool contributor Morgan Housel doesn't own shares in any of the companies mentioned in this article. Follow him on Twitter @TMFHousel. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.


Read/Post Comments (17) | Recommend This Article (43)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On September 10, 2011, at 12:57 AM, burningdaylight2 wrote:

    I read a lot on behavoral economics, like "Mind of the Market' by Shermer, and it makes me a better investor. These wild swings are more about mob psychology than about real business fundimentals. It's like a fire in a nightclub where 300 people run for one exit when anyone could get out through the kitchen or throw a chair through a window and hop out. I laugh up my sleeve. These are buying opportunites.

  • Report this Comment On September 10, 2011, at 12:55 PM, daveandrae wrote:

    "The expected return isn't the return you should expect."

    Amen- One should expect to do either better or worse!

    My portfolio's September 10th 2011, year over year investment performance

    Asset Allocation - 100% equity

    Holdings

    Harley Davidson - 31.73%

    McDonald's - 16.82%

    Pfizer - 12.15%

    Dow Chemical - 1.24%

    General Electric - (minus) 2.70%

    Turnover ratio -Negligible

    Total Aggregate Return- 11.85%

    S&p 500 - 4.53%

    As you can see, there is absolutely, positively, no correlation here whatsoever.

    In fact, not only has the this fund "outperformed" the market, but I, the Investor should have "outperformed" my investments, by buying more fund shares when the market price was low, and virtually none at all when the market price was high.

    Unfortunately, journalism, as a whole, is constantly conspiring against the long term investor with major doses of overstimulation. Truth be told, most people probably feel like they need to "do something" all of the time, when in fact, it is inactivity that is driving the largest portion of total return.

  • Report this Comment On September 10, 2011, at 5:49 PM, HomieDontMess wrote:

    Hey Morgan,

    How would those surveyed living up to their vows affect the market. I have read that baby boomers retiring will affect the market because there will less demand for growth stocks and a higher demand for value (probably dividend) stocks.

    If this group of workers does also does not purchase stocks, could that compound the issue? Would this increased lack of demand hurt the price of stocks?

    I don't know a ton about big picture market stuff yet, but was curious to get your (or others') thoughts on this.

    Great article!

  • Report this Comment On September 10, 2011, at 7:46 PM, TMFHousel wrote:

    Hey Homie (ha),

    Recent article on baby boomers/investments:

    http://www.fool.com/investing/general/2011/08/26/baby-boomer...

    -Morgan

  • Report this Comment On September 11, 2011, at 5:43 PM, OutperformOrDie wrote:

    Brilliant, as usual, Morgan.

  • Report this Comment On September 11, 2011, at 7:24 PM, MartinSamuelson wrote:

    Good article. It helps me concentrate on my portfolio's performance compared to the S&P500, rather than absolute performance.

  • Report this Comment On September 11, 2011, at 8:08 PM, portefeuille wrote:

    daily changes of the S&P500 index starting on November 27, 1990.

    http://farm5.static.flickr.com/4102/4800727748_9c2eae09be_b....

    daily changes of the DAX starting on November 27, 1990 (the one from comment #7 above).

    http://farm5.static.flickr.com/4097/4800103845_b7645c313e_b....

    The relative sleepiness of the S&P 500 index was rather extreme in "late 2002 / early 2003".

  • Report this Comment On September 11, 2011, at 8:09 PM, portefeuille wrote:

    the one from comment #7 above

    --------------

    of this post.

    http://caps.fool.com/Blogs/roller-coaster/420613.

  • Report this Comment On September 11, 2011, at 8:17 PM, portefeuille wrote:
  • Report this Comment On September 11, 2011, at 8:23 PM, portefeuille wrote:
  • Report this Comment On September 12, 2011, at 10:12 AM, FutureMonkey wrote:

    "A recent MFS survey found 40% of people between age 18 and 30 agreed with the statement, "I will never feel comfortable investing in the stock market." - Morgan

    Well, since 25% of adult Americans cannot correctly identify what country we won our independence from as England and 20% of adult Americans think the sun revolves around the earth...I'm kind of okay with that. Of course they could always index.

    The sad thing for the 18 to 30 year olds is that they are in their core wealth building years. You don't have to be very smart if your savings are compounded over 40 years instead of 20. Sigh...youth is wasted on the young.

  • Report this Comment On September 12, 2011, at 2:11 PM, TMFKopp wrote:

    Great work Morgan.

    Matt

  • Report this Comment On September 12, 2011, at 3:15 PM, Nahzuul wrote:

    Great article. Your points are well taken. However the assumption that investors have a choice only between stocks and cash is not valid. There are many investment vehicles available to just about anyone with some money to invest. Commodities, income property, a small business, collectibles, bonds and annuities that provide a portion of the stock market gain while containing guarantees against drops in the market come to mind as alternatives. I am sure there are many more.

  • Report this Comment On September 12, 2011, at 3:40 PM, TMFDukenewkirk wrote:

    Hey HomieDontMess,

    Consider one thing. Of those surveyed the vast majority aren't considering that in coming years they will, in fact, be investing in the market whether they are comfortable with the idea or not. Set pension plans provided by places of employment are still going to be invested in the market. Also, a trend likely to continue will be more and more companies providing some form or another of retirement plan that directly injects a portion of their income in the market by way of selection of a given package of mutual funds. So, like those Americans mentioned above who aren't aware of whom you gained your independence from, or that the earth, in fact, revolves around the sun, these Americans surveyed likely also don't have a clue. I bet if you polled the same group, they would not be aware of the fact that they are investing in the market with their mutual funds because they aren't aware those are largely made up of stocks.

  • Report this Comment On September 13, 2011, at 1:13 AM, drborst wrote:

    Morgan, Nicely done, as usual.

    But I'm wondering if you could go a step further and break the myth that Warren Buffett is "the greatest investor ever" He started early, and played big and long, and never spent crazy amounts, so he's made the most money investing, but I'll bet there are a few people who stopped at a few million and said that's enough, now its time to enjoy it... Just a thought.

    DRB

  • Report this Comment On September 13, 2011, at 11:16 AM, TMFSlimShady wrote:

    fantastic article Morgan

    -abhi

  • Report this Comment On September 13, 2011, at 12:16 PM, ETFsRule wrote:

    drborst:

    If you're looking at other candidates for "the world's greatest investor", I would consider this guy:

    http://en.wikipedia.org/wiki/Jim_Breyer

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