Several recent news stories have highlighted the fact that bonds outperformed stocks for the 30 years ending September 30.
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This represents the first time since the Civil War era that this has occurred over a 30-year timeframe. This is interesting data and frankly not all that surprising. A few observations to consider:Stocks are represented by the S&P 500 index of large-cap U.S. stocks. This is not the entire stock universe and does not include small- or mid-cap domestic stocks. Nor does it include foreign equities. All of these categories have had periods of outperformance over this timeframe.Bonds have had a historic tailwind over the past 30 years. I can recall interest rates in the mid-double digits in the late ’70s and early ’80s. Compare this with the record-low interest rates of today. Bond prices rise as interest rates decline, and this fact has rarely come into play as significantly as in the past 30 years.A 30-year timeframe is just a snapshot of two data points. Different investors buy and sell holdings at different times and have differing holding periods.The actual comparison was between long-term treasuries and the S&P 500. The return on the bonds was 11.5 percent per year; the return on the S&P 500 was 10.8 percent annually. The key point is that bond returns were well above average vs. stock returns being well below average during this period. The arithmetic average annual return for long-term bonds was 5.28 percent from 1928-2010, compared to 11.31 percent for stocks, according to the Federal Reserve Bank of St. Louis.This further illustrates the value of diversification. Conceivably, an investor who had made an equal lump sum investment into index funds following these two indexes would have earned a return somewhere between the returns of stocks and bonds for this period with less risk than holding stocks only.
The bigger issue is not what these two asset classes (or any other asset class) did over the past 30 years, but rather what your expectations should be for the next 30 years or any other future holding period.
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Stated another way, how much will the next 30 years (or 10 years or 20 years) look like the last 30 years as used in this comparison? A few thoughts:Long-term bonds would seem to be a risky bet going forward if for no other reason than the historically low interest rates. While the Fed seems committed to keeping rates low for the next couple of years, at some point it would seem logical that they will rise. Let’s use the Vanguard Long-Term Government Bond Fund (VLGIX) as a proxy. The fund’s effective duration is 14.2 years. What this means is that all things being equal, a 1 percent rise in interest rates would result in a 14.2 percent decline in the value of the fund. A 2 percent increase would result in a decline of 28.4 percent, and so on.A real portfolio is rarely made up of one asset class. Your investments should generally reflect an allocation and level of diversification that provides the right combination of expected growth and a level of risk that is appropriate for you to achieve your financial goals over an appropriate timeframe.Portfolio allocations should be evaluated, and if needed revised, over time in light of your progress toward your goals, changes in your goals and/or your overall situation, and other factors.
While studies like this are interesting and instructive, they should be taken with a grain of salt. I have no idea which asset classes will be the top performers going forward. It is always best, in my opinion, to invest according to your situation and not to worry about trying to outguess the financial markets.
Roger Wohlner, CFP®, is a fee-only financial adviser at Asset Strategy Consultants based in Arlington Heights, Ill., where he provides advice to individual clients, retirement plan sponsors, foundations, and endowments. He recently cofounded Retirement Fiduciary Advisors to provide direct investment and retirement planning advice to 401(k) plan participants. Follow Roger on Twitter and LinkedIn. Roger also blogs at Chicago Financial Planner.