The hardest thing about being a stock investor

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Stock market investors face a difficult challenge. While long-term stock market returns are quite attractive, in the short-term returns can be quite volatile.

This volatility can be difficult to stomach at times, especially when accompanied by worrying news flow.

Adding to the angst for Canadian investors can be the volatility of the Canadian dollar, yet it makes sense for Canadians to diversify globally.  It is important from time to time to review the historical evidence to help us manage our behaviour and stick with our investment plans.  Let’s review some of the long-term evidence:

Evidence*

“Long-term stock markets returns are quite attractive”

  • The average annual return of the S&P/TSX Composite index of Canadian stocks over the 60 years between 1957 and 2016 is 9.1%
  • The average annual return of the S&P500 index of large cap US stocks over the 91 years between 1926 and 2016 is 10%
  • The average annual return of the MSCI EAFE index of developed market stocks outside North America over the 47 years between 1970 and 2016 is 9.1%
  • Exposure to small-company stocks and low-valuation stocks has led to higher performance levels than that of market capitalization weighted indices over long periods of time

“In the short-term returns can be quite volatile”

  • While on average the S&P/TSX Composite index has returned 9.1% over 60 years, the actual annual return has been between 7% and 11% only 6 times and has been negative in 17 of those 60 years; 2017 year-to-date performance has in fact been -1.8%
  • While on average the S&P500 index has returned 10% over 91 years, the actual annual return has been between 8% and 12% only 3 times and has been negative in 24 of those 91 years; 2017 year to date performance in CAD has been 3.7%
  • While on average the MSCI EAFE index has returned 9.1% over 47 years, the actual annual return has been between 7% and 11% only 2 times and has been negative in 13 of those 47 years: 2017 year to date performance in CAD has been 9.4%

“Adding to the angst for Canadian investors can be the volatility of the Canadian dollar”

  • The average real (inflation adjusted) return in Canadian dollars of holding US dollars over the the 47 years between 1970 and 2016 is negligible at only 0.5%
  • However that return has only been between -3% and +3% in 21 of those 47 years and has been less than -5% or greater than +5% 21 times
  • Year to date in nominal terms the Canadian dollar has appreciated nearly 8% against the US dollar

“Yet it makes sense for Canadians to diversify globally”

  • Since 1991 the average return of the S&P/TSX Composite index of Canadian stocks has been 8.7% and the standard deviation (riskiness) of returns has been 14.1%
  • Since 1991 the average return of a globally diversified portfolio of large cap, small cap and value indices tracked by Dimensional Fund Advisors has been higher than that of the Canadian index at 10% while the standard deviation of those returns has been lower than that of the Canadian index at 11.4%

Conclusion

Long-term market returns are attractive and it makes sense to hold a globally diversified portfolio to both enhance returns and reduce risk.  However the only way to achieve those attractive long-term returns is to fasten your seat belt and ride through the occasional market downturn.

We know for certain that downturns will occur; we just don’t know when; unfortunately the evidence also shows that attempts to beat the market through security selection or market timing are futile.  Staying the course and managing our own emotions and behaviour during market volatility is challenging in the short-term but worth it if you want to give yourself the best chance of having a good investment experience over time!

*Data from S&P, MSCI and Dimensional Fund Advisors

Graham Bodel is the founder and director of a new fee-only financial planning and portfolio management firm based in Vancouver, BC., Chalten Fee-Only Advisors Ltd. This blog is republished with permission: the original ran on September 5th, here.  

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