If I ask you what you will be doing 10 minutes from now, you can probably give me an accurate answer.
But what if I ask about your plans in 10 months? It’s unlikely that you know for certain. What about 10 years from now? That would be almost impossible to answer, right? You know far more about the present than the future.
Ironically, the exact opposite is true in the world of investing. Investors have no idea what tomorrow will bring, or the next 6 months, or even this year. But over long time horizons, investment returns are increasingly predictable.
This graph shows 63 years of stock (green) and bond (blue) returns. The brown bar is a 50% stock, 50% bond portfolio. Notice the important details:
Over short periods of time, returns vary dramatically. Stocks are much more volatile than bonds, and a 50/50 portfolio greatly reduces volatility.
With a one-year investment horizon, the range of stock returns is very wide, from a 51% gain to a 37% loss.
Over long investment periods, risky investments become far more consistent and the range of returns is more narrow.
Over a five-year horizon, things look very different. The worst rolling five-year period delivered a 2% loss for stockholders, and a 1% gain for a 50/50 portfolio.
Over 25 years (a time period more appropriate for young investors), stock investors do even better. The range of returns narrows further – from a maximum gain of 18% per year to a worst case gain of 6% per year.