Modern stock market performance reporting began in 1926. The stock market data in this article is labeled S&P 500, although strictly speaking, the S&P 500 didn’t exist as an index in 1926. However, Standard and Poor’s was in business then, and researchers have constructed a consistent data series beginning at that time.
Similarly, there is data beginning in 1926 for U.S. government bonds with 20-year maturities. These are longer maturities than we might prefer, but we can use only the data we have. Let’s look at stock and bond returns since 1934 to see what patterns emerge.
We will use this information and begin our analysis in 1934, covering the 90 years of monthly data from 1934 to 2023.
Our primary interest is stock and bond investment performance. We’d like to know what stocks and bonds returned since 1934, and how steady those returns have been.
Why do we want to know this? Studying the ups and downs of past stock and bond markets can help us understand what we might expect in future markets, especially in terms of the variability of returns.
The simplest measure of return is the average.
Calculating average returns
There are at least two ways to calculate average returns. One is the arithmetic average. We simply add up all the monthly returns, quarterly returns, or annual returns and divide by the number of months, quarters, or years.
The second is called the geometric average. This is the return that compounds to the total return over the span we are studying.
In this example, we start with a $100 investment. In the first year, suppose a ten percent increase. The value of the investment decreases by 40% in the second year. In the third year, a 30% increase reverses our hypothetical investment’s direction.
Calculating the arithmetic average over three years:
10% – 40% + 30% = 0%
0% ÷ 3 = 0%
$100 remains $100 after three years in this example, but is that accurate?
The next tables illustrate the actual returns and the geometric average (about -5%) over three years:
$100 becomes $85.80 after three years using the more accurate geometric average figures.
As you can see, the geometric average is much more precise than the arithmetic average, so I will use it from now on.
Here are the monthly, quarterly, and annual returns for stocks and bonds.
- The average return gets larger as the time period lengthens. Investments have more time to grow.
- Average stock returns exceed (are approximately double) average bond returns.
These are the findings for returns in dollar terms. While it is true that we spend dollars, 2023 dollars don’t buy as much as 1934 dollars did. If we adjust the returns for inflation, producing “real” or purchasing power returns, the results are not quite as impressive.
Comparing nominal (dollar) and real (after inflation) returns shows that recognizing inflation has a considerable impact:
There is a larger percentage reduction in returns for bonds than for stocks. Real bond returns are only about a quarter of nominal returns (1.58%/7.19% = .22), while real stock returns are nearly half of nominal stock returns (5.19%/11.00% = .47)
How much would investing $100 in 1934 yield today? The chart below shows the results.
The answer depends on whether you want to impress your friends or you want to know how much your money would buy.
For your friends, you can say that if you started with a $100 stock investment in 1934, you’d have $1,199,360 right now. Terrific! But here’s the $1.2 million question: How much 1934 spending power would that $1.2million get you in 2024?
Only $51,611. Kind of a letdown, isn’t it? And you thought you knew an easy way to become a millionaire! On the other hand, you’d have multiplied your spending power by 516 times – that’s a lot.
The story for bonds is very similar. That same $100 invested in bonds in 1934 would have turned into $9,493 today, but that would only be worth $408 in 1934 purchasing power. You’d have increased your purchasing power by about 4 times.
What have we learned so far?
- Real returns are (much!) lower than returns reported in dollar terms for both stocks and bonds.
- When we adjust for inflation, the percentage reduction in bond returns is much larger than for stocks. At one year, the reduction in bond returns is 70% vs 35% for stocks.
- The return advantage of stocks over bonds was much greater in purchasing power (real) terms than in dollars (nominal).
Next time, we’ll look at the correlation of stock and bond returns and the effect of inflation on each one.
The foregoing content reflects Rick Miller’s opinions and is subject to change at any time without notice. Content provided herein is for informational purposes only and should not be used or construed as investment advice or a recommendation regarding the purchase or sale of any security. There is no guarantee that the statements, opinions, or forecasts provided herein will prove to be correct.
Past performance may not be indicative of future results. Indices are not available for direct investment. Any investor who attempts to mimic the performance of an index would incur fees and expenses which would reduce returns.
Securities investing involves risk, including the potential for loss of principal. There is no assurance that any investment plan or strategy will be successful.
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