After a historically calm stock market in 2017, volatility returned in 2018. In helping clients build financial plans, we start by understanding their goals and objectives. Putting this information together, along with your personal risk tolerance, helps us arrive at our recommended allocation to stocks and bonds. Foundational in all of this planning are the “average” expected rates of return we assume will be achieved over a client’s lifetime. On paper, these averages are neat and tidy and provide us a great view into a straight-line future. While we feel confident in these long-term average return assumptions, it is, nevertheless, an all-together different thing to actually experience the variability of returns annually. Not only is it uncomfortable to see annual return figures like last year that were negative, but even more concerning to some is the experience of getting there, where there was a 17.1% drop from 09/20/2018 to 12/24/2018! The speed at which the market can reprice securities to the downside can be startling and makes great headlines for news outlets.
Coming into 2018, the S&P 500 had not seen a “correction” (marked by a 10% drop in value from a previous high point in the market) since the very beginning of 2016. As can be seen in the chart below, the largest fall from the highs we had experienced since the “Great Recession” of 2008-09 was the summer of 2011, when the market dropped 16.8%. We saw a large drop in the market at the beginning of 2018, and again later in the year. We experienced a correction in the S&P 500, when it dropped 17.1% from all-time highs (see below).
When 2018 came to an end, large companies in America (represented by the S&P 500) were one of the better performing areas of the market, producing a total return of (-4.38%). Some additional total return figures by asset class are listed below:
- MSCI EAFE (International Stocks): (-13.8%)
- Russell 2000 (U.S. Small Cap Stocks): (-11.0%)
- Dow Jones US Select REIT Index (Real Estate): (-4.22%)
- Barclays Global Aggregate Bond Return: (-1.20%)
Even year-to-year the variability of returns is meaningful. The chart below displays annual calendar year returns of the S&P 500 from 1990 through 2018. The green line displays the compound annual growth rate (CAGR) during this time frame of 9.29%.
Over the past 29 calendar years, as noted in the chart, we’ve had 6 negative years in the S&P 500. Though the compound average growth rate has been 9.29% per year, most of the returns for the years shown above are anything but average, with years as bad as 2008, losing 37%, and years as good as 1995, earning nearly 38%. In fact, over this entire 29 year period, we have never achieved the “average” return in any single calendar year.
Investing is personal because it impacts our ability to live the life we want. The way we use money is a reflection of our values and gives us the opportunity to do what is most important to us. Psychology also shows us that gains and losses aren’t felt the same, even when someone ends up in the same place. Making money feels great, but studies show that losing the same amount of money feels worse to a greater degree. The magnitude difference in those feelings is real. One of the values we bring as advisors is helping our clients step back from the here and now. We are here to listen to their concerns, and remind them of our market philosophy and the statistical evidence for positive outcomes over the long term. Additionally, we come back to their financial plan and how it was designed to achieve their specific long-term goals. Standard deviation (the variability) of returns is built into all of our modeling; even historically worst case scenarios are modeled via our planning software. In doing this, we refocus our conversations on client goals and objectives so that we update the plan when appropriate, to make needed changes for someone’s shifting circumstances, and not as a reaction to markets.
Average expected returns are part of every long-term financial plan even though annual returns are rarely average. As markets make movements, we are here to answer questions and help you make decisions all the way through your financial plan.
*Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is not a guarantee of future results. Diversification does not eliminate the risk of market loss.
There is no guarantee investment strategies will be successful. Investing involves risks, including possible loss of principal. Investors should talk to their financial advisor prior to making any investment decision.
All expressions of opinion are subject to change. This article is for informational purposes, and it is not to be construed as an offer, solicitation, recommendation or endorsement of any particular security, products, or services.