"Long Term Investing - A Perspective Helps"

                                                                                                                                                                      Sydney M. Williams

Thought of the Day

“Long Term Investing – A Perspective Helps”

                                                                                                                                                                      July 14, 2010

Abraham Lincoln once said “you can fool all the people some of the time and some of the people all the time, but you cannot fool all the people all the time.” The stock market seems determined to prove him wrong. Stealth-like and to little fanfare, the S&P 500 advanced 5.4% last week and is up another 1.6% in the first two days of this week.

One of the more depressing truths that one learns after many years toiling in the markets is that most investors are doomed to mediocrity, or worse. Like Sisyphus who was condemned to constantly roll a rock up a hill, individual investors, as a group, appear compelled to buy when they should be selling and sell when they should be buying. Rallies, like major sell-offs, eventually prove too tempting. The market bottomed in early March 2009, after an horrendous slide (down 57%) from its peak eighteen months earlier. But it wasn’t until April 2010 that domestic equity mutual funds received positive cash flows – once the market was up 80%. These behavioral attitudes are well known among professional investors and serve as the best argument against people taking control of their own retirement funds.

In the immediate post-war years major U.S. companies, competing for returning servicemen and women, offered defined benefit retirement plans. Like Social Security, an abundance of workers and a deficit of retirees guaranteed solvency for these plans in their first couple of decades. However, as time passed and as workers demands increased, most plans adopted the aggressive use of higher discount rates, thereby permitting the injection of fewer corporate dollars into the funds’ tills – an early form of corporate sleight-of-hand. The flat market of the 1970s convinced corporate employers that market risk should be borne by employees, so the adaption of defined contribution plans gradually began to replace the old defined benefit ones.

A friend has a son who has been working a city job for a dozen years. His retirement plan allows him to contribute $200 per month to funds of his choosing. Having a “big shot” father on Wall Street, the son sought advice of him. Now, after twelve years of contributions, he finds the value of his assets is less than his total contributions – an uncomfortable and disagreeable situation for a 34-year old man with three children. Now this young man is fortunate. His father is wealthy, but for thousands of others in similar straights the outlook is less promising.

All long term studies have validated the value of stocks as a key component in long term financial planning. The problem, of course, is the phrase “long term”. Following the markets peak in 1929, it took 25 years for the market to recover to its previous high. In the 1970s, it took 16 years. The NIKEI is selling at 25% of where it sold in 1989 and our NASDAQ today sells 57% below where it stood ten years ago. The S&P 500 today is 6% below where it was on July 13, 1998 – twelve years ago. As markets decline, skepticism should give way to optimism for long term investors, but, unfortunately, the opposite tends to be true.

History, with all its faults, remains our best guide to the future. Total long term returns to stocks is about 6%, 50% above “safe” returns embedded in the U.S. Thirty-Year Treasury. Cash is a different animal. A zero return should not prevent investors from holding it, for cash should be looked upon as an option on opportunity, but those who are investing with a fifteen to thirty year horizon should consider equities and be unafraid of the volatility embedded in stocks.

What can be done to help the young and those without financial experience gain some sense of perspective about investing? I am unsure, but certainly a focus on educating our youth on the basic requisites for investing and instilling a sense of personal responsibility would be useful first steps.