The above-ground part of the structure is where all the drama unfolds. We constantly hear that markets are overvalued with near-daily concern for market corrections. A quick Google search reveals repeated warnings from seemingly smart people about impending doom.
In August of 2021, Morgan Stanley’s Mike Wilson said the S&P 500 could drop over 10% before the end of the year. In July of 2021, Scott Minerd from Guggenheim Partners lamented that U.S. stocks could plunge 15% in a very rough autumn. In June of 2021, Invesco’s Kristina Hooper cautioned that a broader market was vulnerable to a 15% correction because we were in a precarious period.
Aren’t we always in a precarious period?
What’s so interesting about these headlines is that they are far from brave predictions. Referring back to intra-year declines on our trusty JP Morgan chart, it’s pretty evident that these corrections happen often. Predicting one is a bit like the tarot card reader who sees “a challenge” at some point in your future.
In fact, if you look at the JP Morgan chart I mentioned earlier, over the 41 years it covers, you’ll see the market drops at some point every single year. I go back to the mid-’90s and see a negative 12%, a negative 17%, a negative 19%, even a negative 34%. You get the point.
We should expect a 10%-15% correction on average because it’s a natural part of how markets work. And that’s why a bespoke Wall Street analyst stating “I think we’re going to have a 10%-15% correction” just isn’t a gutsy prognosis. “Danger ahead” stories play right into our biological, ancestral fight-or-flight reaction. On average, in any given year, the S&P 500 is going to have an intra-year decline and the average is 14.3%. Use this to help you breathe through the tumult and drown out the talking heads.
The next type of average is more pleasant to evaluate because it’s all about the market rising. Unfortunately, the sky makes more news when it falls than it does on its re-ascent. Lost amongst all the other headlines is a faint whisper about a 10% long-term average for stocks. Despite the lack of fanfare, that’s a pretty big deal considering bonds have averaged 6% and inflation has averaged 3%. A look at the S&P 500 dividend reinvested price calculator going back 100 years up until the second Friday of September 2021 shows it’s actually at 10.56%. Going back 95 years, the number is 10.3%; 50 years puts it at 10.97%. This means that year after year, the average is 10% per annum.
To put this into practice, as a reminder, the Rule of 72 shows how long it would take for your money to double with a certain rate of return. Take 72 divided by your average annual rate of return. In this case, that’s 10%, which means every 7.2 years, your money would double. If you had $100,000, it would become $200,000. If you had $5 million, it would be worth $10 million. Even though 10% may not sound flashy, it’s an incredibly powerful tool to help solidify your future happy retirement.
In case those time horizons look a little long and intimidating, let’s look at a shorter period. Take a 14-year stretch starting in October of 2007. It was the nastiest bear market (where prices fall by 20% or more) since the Great Depression. It was far worse than what we saw after 9/11. If we invested at the highest point, the S&P 500 was at 1,500. Then came a 56% correction. Brutal. Oh, and by the way, there were three more bear markets after that — 2011, 2018 and that negative 34% in 2020 due to the COVID-19 pandemic. Sounds catastrophic but as I write this, the S&P 500 is right around 4,400. So, let’s do that math. From 1,500 to 4,400, we get an 8% average annual rate of return from a price perspective. Then, factoring in the dividend, as well as compound reinvested dividends, that adds 2% per year to that 8% number. Suddenly, we’re back to our trusty 10%. What this shows is that even when investing in bad timing, over the duration, there isn’t all that much difference in your end dollar amount.
Market corrections and even bear markets are coming. It’s cyclical and natural. But buying into the barrage of scary headlines and doubting the army of American productivity don’t help you plan for your future. I understand that averages aren’t sexy, but they are durable, dependable and effective. The naysayers won’t stop talking, so it’s up to you to turn down the volume.
Confidence and optimism about the future, buttressed with knowledge about the past and a healthy dose of patience for capitalism to function consistently in the United States, is a great way to navigate a turbulent market.