MBA LECTURE RECAP; HOW TO BENEFIT FROM CYCLICAL INVESTMENT MARKETS

By on Mar 7, 2012 in Advanced Investing, Economics, Investing, Mutual Funds, Stocks | 10 comments

This post is a part of Women’s Money Week 2012. For more posts about saving and investing, see womensmoneyweek.com.

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Investment Returns are Cyclical and Unpredictable

LONG TERM HISTORICAL STOCK AND BOND RETURNS

In today’s market, a short term interest rate of 1% is highly coveted and difficult to find. The total return on the S & P Market index during the last ten years is in the low single digits. These returns are much lower than the historical averages of the last century. Where are the stock market returns of 9%? What happened during the first decade of the new millennium to change the market returns and interest rates?

  • Recession
  • Mortgage Meltdown 
  • Sub Prime Lending Crisis
  • European Debt Crisis
  • 911
  • Wars in the middle east
  • Growth of China as a major world competitor

There are always outside forces that play on our economy and investment returns. These forces are called systematic or market risk. This risk is unavoidable and plagues all market participants. No matter how diverisifed your portfolio is, you cannot avoid systematic risk.

What is an investor to do?

In reviewing the stock market returns from 1928 to 2011 one could assume that rates went smoothly upward at 9.28% per year. Actually, that average hides a bumpy road. Returns on stocks over that time period ranged from annual double digit losses to annual double digit gains. Growth in investing is fraught with ups and downs. Not unlike life itself.

Is There a Pattern to Economic Growth and What Does it Mean for You?

Economic growth typically follows a path that looks a bit like a roller coaster, with gradual increases, leading to a high point of strong economic growth, followed by slowing GDP and usually a recession. This type of growth is certain, where the mystery comes in is the “when”. Cyclical growth is a given; but when the trend changes is unknown. 

google images marketoracle.co.uk

 ECONOMIC GROWTH CYCLE

 This pattern means several things to investors. Investing is a long term endeavor. Don’t even think about investing any money you will need within the next 5 years in the stock markets. Stock market returns are way too volatile for short term investing. Knowledge of market behavior will help you stay the course during market fluctuations. Once you understand that the ups and downs in economic and investment returns are normal occurrences, you can learn not to be  surprised when the market tanks for a year or so. In fact expect that every few years, there will be a year with negative stock and/or bond returns.

Accept Ups and Downs in the Market as a Reality and Profit

As an investor here is a simple plan to stay the course.

1. Choose an asset allocation you can live with.

2. Select diversified low cost index funds from a range of asset classes for your investment portfolio.

3. Contribute regularly to your investment account during market ups and downs. In fact, contributing assets in a declining market yields the greatest rewards.

4. Look at how much money you can amass over a few decades of regular investing. Invest $4,000 per year from ages 25 to 65 in a diversified stock index fund with an average annual return of 7.5% and retire with close to $1,000,000.00. Regular investing over time yields great rewards. 

5. You must download my free eBook; 20 MINUTE GUIDE TO INVESTING to learn investing basics and receive a bonus subscription to the Wealth Tips Newsletter.

Following are some of my recent investing articles across the blogosphere;

Women’s Money Week

Women's Money Week 2012 Participant

I’m participating in Women’s Money Week next week. Women have historically been laggards when it comes to finances. This week is about encouraging women to speak up about money, take control of our finances, and reshape our financial future. Women’s Money Week will run from March 5th-11th, 2012 on WomensMoneyWeek.com — coinciding with International Women’s Day.

Following are a few of the participating blogs in Women’s Money Week (I’ll include a few more each day)

Moneylicious
Monroe on a Budget
Moola Saving Mom
Mortgage Free By 30
Mother Miser
Mrs. Nespy’s World
Ms. Money Savvy
Mummy Deals
Musing of an Abstract Aucklander
Musings of a Midlife Mom
My 1/2 Dozen Daily
My Broken Coin
My Dollar Plan
My Journey to Eliminate Debt
My Money and My Life
My Open Wallet
My Pretty Pennies
My Year Without Wasting Money
ND Chic’s Cents
Newlyweds on a Budget
Next Stage, The: Women and Retirement
No More Sheeple
No More Spending
Northern Cheapskate
Northern Living Allowance
Not a Coupon Queen
Not Made of Money
November Sunflower

    10 Comments

  1. Over a 40 year timeframe everything works out except if you started 10 years ago. My asset allocation has helped me weather the stormy years, but I would hate to retire this year. What scares me is will I have enough later when I am no longer adding to my retirement?

    krantcents

    March 7, 2012

  2. A lot of people are not really aware about cyclical investment markets…But I am sure that this can help them…

    Luttchie

    March 7, 2012

  3. I recently wrote a post about the Permanent Portfolio, which is designed to work through all cycles.

    What do you think about that in relation to cycles?

    • Hi John, If you are referring to setting an asset allocation and sticking with it. I think that’s perfectly fine. The only caveat I might add is, as one ages and their life situation changes, one might want to adjust the weights (or percentages) in various asset classes.

      Barb

      March 8, 2012

  4. I am learning so much from your blog. From total newbie I may become an advanced newbie :)

    Zinedine

    March 9, 2012

  5. These factors created economic hiatus to US but which one do you think made the greatest negative impact? Thanks for sharing some info.

    -Elliza

    Elliza N.

    March 9, 2012

  6. @Eliza, I think both 911 and the subprime lending combined with the mortgage meltdown had the largest negative impacts on our economy.

    Barb

    March 9, 2012

  7. My asset allocation has helped me weather the stormy years, but I would hate to retire this year.

    Charlotte Gall

    March 10, 2012

  8. Charlotte, The uncertainty of the markets makes retirement planning quite stressful. That is why the conventional wisdom of reducing exposure to risky equity investments as you age is in place. It’s also helpful to factor in some social security and pension/ 401(K) income.

    Barbara Friedberg

    March 10, 2012

  9. Sure, down markets are an opportunity to test your convictions.

    101 Centavos

    March 11, 2012

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