Just simple question. The evidence on the equity premium is persistent and pervasive.
If I remember correctly, in the U.S. stock and bond markets of the 1800s there were very long stretches when bonds had higher returns than stocks. Doesn't this mean that there was no equity premium over these periods? What does it mean, really, for something to be "persistent and pervasive", if it doesn't happen during the investor's lifetime?
It is often forgotten that in the 1900s the gold standard was abandoned across the world. This has affected the value of bonds everywhere, as it caused unexpected inflation in all the affected countries. So, testing for a property around the world does not eliminate the fact that a very similar unexpected event happened everywhere.
Do you really know that stocks will beat bonds in the next 5, 10, 20, or 30 years? I do not think that anybody
The law of supply and demand informs us that stocks must be priced often enough
so that they will return more than short-term bonds, otherwise, investors wouldn't buy them and their price would drop. But, longer term bonds have risks, too. Which is more important: stock market risk over a 30 year period, or inflation risk for a 30-year nominal bond? Why shouldn't markets strive to price assets relative to their perceived risks?
Note that I refrain from using statistical terms such as "expected returns". I am not a statistician and I do not know the exact and complete definition of this term.
If I look at the past returns of Canadian stocks and bonds over the last 54 years (1961-2014
), I get:
Bonds: annualized return 7.761%, Standard Deviation 7.150%
Stocks: annualized return 9.684%, Standard Deviation 16.282%
50/50: annualized return 9.104%, Standard Deviation 8.775%
We must be very careful, here. 1961-2014 is an arbitrary period; it just happens to be the longest period for which I have data. For an investor with a 30-year horizon, this is less
than 2 data points!
Yet, in various sub-periods, bonds outperformed stocks, and in others, stocks outperformed bonds. Even for long periods. In the 30-year period 1979-2008, for example, bonds outperformed stocks. Was there an equity premium, over that period?
So, no, I do not predict that bonds or stock will outperform in the future. I only predict that they will continue to have different risks and behavior, and that investment-grade bonds are most likely to pay coupons and principal back*. I have trouble predicting future stock growth and dividends. I have no crystal ball.
* There is still a possibility that another country could invade Canada and all stocks and bonds loose their value.
larryswedroe wrote:And you are betting on it continuing. Are you predicting the future? If rational, and I assume you are, you are predicting a premium as the mean (expected) but with a very wide dispersion of potential outcomes also being considered and you are willing to live with those risks in return for the "expected" premium.
I do not
give you permission to misrepresent what I do or think. You are wrong. I do not
bet on the fact that stocks will return more than bonds. Actually, my portfolio is divided 50% in stocks and 50% in bonds. I could have added more stocks, knowing that it would affect the volatility of my portfolio and increase the probability of both higher
future returns. Stocks do not offer any specific guarantee of future performance.
If you can tell me which Canadian common stock certificate I could buy that contains an explicit future return promise, I would be very grateful.
that my stock ETFs will pay me regular distributions (based on dividends) and have a volatile NAV. I do also know that my bond ETF will pay me regular distributions (based on coupons) and have a less volatile
* NAV than my stock ETFs. The fact that both my stocks and my bonds pay me "rent" for borrowing my money suits me. I do not like to lend my money without receiving rent for it. That's why I don't invest in commodities.
* Thanks to mathematics, I know that the volatility of my bond ETF is limited.
I can look at past data and learn about history (Bernstein's The Four Pillars of Investing
), but I have no illusion about it: past data is helpful to improve my understanding of investment behavior
and various risks
, but it does not predict future return or outperformance
larryswedroe wrote:The other factors have the same type of persistence and pervasive evidence across time, economic regimes, countries, regimes, and even asset classes. The reasons to consider investing in these factors are the same for investing in beta, the historical evidence of persistent and pervasive premiums backed by logical risk/behavioral explanations, and implementable after costs.
Amazingly, in a different thread, you explained to me something to the effect that the size factor did not exist in Canada and that it disappeared in the U.S. (My understanding could be inexact, here). How can you know that other factors won't appear and disappear, in various future investor lifetimes, too?
I do not wish to "bet" my money. I am willing to expose it to a reasonable amount of risk in both the bond and stock markets, while being paid a "rent" to do so. I rely on William Sharpe's theorem to simply aim at getting my fair share of the return of these markets* using low-cost total-market ETFs (there are no sufficiently low-cost
equivalent mutual funds in Canada).
* I do not expect a "rebalancing bonus". I am a fan of investing new money into lagging assets (below target allocation) and only rebalance actively once a year or two, to control the volatility of the portfolio.
I do not think that all other investors should invest the way I do. If an investor believes in factors and that concentrating parts of his portfolio into them can improve the outcome, I think that this investor should invest accordingly. What I do
object to, is presenting probabilistic
future outcomes as sure
Bogleheads investment philosophy |
Lifelong Portfolio: 25% each of (domestic/international)stocks/(nominal/inflation-indexed)bonds |