Are stocks safer in the long run? This and many other interesting questions came up during my MOOC (Massive Open Online Class) on retirement planning, officially called The Finance of Retirement & Pensions. I was one of thousands worldwide “sitting in” on a class taught by Joshua Rauh, professor of finance at Stanford University’s Graduate School of Business.
A highlight for me was when Prof Rauh (relatively young and dapper) asked revered economist Bill Sharpe: are stocks safer in the long run? As a lead in, Prof Rauh gave us the survey results: Most everyone watching – 74% percent –answered yes, stocks are safer in the long run.
Having worked as a financial journalist for 20 years, I know why 74% said yes. Most of our adult lives, stocks’ long-term results have been good, except for 2000 – 2012. And “go long and prosper” has been the mantra of the financial media. As Louis Rukeyser, my boss for 10 years liked to say: in the long run it’s not smart to sell short the U.S.
But strong belief in U.S. entrepreneurship, ingenuity and our capital markets isn’t foolproof defense against the unforeseeable. So I now turn to Bill Sharpe’s take. But first a little background.
William Forsyth Sharpe, 79 years old, won the Nobel Prize for economics in 1990. He’s one of the fathers of modern portfolio theory and did some of his key work while working at the University of WA from 1961 to 1968. The Sharpe Ratio, which adjusts returns based on the risk involved, is still widely used today by LNWM and most other investment managers.
Does Bill Sharpe think stocks are safer in the long run? The short answer is no. His actual response:
“I should tell you this statement has driven me crazy for 50 years. That’s 5-0. It comes from a really misleading kind of analysis…. Here’s the simple idea. Look and think about putting $100 in stocks today. It could be a lot worse if you hold for 10 years, than if you hold for one year. What matters for risk is, how bad can it be?”
Says LNWM CIO Bob Benson: ” I agree with Bill Sharpe. When looking at the distribution of possible outcomes, the risk increases over time.”
But it’s difficult, adds Bob, to explain this to investors/clients, since stock market returns have been positive over time. Still, that positive result was only one path out of many. “Moving forward from today, returns may follow a very different path,” he points out.
It’s because of the potential for “a very different path” that LNWM believes in staying diversified and rebalancing, especially now that the S&P 500 is up close to 30% in the past year.
What do you think? Are stocks safer in the long run?