Why Would I Invest in _________?

If we were to take a year-end snapshot of the performance of all types of investments (stocks, bonds, real estate, cash), there would always be an array of winners and losers. Sometimes stocks will outperform bonds by a wide margin, but the opposite has also been true. The dangerous part about looking at such a list, is that we might be tempted to wonder why we would own the assets that are at the bottom. I have often been asked: Why would I own bonds that return 3% when the stock market is up 20%? Or, why would I own emerging markets stocks when they are down 25% this year? Why would I invest in ________, when the returns of _________ are obviously better?

This is where a visual tool can help provide perspective. For 20 years, the research firm Callan has produced what they call a Periodic Table of Investment Returns that tracks the performance of asset classes in ranked order year by year.  They named it the Periodic Table because the colorful quilt resembles the Periodic Table of the Elements that successfully scared me away from Chemistry twenty years ago.  You can view additional details about the table by clicking on the image:

The time frame of the last twenty years is very interesting because while the stock market is much higher today than it was in 1999, that time period also includes two bear markets.  That allows us to see how risk and safe assets performed over different cycles.  I have been using the Table and some of its variations more and more in front of investors to emphasize a few key points about investing that make sense visually:

  • The pattern of returns is random. There is no rhyme or reason to one asset performing better than another in any given year.  Trying to pick the asset that would be on top each year is a fool’s errand.
  • Diversify by owning some of each asset. Your job is not to pick the winners, it is to find the blend of risk and safety that works for you.
  • The most frequent last place finisher?   7 out of 20 years.  The only year it was at the top was 2018.  Cash was also the only asset over the last 10 years to never have returns higher than inflation.
  • The most frequent winner(s)? Real estate and emerging market stocks. They got there via roller coaster, though.  They are the only assets to have one year drops of over 40% (2008).
  • If, at the end of 2017, you had put your money in the best asset (emerging market stocks) and moved out of the worst asset (cash) you would have lost 15% in 2018 and finished at the bottom of the rankings.
  • Last year for the first time in the study’s history, the best performing asset class, bonds, returned almost exactly zero. Everything was flat to negative in one year.  Yes, it can happen.

This year and every year, it is impossible to take the information from the immediate past and apply it to the immediate future.  It will lead to frustration at least, and almost certainly lower returns.  The Callan Periodic Table challenges us to understand the random nature of returns and embrace the need to be diversified across many different investment options.  Diversification, along with costs and our behavior, is one of the few things that we can control as investors.

Why would I invest in ______, when it had such a bad month/year/decade?  Because as the cycles change each asset will have its day in the sun and provide necessary ballast when the leaders return to the pack.

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