Opinion Editorial | |
| Monday, September 14, 1998 | |
Long-Term Stock Yields Impressive |
Recent wild gyrations in the stock market have given ulcers to many stock
market professionals. Average investors, however, have largely remained
calm. Indeed, rather than selling in a panic, as many of the pros did,
the amateurs saw the stock market's fall as a buying opportunity. And they
were rewarded last week when the market unexpectedly rebounded. What this illustrates is the importance of taking a long-term view toward
investing. On a day-to-day basis the stock market moves up and down for
reasons that are unfathomable. One can read analyses in the next day's
paper attributing the market's moves to some economic statistic or other
factor. But in truth, these are usually after-the-fact rationalizations
for actions that in reality are incomprehensible. However, while the market's short-term fluctuations often make no sense,
its long-term movements are in fact perfectly predictable. In the long-run
the stock market reflects the profitability of American corporations, which
in turn are a function of productivity and growth in the economy. The historical record indicates that over time investments in stocks
have been extremely profitable.
One reason for these high returns is that investors must take risks.
Some stocks go up a lot, others go bust; some years the stock market skyrockets,
others it tanks. In down times, the price of taking risk can be painful.
But there are compensating rewards over time. The most risk-free investment
one can make is in U.S. Treasury bills and the return on these has been
just 3.8 percent per year, barely above the inflation rate. Investing in
Treasury bonds gave investors 5.6 percent on their investments. What happens when you translate these different rates of return into
actual investments? A $1 investment in small company stocks in 1925 would
have risen to $5,520 by 1997 (see figure).
The same investment made in 1950 would have risen to $636 and one made
in 1975 would have increased to $51. This is about twice as well as one
could do investing in large company stocks. The reason is that small company
stocks are riskier. But over time any investment in stocks will typically
exceed those on bonds by many times. Wise investors will resist the temptation to avoid risk and recognize
that higher long-run returns will compensate. Especially for the young,
stocks are still the way to go. Source: Bruce Bartlett, senior fellow, National Center for Policy Analysis,
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