How -5.57% Annual Returns Outperform 3.22%

From 1929-1934 the S&P 500 averaged -5.57% annual returns…

From 1973-1978 The S&P 500 averaged 3.22% annual returns…

Which outperformed?

Think about it. One gave you positive returns, not great but at least positive. The other gave you negative returns. Gotta be a trick question right?



And you are right, it is a trick question.

If you invested $100,000 at the beginning of 1929 you’d have $69,950 after those 6 years of investing, NET OF INFLATION.

The same $100,000 invested in 1973 would be only be worth $63,363 net of inflation at the end of 1978.

Let me ask you the question again, which investment did better, the one made in 1929 or the one in 1973?

And this leads me to my point. If you are not factoring in inflation in your returns you are leaving critical information out of the scenario.

The facts are the ONLY thing that matters is your purchasing power ; How many goods can you buy with a $1. Nominal returns, i.e., not including inflation, are essentially worthless because what good does having $100,000 do if next year I can only buy $50,000 of goods with it?

So, let’s take a look at those most horrific years of the Great Depression. Notice the three years of 1929, 1930 and 1931? HUGE declines, back to back to back. OUCH!

$100,000 invested at the beginning of 1929 would have been worth all of $69,950 after inflation, a compounded annualized return of -5.78%.

Now, let’s take a look at the table for 1973-1978. Net of inflation you’re compounded, annualized returns were -7.32%.

Even though the average return was actually POSITIVE for this 6 years, when inflation is considered you lost MORE money than you did during the GREAT DEPRESSION! Let that sink in a bit.

The 70s were actually worse for investors than the Great Depression! Are you amazed by that? I know I am.

In fact, look at the year 1974. That was a horrendous down year, almost 27% to the negative, right? But when inflation of over 11% is factored, you actually lost well over 1/3 of your capital. In fact NET of inflation, this year was worse than even 2008.

Interestingly enough, look at 1931. A down year of 44.2%. HORRIBLE! Yet factoring inflation you’d have done better in REAL dollars in 1931 than you’d have done in 1974 AND 2008. Crazy, right?

And thus, you see my issue with just using previous year returns to give us some meaning for future retirement planning projections. From 1871 through 2018 the S&P 500 averaged 10.69%. That’s great, no? After all, that means we’re doubling our money every 7 years or so.

But what if our cost of goods is doubling every 5 years? Is 10.69% still good then?

From 1999-2018, the S&P 500 averaged 7.14%. In this case, we’re only doubling our money every 10 years or so. Not a big deal, doubling your money ever 7 years vs. doubling your money every 10. Shouldn’t be much of a difference, right?

Well, $100k invested over 30 years at 7.14% would be worth $791k, not too shabby if I may say.

However, that same $100k invested over 30 years at 10.69% is worth over $2 MILLION!!! Quite a difference in just those 3 extra % points of gains each and every year.

But even that doesn’t tell us the WHOLE STORY. What did inflation do over those time periods? We need to know that to see our true value of that $ 2 million. It might have actually LESS purchasing power than the $791k. It ALL depends on inflation.

Well, that’s not totally correct. Taxes play a huge role in this too. Now, I didn’t take the time to figure out tax rates here, simply because the tax code is all over the place and frankly I’m not that much a data geek to do it. (Actually I am, so I probably will now that I’ve mentioned it.) But for this exercise we’ll leave out taxes in the overall equation.

So, what’s the point? Well, when I’m running my research and trying to find that elixir of a retirement planning solution, I need to be able to see if one can survive the 70s in my back-testing.

Surviving the 00s of this century is good, surviving the Great Depression is good too. But surviving the 70s is CRITICAL for any financial planning scenario, which MUST include inflation.

And this is what I’m working on as I put together my next book. If you can survive these three calamities, you’re probably going to be in a good place in your retirement projections.

So, stay tuned!!!

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