Before you plunk down your hard-earned money, it’s nice to know what kind of returns you can expect. That’s only natural. But if you are looking for exact answers and you are talking about long-term investments I have bad news for you. No matter what you do, you can never know the answer until after the fact. Long-term investments extend into a far-distant future that is impossible to predict.
Think back 10 years ago. Did you expect the world to be what it is today? Probably not. When you consider that investment markets have so many moving parts, it’s just impossible to know what is going to be. But don’t despair. That doesn’t mean you shouldn’t ask this question. In fact, it’s critical that you do – and then modify your question as I’ll explain later.
That may sound like I’m talking out of both sides of my mouth. But hang in there. I’ll do my best to make it clear.
Short-Term And Long-Term
Just about the only kind of investment that provides guaranteed returns are bank deposits. When you deposit your money in the bank you know exactly how much return you’ll make and when you’ll get your money back. Perfect! The only problem is that bank products typically lose money for investors when you consider taxes and inflation. Check out the chart below. It shows inflation over the long-run and what it’s averaged over the last 10 years.
So, if you have a CD paying 1% but inflation is running at 2.39% you are already under water – and that’s before taxes. In fact, there have been very few instances in the past when you could actually make money (after taxes and inflation) using a bank CD.
That’s not to say bank products have no place in your portfolio. If you need certainty, the bank is your place. At least you know exactly what you are earning (nominally) and you have certainty.
That certainty is sometimes worth all the tea in China depending on the situation and person. So bank deposits are not a way to build wealth but they have benefits. Let’s move on.
With bonds and stocks, you never know what is going to happen. No matter what you think, feel or hear, this is the truth. Nobody knows. This doesn’t stop people from speculating and guessing of course. In fact many TV personalities make a ton of money doing exactly that. Rest assured, they don’t know any more than you or I do about what is going to happen next week let alone next year.
Please consider the chart above. It displays the returns of the S&P 500 index (left), 3-month Treasury Bill (middle) and 10 year Treasury Bill (right). You can see that over every long-term period, stocks have beaten the alternatives. Does that mean you’ll always earn more than the alternatives or that you’ll always make money with stocks or that you’ll earn at least 7.34% if you invest in stocks for 10 years? Nope.
First, there have been decades where stocks lost money. There have even been periods of 20 or more years where investors made almost no return. Second, if you pick the wrong stocks or funds, you could actually do far worse.
So, understanding all this, why do I suggest that you should consider how much an investment is going to make before you make it? It sounds like I’m saying that you should ask a question to which there is no answer.
Well cousin, that is exactly what I’m saying. And if you are investing over the long-run, you simply have to play the odds. And to do that, you have to ask this question.
In other words if you are investing for 10 years or more, you have a higher likelihood of making more money with equity than with bonds or banks. It’s not guaranteed and you could do significantly worse. But the odds are in your favor and that’s the best you can do. Let’s dig deeper into this.
If your goal is to grow your money in order to have a more secure future, you basically have two choices; you can keep all your money in the bank and almost certainly lose money (after taxes and inflation) or invest using growth funds or ETFs and/or real estate and have a good chance of growing your money. Of course this assumes you are investing for a long time. But again, you have to accept that this is no guarantee of success. You have history on your side. But again, there were cases when investing for growth over the long-run didn’t work out.
This uncertainty doesn’t keep me up at night and it should not bother you either. If you ask the question “how much will my investments make?” modify it a little. Ask instead,” If I want to invest over X number of years, what is the best alternative?” It’s a far easier question to answer and much more actionable. Do you need to know exactly how much your investments are going to earn? Why?