One of the most frequently quoted time periods in finance is the ambiguous “long term”. We’re all supposed to be long-term investors, and studies show that “over the long term” results will be desirable. This sounds nice, but what is this mythical “long term”? Is there a defined period of time that qualifies as “long term”? Tom and Brendan dig into what “long term” is and why it’s important to be realistic about investing time horizons on this week’s Mullooly Asset Management podcast.
The meaning of long term really comes down to you and your personal definition of it. What’s considered long term by one investor may not be by another. All sorts of variables like age, risk tolerance, and goals go into determining your version of “long term”. Market theories and studies are almost always based on a specific period of time. Sometimes that period is 10 years, 20 years, 30 years or more. A commonly cited period of time is “1929 through today”. For the record, that’s an 86 year time period. This long a time period is good at showing us very “long term” concepts, but bad at showing us realistic results that individual investors might achieve. Very few, if any, investors actually have a time horizon of 86 years. As Ed Easterling wrote in his excellent book Unexpected Returns:
“Most investors do not invest over 75 year periods. Shorter periods of time- a decade or two- are more relevant for most investors.”
Investors must consider the reality that long term average returns hardly occur during shorter term periods, like those experienced by most investors. Over a 75-85 year time horizon, the picture painted by stock market returns looks beautiful. Buying and holding through market turmoil sounds great on paper. However, over 10, 20, and 30 year time horizons (periods that real investors might actually expect to invest over) we’ve seen everything from substantial returns, to disappointing returns, to negative returns.
Cullen Roche of Orcam Financial recently blogged on this topic. He wonders how well the concept of “long term” really applies to someone’s life. Cullen explained it like this: Most people begin investing in their 20’s, but don’t accumulate significant assets until their 30’s or 40’s. This gives most investors 25-35 years to work with. There are plenty of intangibles to consider during that time frame as well (wedding, kids, college tuition, house, cars, and retirement!). Cullen summarized his beliefs writing:
“Our financial lives don’t actually reflect a “long term” at all. They’re more like a series of short terms inside of a long term.”
We agree with Cullen on this one and recommend checking out his post, which we’ve linked to below.
To blend the views of Ed Easterling, Cullen Roche and Mullooly Asset Management we’d say that the market goes through structural bull and structural bear markets. We must be aware of these structural market conditions and create a game plan accordingly. Simply waiting it out for the mythical “long term” to save us is not an investment strategy because few, if any, investors have long enough time horizons to see the average returns lauded in many market studies.
Sources:
http://www.pragcap.com/problems-with-the-long-term
http://www.crestmontresearch.com/books/
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