There
are many investment advisors and experts who claim that while stocks may be
risky in the short term, they are not in the long term. In the long term, they
argue, stocks always beat less risky alternatives. As evidence, they point to
the history of equity markets in the United States and note that stocks have
earned a higher return than corporate or treasury bonds over any twenty-year
period that you look at since 1926.
They then draw the conclusion that if you have a long enough time
horizon (conservatively, this would be 20 years), you will always generate a
higher ending portfolio value investing in stocks than in alternatives.
It
is not just individual but also professional investors who have bought into
this sales pitch. Following these pied pipers of equity, younger workers have
invested all of their pension fund money in stocks. After all, a 35 year-old
investor will not be accessing her pension fund investment for another 30
years, a time horizon that should make stocks essentially riskless. Companies
have reconfigured the contributions they make to pension plans on the
assumption that pension plans will be invested predominantly or entirely in
equities. By making this assumption of higher equity returns, they are able to
lower their contributions and report higher earnings. State and local
governments have used the same assumptions to meet budget constraints.
Aggravating
the problem is the shifting definition of long term. While a conservative
advisor may mean 20 years or longer when he talks about long term, more
aggressive investors and advisors reduce this number, arguing that while stocks
may not beat bonds over every 5-year or 10-year period in history, they come
out ahead so often (again based upon the data from the U.S. equity markets in
the twentieth century), they are safe. During bull markets, investors are all
too willing to listen and invest a disproportionately large amount of their
savings, given their ages and risk preferences, in equities. It should come as
no surprise that books and articles pushing the dominance of equity as an
investment class peaked in 1999 at the height of one of the great bull markets
of all time.