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The Best Interest » A Magical Lesson from Monthly Stock Returns

A Magical Lesson from Monthly Stock Returns


  • Stocks’ all-time positive return comes from an incredibly small percentage of periods.
  • If you miss out on that small percentage, you’re screwed.
  • Therefore, your stock investing strategy must guarantee you’re invested during those infrequent magical periods.

The Good Stuff…

Today’s post is amazing (if I may say so myself). It’s yet another reminder that:

  • Most of the time, the stock market is a stagnant, net zero investment. Ewww.
  • But once in a while, the market is magical.
  • And in order to capture that magic, the only way to invest in stocks is long-term.

First, let’s look at the S&P 500’s monthly returns since 1871. The returns are all over the map.

Next, let’s re-order these returns from largest to smallest. If we consult our Excel spreadsheet, we see that 39% of all months have been negative (the right side of the plot) and 61% have been positive.

Peering over this data and inspired by John Jennings’ recent book, The Uncertainty Solution, I wondered…

How many positive months does it take to offset the negative months?

In other words: simply by observing this chart, we could logically guess that the right-most majority of the data – all the negative months multiplied by a majority of the positive months – leads to a 0.0% investment return.

But we also know that the stock market has, over time, produced a long-term ~7% inflation-adjusted annual return.

Thus, the only logical conclusion is that the entirety of the historical stock market return is contained in the leftmost sliver of the chart.

After analyzing the data, that’s exactly the case.

Of the 1828 individual months in Robert Shiller’s S&P 500 data set dating back to 1871…

  • 39% of the months were negative (718 out of 1828)
  • The next best 53% of the months (969 months) are needed to offset the negative months, bringing the net investment return back to 0.00%
  • All positive historical return, therefore, comes from the remaining best 140 months (or 7.7% of the 1828 total months)

Out of 152 years of data, the positive return is concentrated in the best 11 years.

What Does This Mean for You?

What should we take away from this crazy fact?

If you want to be a successful stock market investor, you have to reliably capture that 7.7% sliver which contains all positive returns. You have to be “in the market” during those great months. But how?

Let’s now go back to the very first chart. Can you see the pattern of when the good months are coming? Can you devise a strategy that ensures you’re “in the market” for them? I sure can’t!

Stock market returns are random. Burton Malkiel wrote a legendary book proving as much. Even experts can’t reliably or repeatably time the market. We don’t know exactly when the 7.7% sliver is coming.

How then do we guarantee we capture that 7.7% sliver?

  • By investing on a regular basis a.k.a dollar-cost averaging. I’m always adding new dollars, hoping to catch the right wave. I invest the same amount out of every paycheck into my 401(k) and the same amount every month into my Roth IRA. Here’s how I invest.
  • By staying the course and avoiding market timing. We don’t sell because we don’t want to miss a big day, week, month, etc.
  • We invest for the long run. Not months, not years, but decades. Only over such long time periods can you guarantee you’ll see your fair share of great returns.
  • We diversify. As a reminder, this data is all based on the (relatively) diversified S&P 500, as a proxy for the American economy. If I showed you similar data for individual companies, it would look even crazier. The top 4% of all individual stocks account for all outperformance of stocks over bonds – like looking for needles in a haystack.

Pretty important stuff, right?

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