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The Independent Adviser for Vanguard Investors
•
July 2015
•
7
FOR CUSTOMER SERVICE, PLEASE CALL
800-211-7641
ARE YOU AN INVESTOR
who’s got
some money to invest, but just can’t
pull the trigger to put that money to
work? Maybe it’s the headlines sur-
rounding Greece and its potential exit
from the Eurozone, or the bubble in
Chinese stocks or the forthcoming
increase in the fed funds rate—or
maybe it’s my warning in the May
issue of a Dow 16460—that has you
in a holding pattern. I get it. Nobody
wants to invest at a market peak only
to see the markets start to fall right
after, and their account with it. But,
as I’ll show you, discipline and time
in the market are powerful tools that
every investor can use to overcome
unlucky near-term results.
Let’s compare two investors:
Disciplined Dave and Hapless Harry.
Both Dave and Harry invest $1,000
in
500 Index
at the end of 1984, and
invest an additional $1,000 in the fund
each and every year for the next 30
years. Disciplined Dave simply adds
his money on the last trading day
every year. Hapless Harry tries to pick
his spots, but he easily lays claim to
having the worst timing in modern
Wall Street history, and ends up add-
ing his $1,000 at the fund’s highest
price each calendar year.
Obviously Disciplined Dave should
have a lot more money at the end of
30 years than Hapless Harry, right?
Well, Dave compounded his money
at a 9.8% annual rate, turning his
$31,000 into $176,671 at the end of
2014 (including his final contribution
at the end of that year). Harry, despite
his unfortunate timing, compounded
his money at a 9.5% rate, and ended
up with $167,835. To put this into
context, 500 Index compounded at an
11.2% rate over this 30-year period.
For all his bad luck—his timing
could not have been any worse—
Hapless Harry ended up with only
$8,836, or 5%, less than Disciplined
Dave.
That’s the stock market. It gives,
takes back, and then gives some more.
If you’re willing to ride out its inevi-
table ups and downs, and can stay
invested long enough, you almost
always come out ahead.
Of course, most investors do not
allocate all of their savings, but own
a balanced portfolio of stocks and
bonds, which tend to act as shock
absorbers when the markets get vola-
tile.
Today, of course, investors are not
only grappling with headlines sug-
gesting that stock markets are at risk,
but also those telling them that bonds
are no longer safe and that both stocks
and bonds are overvalued.
Let’s apply the same market-timing
experiment we just walked through to
a balanced portfolio. Let’s say Dave
and Harry bought
Wellington
every
year instead of 500 Index. At the end
of 2014, Dave’s money compounded
at a 9.9% annual rate over 30 years to
$179,150. Harry wasn’t far behind, as
his money grew at a 9.7% annual rate
to $174,157—just $4,922, or less than
3% short of Dave.
Yes, you are reading those numbers
correctly: Both Dave and Harry did
better investing in Wellington than
they did in 500 Index. How does that
happen if on average 35% to 40% of
Wellington’s portfolio is in bonds, and
stocks beat bonds over the long run?
And over this 30-year stretch stocks
did beat bonds, as
GNMA
’s 7.2%
growth rate trailed
500 Index’s 11.2%.
(I used GNMA because Total Bond
Market doesn’t quite have 30 years of
history, having launched in 1986.)
The short answer is that Wellington’s
active managers have run circles
around both stock and bond index
funds.
Balanced Index
doesn’t have
30 years of history, but from its incep-
tion in September 1992 through the
end of 2014, the fund gained 495.1%.
Wellington’s 701.2% gain over that
stretch leaves Balanced Index in the
dust and leads 500 Index’s 653.1%
gain as well. So much for indexing
beating active management.
And if your concern lies entire-
ly with investing in bonds, given
today’s low yields, well, the differ-
ence between Dave and Harry is
almost indistinguishable. If Dave and
Harry invested in GNMA instead of
Wellington or 500 Index (again, I’m
using GNMA because Total Bond
Market hasn’t been around for three
full decades), after 30 years of invest-
ing Harry’s $88,040 would be just
$365, or 0.4%, shy of Dave’s $88,406.
The lesson I’m trying to get across
is that timing isn’t everything. Even
though every trade he made at a
recent top (whether into 500 Index or
Wellington) immediately lost money,
Harry’s overall performance was simi-
lar to Dave’s because Harry, like Dave,
kept investing $1,000 every year.
Harry also never panicked—he did not
sell a single share. Finally, Harry had
a long time horizon. The combination
of his own discipline, consistency and
ability to stay focused on the long run
went a long way towards making up
for unlucky timing.
In reality, your luck can’t be as bad
as Hapless Harry’s. If you are on the
sidelines, take a lesson from Hapless
Harry and make a plan to get in the
game—as a long-term investor. The
Model Portfolios
on page 2 are a per-
fect way to start.
n
TIMING
Don’t Fear a Top
Discipline and Time
Overcome Unlucky Timing
12/84
12/87
12/90
12/93
12/96
12/99
12/02
12/05
12/08
12/11
12/14
Disciplined Dave
Hapless Harry
$0
$50,000
$100,000
$150,000
$200,000