Laguna Niguel, CA
Thursday, July 19, 2012
The investment community is constantly reminding us that past returns are not indicative of future results. Yet this is often the basis upon which many of us make our investment decisions. After all, we all want to invest with a proven winner don't we? However, those conditions that resulted in those prior returns might not be representative of the conditions that might exist during our investment time horizon. What many of us fail to realize is that average returns, irrespective of the time period used, can also lead us into making ill advised investment decisions. Let us examine the returns of various kinds of fixed income and equity investments.
A certificate of deposit (CD) is money deposited in a bank or credit union that earns interest at a predetermined rate and usually cannot be withdrawn for the term of the deposit without incurring a penalty. Deposits in federally chartered banks are protected by the Federal Deposit Insurance Corporation (FDIC). Since their inception in 1964, Certificates of Deposit have returned to investors an average nominal yield of 6.54 percent. However the current rate on these instruments is slightly over 1.0 percent.
Treasury Bills, often referred to as T-Bills, have a maturity of one year or less. They, along with Treasury Notes and Bonds, are backed by the full faith and credit of the United States Treasury and are considered to be one of the most risk free investments. From 1958 to 2008 the actual yields on six month T-Bills ranged from 1.05 percent in 2003 to 13.81 percent in 1981 with an average rate of 5.55 percent. Their current yield is 0.095 percent.
Treasury Notes or T-Notes have maturities of two to ten years. They are issued in denominations of $1,000 to $1,000,000 with two, three, five or ten year maturities and pay interest every six months. The ten year Treasury Note is important in that it is the yardstick against which the U.S. Government Bond Market's performance is measured and it is also used as the benchmark for mortgage interest rates. From 1962 to 2008 Treasury Notes yielded on average 6.78 percent on a nominal basis. The minimum yield on that same basis was 3.14 percent in 2008; the maximum 14.25 percent in 1981. The current yield on the 10 year note is 1.52 percent.
Treasury Bonds (T-Bonds) are issued with maturities of ten and thirty years and pay interest to investors every 6 months. In 2002, the United States Treasury stopped issuing T-Bonds with thirty year maturities only to resume in 2006. From 1962 to 2008, the nominal yield on ten year T-Bonds averaged 6.98 percent. The maximum yield was 13.92 percent in 1981; the minimum 3.14 percent in 2008. On an inflation adjusted basis, the lowest yield was minus 3.47 percent in 1974, the average was 2.65 percent and the highest was 8.16 percent in 1984. Today the yield on a 30 year T-Bond is 2.61 percent.
Large capitalization stocks are synonymous with the S&P 500 Index, a list compiled by Standard & Poor's, a financial research and analysis organization, of the 500 largest United States corporations based on market capitalization. Over the past 10 years the S&P 500 produced an average return of 10.45 percent; over past 5 years minus 0.18 percent; and the past 3 years 15.82 percent. More recently, the S&P 500 produced a 7.53 percent return over the past year.
The message is clear. There can be a significant difference between actual returns and average returns. The longer the investment horizon the closer actual returns will approximate average returns. The converse is also true. The shorter the time horizon, the larger the discrepancy between actual and average returns.
For more comprehensive view on returns generated by various investment classes refer to A Common Sense Approach to Successful Investing.
About The Author
Marvin H. Doniger has been an avid investor since his early teens. During the course of his lifetime he has developed a philosophy that has served him in his own professional development and in the creation of an investment portfolio for his family's financial needs. His perspectives have been developed from his lifelong study of investing, his actual experiences as a registered representative, an individual investor, as well as from working for large companies in industry and as a management consultant to Fortune 500 companies.
He is the author of A Common Sense Road Map to Uncommon Wealth, which is a treatise on managing careers and finances, A Common Sense Approach to Successful Investing, in which he first introduced stratamentical analysis, a unique approach for identifying long-term investment opportunities, and Common Sense Prescriptions for Financial Health which presents quaestrology, a unique perspective on managing one's finances. He is also a regular guest on the Business Talk Radio Network and other radio shows. His articles have been published in media outlets such as Investor's Digest of Canada and Morningstar.
Mr. Doniger received a Masters in Business Administration from Columbia University Graduate School of Business and a Bachelor of Science Degree in Mechanical Engineering from Tufts University. He has taught undergraduate and graduate level courses in production control, inventory management, information technology and finance at Fitchburg State College and Webster University. He currently resides with his wife, Marsha, in Laguna, California.
Marvin H. Doniger
Laguna Niguel, CA