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Dear ,
The False Expectations of Averages
I recently had a client ask an interesting question.
"I listen to Dave Ramsey a lot and he ALWAYS tells people that investing in a GOOD mutual fund should give you 10 - 12% on your investment. He recommends this to everyone. Is he smoking something funny, are these rerun programs from the 90's or does he know something that we should know? "
Great question isn't it? Let's take a deeper look.
Now without knowing for sure, I'm going to guess that Mr. Ramsey, a popular financial radio commentator, is referring to the many studies that tell us that over the long term the stock market averages around 10% per year? In fact when I type "the stock market averages 10% over the long term" into Yahoo I get 152,000,000 articles in the search results.
Now as my client astutely asks, is this outdated data? "Are these rerun programs from the 90's?"
Without knowing exactly what study he is looking at it is hard for me to say. My general comment though would be that the long term statistic is probably still true. But does that mean we should expect that from our investments today?
Not necessarily. Let me give you an example.
Here is what the Dow Jones Industrial average has done from January 1, 2000 until October 11, 2012.
 | | (Source:Yahoo finance) |
As you can see, in the last 12 years the Dow has only managed to average 1.35% per year. That's a far cry from the 10% average that Dave Ramsey is telling people to expect isn't it? How can the long term average still be 10% or so when the shorter term average has only been 1.35%? How can both numbers be true? The problem is that the short term time frame return isn't a long enough time frame to really affect the long term numbers. Does that make sense?
Let me share some proprietary research I have done on the subject. I took a slightly different approach. I broke the numbers down by decade. If the market averages 10% per year, how many completed decades have we had where the market has actually averaged 10% or better for the whole decade?
 | | (Reames Financial Proprietary Research) |
As you can see, for the 11 completed decades (1900-2010), only four of them have averaged 10% or better for the decade. Here is what is interesting in my opinion. Of the other seven completed decades, not a single one of them even averaged 5% a year for the decade! Think about that folks. What that means is that the four big decades were so huge and out of the norm that they have thrown the long term averages way out of whack.
So What Should I Expect?
Because this is investing, no one can say for sure. What I will tell you is that I personally don't expect to average 10% in the market. When I look at the chart above I ask myself, which is the more common decade outcome and the way I read that chart, by an almost 2 to 1 ratio, the smaller decades seem to be the norm. Which leads me to the final point. And that is that asking "what is the average?" is asking the wrong question in my opinion, at least until you've asked a more important question first.
The Difference Between Wealthy Americans and Working Americans
One of my mentors taught me something years ago that I'd like to share. He said the following, "The difference between the way that the wealthy invest verses the way that working American invest is that the wealthy focus on controlling risk first, then they worry about the return on their investments."
So as you develop your investment philosophy and build a portfolio I would suggest that you take that advice. Control risk first and make sure you are being rewarded appropriately on a risk adjusted basis for the risks that you do take. If you're not sure how to do that or would just like some help, please feel free to give us a call or send an email. 269-349-3966 or preames@reamesfinancial.com.
Atlas Shrugged II World Movie Premier Party a Huge Success!
Thanks to all who attended the Altas Shrugged II World Movie Premier Party at the Rave on Friday night. A great time seemed to be had by all. I want to thank all of our United Development Funding shareholders without whom this event would not have been possible. I'd also like to thank the producers of Atlas Shrugged for their help as well as Sean Servey and Realty Capital for their support of this event.
Until next week , Protect Your Wealth!
Sincerely,
  
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