The volatility of year-to-year stock returns is so great that it's very hard to measure average returns with any sort of statistical certainty. The best that statistics can do is to say we are 95 percent certain that the true average excess return is between 3 percent and 13 percent.
It's become a staple of financial advice, dispensed by stockbrokers, securities analysts, and the media: Common stocks outperform other investments over time, and they outperform them by a lot. Therefore, the reasoning goes, it makes sense to overweight your portfolio with stocks.
Historically speaking, that's been true enough. Since World War II, stocks have returned an average of 8 percent a year more than Treasury bills. But that bit of information begs a few questions. For one thing, is the 50-year period since the end of the war long enough to yield statistically reliable data about stock and bond returns? Is there any good reason that stocks should so clearly outperform bonds? Can any of this historical information really tell us what stocks will do in the future?
In Where is the Market Going? Uncertain Facts and Novel Theories (NBER Working Paper No. 6207), NBER Research Associate John Cochrane concludes that while the excess return for stocks is real, it's not necessarily 8 percent. The volatility of year-to-year stock returns is so great that it's very hard to measure average returns with any sort of statistical certainty. The best that statistics can do is to say we are 95 percent certain that the true average excess return is between 3 percent and 13 percent.
Why do stocks outperform bonds? The obvious answer is that stocks are riskier than bonds, and investors are risk averse and thus demand a higher return when they buy stocks. But standard economic models don't predict nearly enough risk aversion among consumers to explain an 8 percent excess return for stocks. Novel theories can explain the 8 percent excess return, but they fundamentally change the story of risk and risk aversion, in ways that have not yet been widely examined. These facts suggest that the 8 percent postwar excess return was a fluke.
This bearish implication is reinforced by the fact that periods of high stock price-to-dividend ratios (or price-to-earnings ratios) are usually followed by lower-than-usual stock returns, and price-to-dividend ratios are higher now than they have ever been. Cochrane concludes: ``We might interpret the recent run up in the market as the result of people finally figuring out how good an investment stocks have been for the last century, and building institutions which allow wide participation in the stock market. If so, future returns are likely to be much lower."
FAQs
From 1982 through 2019 (pre-COVID), while stocks outperformed, the results were much closer to the first 150 years than the previous 40 – the S&P 500 returned 11.8% per annum versus 9.5% per annum for long-term (20-year) Treasury bonds.
What is the average return on stocks vs bonds? ›
Have Stocks or Bonds Performed Better Historically? The historical returns for stocks have been between 8%-10% since 1928. The historical returns for bonds have been lower, between 4%-6% since 1928.
What percent should be in stocks vs bonds? ›
One says that the percentage of stocks in your portfolio should equal 100 minus your age. So, if you're 30, such a portfolio would contain 70% stocks and 30% bonds (or other safe investments). If you're 60, it might be 40% stocks and 60% bonds.
Do stocks make more money than bonds? ›
Stocks offer an opportunity for higher long-term returns compared with bonds but come with greater risk. Bonds are generally more stable than stocks but have provided lower long-term returns.
Which have higher returns on average stocks or bonds? ›
The U.S. stock market is considered to offer the highest investment returns over time. Higher returns, however, come with higher risk. Stock prices typically are more volatile than bond prices. Stock prices over shorter time periods are more volatile than stock prices over longer time periods.
Is 7% return on investment realistic? ›
General ROI: A positive ROI is generally considered good, with a normal ROI of 5-7% often seen as a reasonable expectation. However, a strong general ROI is something greater than 10%. Return on Stocks: On average, a ROI of 7% after inflation is often considered good, based on the historical returns of the market.
Is it better to invest in stocks or bonds? ›
Bonds are safer for a reason⎯ you can expect a lower return on your investment. Stocks, on the other hand, typically combine a certain amount of unpredictability in the short-term, with the potential for a better return on your investment.
What is Warren Buffett's 90 10 rule? ›
Warren Buffet's 2013 letter explains the 90/10 rule—put 90% of assets in S&P 500 index funds and the other 10% in short-term government bonds.
Does Warren Buffett invest in bonds? ›
It seems that Buffett has softened his stance. Berkshire Hathaway's portfolio includes a significant amount of short-term bonds, despite its leader's infamous public position. Speaking to CNBC's Becky Quick on Aug. 3, 2023, Buffett admitted: “Berkshire bought $10 billion in U.S. Treasurys last Monday.
What is the 5% rule for bonds? ›
A. This is a rule in tax law which allows investors to withdraw up to 5% of their investment into a bond, each policy year, without incurring an immediate tax charge.
The best that statistics can do is to say we are 95 percent certain that the true average excess return is between 3 percent and 13 percent. Why do stocks outperform bonds? The obvious answer is that stocks are riskier than bonds, and investors are risk averse and thus demand a higher return when they buy stocks.
Why buy bonds and not stocks? ›
Because they are a loan, with a set interest payment, a maturity date, and a face value that the borrower will repay, they tend to be far less volatile than stocks. That's not to say they're risk-free; if the borrower has financial trouble and is at risk of defaulting on their debt, bonds can lose value.
Why would someone buy a bond instead of a stock? ›
Investors often use bonds to balance out riskier investment options, such as individual stocks, to protect against market volatility. Depending on the type of bond, you can buy them through online brokerage accounts, mutual funds, exchange-traded funds (ETFs) or directly through the government or government agency.
What is the safest investment with the highest return? ›
Here are the best low-risk investments in April 2024:
- High-yield savings accounts.
- Money market funds.
- Short-term certificates of deposit.
- Series I savings bonds.
- Treasury bills, notes, bonds and TIPS.
- Corporate bonds.
- Dividend-paying stocks.
- Preferred stocks.
The average stock market return is about 10% per year, as measured by the S&P 500 index, but that 10% average rate is reduced by inflation. Investors can expect to lose purchasing power of 2% to 3% every year due to inflation.
What is the best investment of all time? ›
“Historically, real estate has always been the best-performing asset class,” notes Patrick Donoghue, Vice President, Market Risk at Groundfloor Finance. “One of the best ways to invest is through private capital real estate deals. We've seen consistent 10% annualized returns across our portfolio.
What is the average return on a 30 year bond? ›
30 Year Treasury Rate is at 4.65%, compared to 4.64% the previous market day and 3.64% last year. This is lower than the long term average of 4.74%.
What is the average return on bonds last 10 years? ›
Over the past 10 years it has averaged a 2.12% average annual return, although that figure has fluctuated from a 9.6% high to a -2.6% loss. This is consistent with the S&P 500 Municipal Bond Index, which has a 2.6% 10 year return. Remember, a financial advisor guide you through bond portfolios.
What is the average return on bonds last 30 years? ›
Over the past 30 years, stocks posted an average annual return of 10.4%, and bonds 6.8%.
What is a good rate of return for stocks? ›
Most investors would view an average annual rate of return of 10% or more as a good ROI for long-term investments in the stock market. However, keep in mind that this is an average. Some years will deliver lower returns -- perhaps even negative returns. Other years will generate significantly higher returns.
