Over at Political Calculations, Ironman decided to take a statement I made and put it to the test. He titled his post Got Time? Get Positive Returns. I had written "there was never a single ten year period where the indexes went negative" referring to the S&P 500 and the DJIA in the later half of the 20th century. See my post on Understanding Indexed Annuities for the full timeframe and context. Ironman ran an inflation adjusted rolling 10 year rate of return for the S&P going all the way back from January 1871 to August 1997. He found that during that time there were a few 10 year periods where the real return was indeed negative.
Real return looks at buying power as opposed to nominal return which is a pure return. For example, if I gave you $1.00 in 1974 when candy bars were a nickel, you could have purchased 20 candy bars. Today, if you still had the dollar, you could only buy 1 candy bar since they now cost a buck each. In this example your nominal return was 0% - you neither gained nor lost any money – but your real return was negative since you can not buy nearly as many candy bars.
My analysis used nominal returns since the discussion was about indexed annuities. Since there are no claims made by indexed annuities that your buying power will be maintained, nominal returns are a more appropriate measurement than real returns.
I like Ironman's study. It is interesting and applicable to understanding long term market behavior. He even takes it one step further and looked at 20 year inflation adjusted returns for the S&P. Then he found only one 20 year period, June 1901 – June 1921 where the S&P's real return was negative (and barely so at -0.2%). In addition, he found that that average real return was +6.9%. That means that with a 20 year holding period, the S&P increased investors buying power by almost 7% per year!
I still stand behind my original statement, "the S&P has never provided a negative return in a single ten year period" but now I will add the Ironman corollary, "One should hold the S&P 500 for at least 20 years to maximize the probability of keeping pace with inflation."
Good work Ironman! Thanks.
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