Historical Context

Looking at the 1966-1981 secular [long lasting] bear market helps us appreciate why a buy-and-hold and S&P500 index fund is no longer a good idea. The bear preceded the spectacular 1982-2000 bull market and bubble.

Here is what would have happened if you had started with a $100000 initial balance and made no deposits and no withdrawals. All dividends are reinvested. Expenses are set at zero.

These are REAL balances (that is, after adjusting for inflation).

You would not have been consistently ahead of inflation until 1984. If they had existed, you would have been better off with TIPS or ibonds even if they offered no interest.

1966 100000
1967 90766
1968 101253
1969 107018
1970 92768
1971 94159
1972 103458
1973 117067
1974 90657
1975 65267
1976 83966
1977 88671
1978 76496
1979 80927
1980 82670
1981 92106
1982 79770
1983 98288
1984 112818
1985 117182
1986 141159
1987 181116
1988 171012
1989 191768
1990 223112
1991 210037
1992 267712
1993 278591
1994 302558
1995 297826
1996 389427

The explosive growth in mutual funds began in the 1980s. Almost all of what we know about mutual fund investing is tied in with the strong bull market of 1982-2000.

Today’s strategy of buying-and-holding low cost index funds is based on what happens during a bull market.

Dollar cost averaging during accumulation is a great idea. But even dollar cost averaging has its problems during a secular bear market. Here are the balances that you would have had by investing $1000 (plus inflation) each year starting in 1966. All of these amounts are in REAL dollars (that is, after adjusting for inflation).

If they had existed at the time, you would have been better off by investing in TIPS or ibonds even without interest until 1983. This is with dollar cost averaging.

1966 1000
1967 1845
1968 3100
1969 4293
1970 4650
1971 5719
1972 7315
1973 9328
1974 8116
1975 6715
1976 9786
1977 11355
1978 10724
1979 12388
1980 13700
1981 16349
1982 15096
1983 19702
1984 23676
1985 25595
1986 31919
1987 42067
1988 40678
1989 46666
1990 55368
1991 53088
1992 68780
1993 72578
1994 79843
1995 79567
1996 105172

As you might expect, the NOMINAL dollar amounts seem to be a lot better. But what happened was that investors had the privilege of paying taxes on inflation as their purchasing power faded.

If you only want numbers that look bad, you can constrain yourself to looking at index values. They reflect price changes without reinvesting dividends. To make the numbers look really bad, look at index values alone but be sure to adjust for inflation.

The intermediate-term outlook for the stock market is not attractive. The market is still at record valuations. There never has been a net ten-year gain starting from anything close to today’s valuations. Making things more difficult, dividend yields are exceptionally low. Taken from a variety of vantagepoints, we can expect a prolonged bear market. We can expect to see a choppy market, with about two years of heavy losses for every year with strong gains.

When we stand on the sidelines, possibly invested in TIPS or a TIPS ladder, or when we follow a dividend-based strategy, we are doing what would have worked in the past when starting from high valuations. Benjamin Graham said that it was not timing when he focused on prices. We cut today’s stock holdings because prices are too high. We will increase our stock allocations as prices come down. We do have a sense of time. But we link our actions to prices.

Have fun.

John Walter Russell
I wrote this on May 19, 2005.