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Strategies & Market Trends : Gorilla and King Portfolio Candidates -- Ignore unavailable to you. Want to Upgrade?

To: substancep who wrote (49708)	1/8/2002 5:52:25 PM
From: Wyätt Gwyön	Respond to of 54805

hi substancep, I have used the historical returns of the S&P 500 index as my planning tool to reach this goal. first, let me congratulate you for seeing the wisdom of indexing. i don't see how anybody who looks seriously at the reality of mutual funds could choose active management over indexing. active management fees alone create an almost insurmountable advantage for indexes over the long term. not to mention that there is no ex ante method of determining who will be the few managers to outdo the indexes over time. hope Buffett is wrong and the market returns the 11% I am looking for and not 6 or 7% now, a couple words about the S&P500: it is very hard to come up with a scenario where the S&P could provide 11% nominal, or 7% real return over the time period you are discussing (14 yrs). S&P returns over time are equal to nominal GDP growth plus the dividend yield. the 11% historical return benefited from a div yield in the range of 4-5%. however, currently the dividend yield is around 1.5%. this may come down even further as the recession forces high-dividend-paying cos like Ford to tighten their belts. if GDP growth over the next 14 years averages 3%, then expected nominal return would be 4.5%, and subtracting a very low 2% assumed inflation rate from this, real return would be 2.5%. these are actually moderate to generous assumptions. one can tweak up or down a bit. tweak up, a la W.E.B., and you can talk about 6-7%; tweak down, a la Grantham, and you're talking negative 0.5% annual real return over the next decade. an important thing to realize about the S&P500 is that it is heavily weighted toward US large growth stocks. these are actually just one asset class as defined in portfolio theory. a look at history will show that different classes outperform others over different periods of time, and then underperform at other periods of time. the S&P500 has outperformed for the last two decades; i wouldn't count on that continuing for the next 14 years. other classes with indexes to consider are US small value, US large value, international small value and large value, and REITs. there is no way to know which of these classes will do the best over the next two decades, so many advisors using an asset-class approach would focus on spreading one's bets around. So, I don't use the S&P 500 index because it is THE BEST. Rather, I use it because it's historical returns fit well with my retirement planning. we are all at the mercy of history. you place your bets on a given day, and history gives you something lesser or greater in the future. here's a little thought experiment: imagine it is 1981, and you want to retire in 14 years. the S&P500 has gone NOWHERE for the last 15 years; popular magazines have cover stories on "The Death of Equities" (i think that might have been in 1979); and the historical returns from 1926 that you mention are much lower than 11%. instead, you might think you should invest in gold, or real estate, or commodities...in the late 80s, you might have thought Japanese stocks were the place to be (at least, that's what a lot of people thought at those times in history). now fast-forward to the present time: we've just had the two greatest decades ever for US large growth (i.e., the S&P500), so the historical average since 1926 for the index has been tremendously skewed upward. meanwhile, the low valuation factors that allowed the index to outperform since 1982 have turned into very pricy multiples by historical standards. just something to consider, for perspective.