To get an idea of what the next decade holds in store for the US stock market, think back to a decade leading up to December 2010. It's not because the next decade will be like the last. far from it. The reason to turn back the clocks 10 years is to appreciate how unexpected the future often turns out to be.
In 2010, the last decade had been a terrible decade for stocks, and few dared imagine that the next 10 years would be one of the best for stocks in US history. But it was. Today the situation is exactly the opposite, and for this reason we should be prepared for the clear possibility that the next decade will be as disappointing as the last decade.
Ten years ago, investors were still wavering on two bear markets. At the beginning of December 2010, the S&P 500
traded just over 1,200, more than 20% lower than its October 2007 bull market high and basically at the level it was at the top of the internet bubble in March 2000. Adjusted for inflation, the picture was even bleaker: the S&P 500 posted an inflation-adjusted loss of more than 3% on an annualized basis over the past decade.
Compare that to where things are today. The 10-year inflation-adjusted total return on the S&P 500 is 11.9%, according to Robert Shiller of Yale University. That is better than 85% of all rolling 10-year periods since 1881.
For this reason, investors should expect below-average returns over the next ten years: historical data shows a strong tendency to reverse. To show this, I calculated a statistic known as the Correlation Coefficient, which would be 1.0 if the best returns for the next decade were correlated with the best returns for the next decade, and so on. The coefficient would have been minus 1.0 if the best trailing returns were correlated with the worst trailing returns, etc., while a coefficient of zero would mean there is no demonstrable relationship between the two.
There is no guarantee that the stock market's return will be below average through the end of 2030. But chances are it will be.
If I focus on all the months since 1881 in Shiller's database, I have calculated this coefficient to be minus 0.35, which is of great importance given the 95% confidence level that statisticians often use to judge whether a pattern is real is.
Note that the coefficient is not minus 1.0, which means that only a minority of the stock market's subsequent 10-year return is explained by the 10-year trailing return. Therefore, there is no guarantee that the stock market's return will be below average through the end of 2030. But chances are it will be.
If not shares, what else?
What about other asset classes? Take a look at the graph below, which plots the annualized inflation-adjusted return of each asset over the past decade versus its long-term average. The worst-performing historical average since 2010 was gold, closely followed by international stocks and US bonds.
Unfortunately, the reversal in the US stock market is nowhere near as strong in these three other asset classes. So it would be too recommendable to allocate your entire portfolio to gold, international stocks, and bonds for the next decade. A wise contrary bet, however, would be to reduce your exposure to US stocks in favor of one or more of these other asset classes.
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings track investment newsletters that pay a flat fee for testing. He can be reached at firstname.lastname@example.org
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