Long Term Investing Is Hard

Markus Muhs - Jun 10, 2021
You won't have much use for cruise control on the highway of long-term investing.
Recently, Morgan Housel wrote another insightful blog post entitled “How to Do Long Term”. Those who subscribe to my eNewsletter should already be familiar with Housel’s work: he writes so much good personal finance content that I’m usually sharing links to his stuff in every newsletter, again this month (how is his website even free?). His latest book is also a must-read for anyone looking to get ahead in their personal financial situation.
It’s easy enough to look in the rear-view mirror and note the irrefutable proof that owning the Great Companies of America and the World* for the long-term is all it takes to become wealthy. Housel explains how this is much much harder to actually DO, effectively to follow through on.
So, let’s put ourselves into the shoes of my first client, from when I entered the industry in February of 2008. Looking in the rear view, it looks like not a bad time to have invested (despite the impending Great Financial Crisis, shortened to "GFC" henceforth). 
The above graph reflects a $1000 investment into the Vanguard Total World ETF (VT), from its inception—just after my start—to the end of May 2021. Given how strongly it recovered from the depths of the GFC, the most recent pandemic crash, and all of the corrections in between, it looks downright foolish to ever doubt the markets.
When you first become a client of any advisor, you’re usually put through a risk questionnaire of some sort. Planning to invest for the long-term future is easy, as several questions put you through hypothetical scenarios and ask how you’d react. Common on almost every risk questionnaire is a question that has you choosing from among some worst case/best case scenarios like this:
This particular one was copied from the financial planning system I use, NaviPlan. Looking at it, the logical conclusion that most of us come to is that exposing yourself to more downside risk leads to more upside potential, and over the long-term this has in fact panned out.
So, as a new client of mine with a 30+ year time horizon, we start your investing journey by picking portfolio A in the graph above, because we know you have plenty of time to recover from a 33% drawdown and you’re looking for the optimal return over 30 years (over such a long time period, taking less risk only guarantees lower returns). 
So, what would your experience have been, as a client, over the past 13 years; what kind of conversations would we have had along the way?
When I first started in the industry I was only able to use full-commission mutual funds—not ETFs—and to keep this thought experiment realistic, I’ll use a fund that best represents the overall global stock markets from the funds I was actually using back then: the Capital Group Global Equity Fund (A-series, because trailing commissions were what put food on my table when I was working at the bank). 
For this thought experiment, consider the fund an example only—not a recommendation—as it is appropriate only for someone with a high tolerance for risk and long-term time horizon only. As always, past performance also has no guarantee of repeating.
You came to me, as my first client in February 2008, with a $100,000 nest egg to invest, and things were still looking pretty good economically at that time, so you were excited to get investing. Housing markets were just starting to ease off a little, but oil kept on soaring; it had not yet hit its all-time high of over $140US. You probably wanted to put it all into Canadian banks and energy companies, as they were on fire at the time, but I counseled you to take a globally diversified approach.
You were initially resistant to this global approach, as global stocks had done terribly over the preceding 8 years (worsened by the fact that the CAD went from 65 cents to become stronger than the USD), but you relented. Over the first few months, your $100K grew to $105K. As an investing newbie, you probably figured “yeah, this is how investing works; my money is making money for me!”
You very quickly might have changed your mind on the whole thing. Around August/September the “narrative” changed completely. We were now in a “financial crisis”, whatever that meant. Every night on the news we were hearing all sorts of new terms and acronyms that even your financial advisor had to look up. Politicians were fighting it out over bailouts. “The Dow” dove day after day, each day breaking its previous record in point total declines. Unlike the more recent pandemic panic in the markets, this thing was drawn out over months and months. 
Your $100K, which I’m sure you worked very hard for, dipped into the negative in June, then really got walloped in September, finishing the month at $87K. At this point, U.S. markets had just entered “bear market” territory, with the S&P 500 down 20% from its October 2007 highs. The most risk-sensitive retail investors were already bailing, but that's not you; you're investing for the long-term. I might have told you that the worst was behind us, but to be honest I had no clue and was obviously wrong.
At the end of November, your nest egg was whittled down to $75K. The saving grace of the portfolio—why it was not down a lot more—was actually that much of the underlying investment was denominated in USD, and while stocks plummeted, a lot of money flew to the safety of U.S. treasuries, propping up the Greenback vs a Canadian dollar that was plummeting alongside oil prices.
Here’s where you and I have our first serious conversation. Even though a short-term 25% decline is well within the bandwidth of the graph in the risk questionnaire you just filled out 9 months earlier, you weren’t expecting it to happen during a Great Financial Crisis! All the news was nothing but doom and gloom. There really was no future outlook that wasn’t some post-financial apocalypse where we revert to using seashells as currency or something.
You agree with me though, that -25% isn’t -33%, that you’re invested for the long-term, and that at some point before your distant retirement this situation will resolve itself. You’re rewarded in December, as markets recover a bit and your portfolio finishes the year at just under $79K.
Then it gets worse. By March 2009 you’re down to below $70K, down over 30% from a year earlier. That is the month-end figure anyway; I don’t have intra-month numbers on my fund tracker, but around March 9th you were probably down at least 35%. This was was the point of maximum capitulation. In real life, I had two clients at the time whom I was able to persuade to stay the course in October/November, who finally had enough and cashed out right in that first week of March 2009 (the low point almost to the day). You might have cut and run as well if you didn’t have a good advisor to strongly urge you not to, so for this thought experiment let’s assume I talk you off the ledge again, and you stay invested.
I remind again—and this was the point in Housel's post—when the crap hits the fan, it's always in some extremely dire scenario. When we look at potential positive/negative returns in a risk questionnaire, we almost do so assuming they happen in a vacuum, with no surrounding narrative. That's not how it works though; there's always a narrative and that narrative—good or bad—will always try to compel you to screw up your long-term strategy.
Markets recovered quickly after the capitulation in March. There weren’t enough “paper hands” left to sell anymore—everyone had already sold—there were only "diamond hands" (like my clients and me) and a bunch of people sitting on cash waiting to get back in. By now I've learned that the day of final capitulation (when the longest term investors, or those who've already repeatedly been urged not to capitulate, finally do) is almost always within a few days of the actual bottom. At the end of 2009, you're back up to $92K. Hope at last!
Halfway through 2010 though, the economy was still not showing any obvious signs of mending, and your portfolio dipped back down to $84K. This was around when talk of the European debt crisis started. More reasons to worry! Was the southern half of Europe going to default? Just goes to show: even with the worst of the GFC behind us, there was always something to worry about and always some reason not to invest
By spring of 2011, your portfolio had finally rebounded to the same level of around $105K that it was at three years earlier. Just as you thought you were getting your head above water though, more pain was on the horizon by way of the ongoing European debt crisis and the U.S. fiscal “debt ceiling” (almost laughable today, that they once had an artificial debt ceiling, and we cared about it). U.S. markets dove almost a full 20% from March to September and at the end of it you were back down to $91K. This dive in the markets felt really familiar, and you were calling me again wondering if we should get out early, before things get worse. I tell you that, just as before, this too shall pass.
At this point, you’re probably wondering why you deal with an advisor at all. Markets are clearly bound between two numbers and if your advisor isn’t going to tell you when to get out of the markets, then what’s the point? If there was ever a point when you strongly contemplated moving your accounts away from me, to a discount brokerage where you can freely time the markets yourself, this was it. I did lose clients for that very reason back then. Sadly, I think an entire generation of investors—those who started investing at the beginning, or slightly before, the "lost decade" of 2000-2010—feel exactly that way, and it’s been an albatross on their investing success, but I digress… (here's an old post I wrote about how your first decade of investor experience can form your behavioral investment biases for a lifetime)
As Housel mentioned in his post, the long run is just a collection of short runs you have to put up with. Above is the 5 year graph of what your portfolio did from the end of Feb 2008 to the end of Feb 2013. A lot of pain, for what works out to a 3.3% annualized gain. At the beginning of this graph, you could have purchased a 5-year GIC at over 4%. 
Anyway, at this point, if you’re still my client, you’d have to be pretty dedicated to your financial plan and trust me 100% as I repeatedly over 5 years told you to “stay the course”. Coincidentally, the 8 years since the end of the graph above have been pretty good to your portfolio.
I’ll give you the bad news first, reminding you of the “narratives” we had to endure since then (I'm including links to the headlines of those years). First, we had the “taper tantrum" of spring 2013 and more debt ceiling worries (government shutdowns) that fall. We had an especially rocky period from summer 2015 to February 2016, during which we had talking heads on TV questioning if the bull market had run its course. There was a bit of an “earnings recession” back then also and 2016 started off with the worst first 6 weeks of the year ever. Over these 6-7 months your portfolio was down around 10%.
In the fall of 2018, interest rates were perceived as rising too quickly, with the 10-year U.S. Treasury breaking solidly through the 3% mark. The markets already started the year off with a major correction in February, logging what at that time were the largest ever point declines in “the Dow”. Tighter lending somehow led to a “yield curve inversion”, which was all the rage among the talking heads on TV and from August to the end of the year your portfolio was down over 11%. Much of this happened along with Trump's calls for tariffs against Chinese goods and general Keystone Cop-ism in the White House at that time.
Then of course we still have fresh in our memories what happened last year: the fastest ever bear market drop from an all-time high, followed by the fastest ever recovery. You were down double-digits again and everything around you was giving you every reason to get the heck out of equities and load up on toilet paper and hand sanitizer.
At this point though, when we connected over Zoom for the first time to review your financial plan, you were quite content to stay the course and thankful for the many years of great advice and financial planning. You’d seen this whole show before; you’re now an experienced investor. Your original $100K portfolio (which, quite frankly I’m a little upset you never added money to over all these years, especially when you had so many opportunities to dollar cost average during rocky markets) was worth $280K in January 2020 and dropped into the low-200s in March; still double what you started with. As I write this post today, based on month-end figures for May 2021, it is now worth almost $370,000.
Your earned 10.32% annually over a span of years from before the GFC to a point of time during which the entire globe is still mired in a viral pandemic. Sticking to a long-term plan, and most importantly ignoring the headlines, has rewarded you with a nearly quadrupling of your portfolio over 13 years.
I don’t know if such a high annualized return can be expected over the long-term going forward, but if we look beyond those 13 years, every other long-term period of time saw annualized returns not much lower than that, and never negative. 
According to Credit Suisse’s most recent Annual Yearbook—one of the few free annual reports with very long-term financial history—U.S. stock investors historically averaged between around 3% and just over 10% real return over every 30 year period they tracked over the past 120 years. By deduction, a 100% equity allocation (and sticking to it, no matter what) seems to be the only logical allocation for time horizons of 30 years or longer. Diversified globally, the range of outcomes should be even narrower and the risk of negative outcomes even less.
Most of us have 30+ year time horizons. Even those retired in their 60s will likely be invested for more than 30 years; especially if their goal isn't to spend all their money and leave some to their beneficiaries.
In conclusion, just as it’s impossible to find a 30-year period that was negative over the past 120 years, it’s impossible to find a 30-year span bereft of any disasters and strife. If we simply looked at 30 year back to back segments and observed growth of "the Dow" (because the S&P 500 wasn’t around as long):
  • 1900 to 1930 had WW1 and the Spanish Flu (Dow went from 50 to 250)
  • 1930 to 1960 had the Great Depression, WW2, the rise of communism and start of the Cold War (Dow went from 250 to 650)
  • 1960 to 1990 was dominated by the Cold War, political assassinations, oil embargoes, an end to the post-war economic miracle, and onset of very high inflation (and interest rates!) (Dow went from 650 to 2600)
  • 1990 to 2020 experienced numerous small wars, 9/11, the GFC, ending in the present day pandemic (Dow went from 2600 to 30K)

Investment Advisor & Portfolio Manager

*I borrow this phrase from another great financial writer: the legendary Nick Murray, whose paid-for and not publicly available content subscribers to my free eNewsletter also receive.
†borrowed from another investing great, Jack Bogle.
Above graphs are from Morningstar Advisor Workstation. Image used in title is my own, taken in the Dadès Gorges region of Morocco.