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Returns Measured Over Less Than 15 Years Are Noise

February 17, 2017

Advisors may have to change what their clients think it means to invest for the long-term. Many investors believe a five-year outlook is sufficient and are losing out on real long-term stock market gains as a result, Patrick Lach writes in the Wall Street Journal.

A five-year time horizon covers many other aspects of life, from election cycles to high school and college, according to Lach, an associate professor of finance at Eastern Illinois University and founder of RIA firm Lach Financial. But investors who apply that time frame to investing are only planning for the short-term — and it could put them off the stock market, he writes. When measuring investment performance, according to Lach, anything that happens in under 15 years is “just noise.”

But the five-year period could be a particularly poor long-term horizon, Lach writes. Just as may investors panic and sell off during a sudden market drop, some investors exit the market after more prolonged declines because they think the product in question simply no longer performs, he writes.

For example, while the average five-year compound rate in the S&P 500 was 9.83% from February 1, 1988 to January 31, 2017, individual five-year segments varied greatly during that time.

The worst five-year stretch had a compound rate of minus 6.63% while the best was 28.56%, according to S&P Dow Jones Indices data cited by Lach.

Many investors were turned off domestic large-cap blend stocks entirely by the poor returns from March 2004 to February 2009, he writes.

And they would have missed out on the rise in the S&P 500 from March 2009 to the end of last year that would have made a $1 investment in a 0.06%-expense ratio index fund into $3.58, according to Lach.

By Alex Padalka