It still surprises me how many people don’t clearly understand where a return on investment comes from.
Let’s take the equity markets. Many people understand that stock prices increase and decrease over time. But what they don’t seem to realize is why they actually move in the first place.
Now speculation plays such an important part in the pricing of securities, however if you take a long term investment time horizon all you are left with are…
Earnings and Dividends.
Yes the earnings multiple may adjust over time higher and lower depending upon the feelings about the overall economy and forecasted GDP growth. But in the end all you are buying whether you buy an entire company or a single share is your respective proportion of, that’s right, the earnings and dividends.
Nothing else matters.
You’re welcome to speculate on whether the earnings and dividends will increase or decrease over time. That is the whole game isn’t it. But over time investors will only be paid from the real return of those two sources.
For example… the top 500 companies in the US are certain to increase their earnings overtime….I mean that is why they are the top 500 right…..then an investor should understand that they will only receive the earnings growth and dividends as a return from those companies when investing into the S&P500 Index.
Now throughout history the average earnings growth of the S&P500 has been between 5-6% with dividends ranging between 2-3% on average.
Add those two figures together and that is realistically what you should expect for a long term return on the stock market.
7 – 9 %
Everything else is speculation and involves added risk.
It’s important then to understand that the higher the return over the mean average of 7 – 9 % the greater the probability that the investment portfolio will provide a lower return in the near future. Subsequently the lower the return below the mean average the higher the probability of obtaining a greater return in the near future.
And yet, so many investors overlook these fundamentals.
It is only speculation that creates wild bull and bear markets.
Earnings and dividends cannot be created by waiving a magic wand. They need to be truly earned.
By their very nature, markets will rise over time….But only by the rate of real earnings growth and dividends paid…Also known as “productivity.”
It is your job as an investor to ensure your wealth advisor is actually gauging whether the investments you own inside your portfolio are above or below the long term mean return and prepare accordingly.
Precedence Capital / Gravitas Securities Inc. –
The views, opinions and positions expressed by the author and those providing comments on these blogs are theirs alone, and do not necessarily reflect the views, opinions or positions of Gravitas Securities Inc.