According to Rob Arnott’s recent article to be published in the Journal of Indexes, bonds outperformed stocks as an asset class from 1968 through today. (You can read a condensed version of the article here.) That’s interesting news for those of us who have always been skeptical of the stock hounds. Dr. Jeremy Siegel said in his book Stocks for the Long Run that stocks reliably outperform bonds over a sufficiently long time horizon and so, Siegel argues, you really shouldn’t bother with bonds at all.
I was critical of Dr. Siegel’s advice in my book because, along with bonds, he has a long history of being critical of gold investors. For Siegel, and most conventional investment professionals, they have but one tool in their tool box; for them, it’s always a good time to invest in stocks and never a good time to be invested in bonds or gold. I’m always pleased to see when my criticism of an idea was well placed, and I so I find Rob Arnott’s article rather vindicating. Bonds outperformed stocks over the last fourty years, which begs the question of exactly how long a time horizon you need to be invested for Dr. Siegel’s advice to be holding true. For most people, fourty years is longer than their investment time horizon.
This forty year time span wasn’t actually the longest time period where bonds outperformed stocks. Going back all the way to 1802, there was a 68 year period (from 1803 to to 1871) where bonds also outperformed stocks. What’s even worse news for the stock hounds is that the news is just going to get worse from here. We’re not finished with this stock market decline yet, and as more time passes with the stock market showing no real return, the value of stocks compared to other assets will get poorer and poorer. Of course, bonds may not be the place to be either over the next few years. If we see a period of massive inflation as I’m predicting, then bonds will also see their returns suffer. What will prove its value over such a time period would be gold, which will prove its worth as a financial asset class in its own right.
The study points to something else going on in the economic system:
Bill Bernstein notes that in the last century, from 1901-2000, stocks rose 9.89% before inflation and 6.45% after. Bonds paid an average of 4.85% but only 1.57% after inflation, giving a real yield difference of almost 5%. In the 19th century the real (inflation-adjusted) difference between stocks and bonds was only about 1.5%.
The predominant different between the 19th century and the 20th would be the added presence of the Federal Reserve. The Fed typically tries to keep interest rates low in order to stoke inflation. In so doing, they would also be making the bond market less attractive, because bond market returns are directly correlated to prevailing interest rates. Thus we seek from this study exactly what we’d expect to see given the presence of our inflationary central bank: higher inflation across the board and a wider margin between stock and bond performance.
But it seems that these differences were rather ephemeral. Yes stocks did outperform bonds for much of the 20th century, but as soon as you tack on the first decade of the 21st century, that no longer holds true. This points to yet another failing of the Keynesian system. True wealth can not be created out of thin air and anyone who is merely aligning himself to reap the bounty of added paper money by investing in the stock market will eventually has his hopes dashed. It’s a lesson that goes all the way back to ancient days; you sow the wind, you reap the whirlwind. Thousands of years later, it hasn’t changed.
To me this study defeats a lot of tenants of conventional macroeconomics:
All of these lessons can be clearly understood if we examine economic history (as this study does) and compare it with the rhetoric that economists, politicians, and bankers were peddling at the time. All of those ideas can now be revealed to be nothing more than half-truths or outright lies. Unfortunately, that does not seem to have decreased their popularity. You know what they say, those than are ignorant of history are doomed to repeat it.