The Role of Luck in Investment Performance

By on August 3, 2010

According to Sam Mamudi at The Wall Street Journal, many investors don’t recognize the influence that chance plays in investment results. Over a 30 year time horizon, investors in index funds can have extremely widely varying results depending on when they begin investing. The WSJ commissioned Ibbotson Associates to perform some analysis. Using a hypothetical portfolio of 60% stocks and 40% bonds that rebalances each year they found:

…a tremendously wide range of returns for various 30-year periods. For instance, $100,000 invested in 1946 would have grown to about $1.15 million in 1976, but the same amount invested in 1976 would have delivered about $2.27 million in 2006.

But those are totally different time periods. An even better illustration of the random nature of returns is their range in periods that largely overlap.

For instance, $100,000 invested in 1925 would have yielded about $1 million 30 years later, while the same amount invested in 1927 would have grown to only about $760,000 by 1957. And an initial $100,000 investment made in 1964 would have yielded $1.47 million in 1994, while that investment made in 1965 would have grown to about $1.78 million in 30 years.

Mamudi continues the article with ways investors can avoid pitfalls sabotaging their results.

SMA Comment: Although the article makes many good points, it doesn’t mention the negative influence that inflation would have on investment results. It’s possible that an ending balance of $1 million after 30 years of low inflation might be worth more than $2 million in a highly inflationary environment.

Source: The Wall Street Journal
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One Comment

  1. jane

    August 9, 2010 at 6:25 am

    Aw, this was a really quality post. In theory I'd like to write like this also – taking time and real effort to make a good article… but what can I say… I procrastinate alot and never seem to get anything done.

    stocks

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