Valuations ='s
Investment Returns
The Arithmetic of Risk
John P. Hussman, Ph.D.
President, Hussman Investment Trust
President, Hussman Investment Trust
March 2018
It is exactly in this sense that lengthening the horizon creates a less risky portfolio. On a very long horizon, the effect of amortizing overvaluation or undervaluation just isn’t very large. Unless valuations are an extreme distance from their norms (as they are today), the effect of economic growth and dividend income is much stronger in determining total returns.
On shorter horizons, though, changes in valuations have a far more powerful impact on investment returns. So market returns over a small number of years can experience enormous swings, but average annual returns appear much more stable when we examine a very long investment horizon.
DYI: The
duration of the market – how long common stocks need to be held to achieve the
markets long term return – is measured by the inverse dividend yield. Today’s dividend yield is 1.80%; the inverse expressed in years is 56 (rounded). [(1/1.80
x100=56(rounded) years.)] Lump sum
purchase of stocks or hold your present position going forward it will take you
56 years to achieve the long term return [what ever that will be] of the
market. That’s all fine if you have well
heeled Grandparents who deposit a tidy sum into an S&P 500 index fund and
you are drinking out of your sippy cup watching Barney. Then everything will work out just fine [5
years old + 56 = 61] just in time for retirement. Well if pigs could fly everything will work
out just grand. In other words
valuations matter over the shorter term [10 to 12 year lengths] a great deal.
DYI measures our three uncorrelated assets –
stocks, long term bonds, gold [precious metals mining companies] based upon
their corresponding long term (since 1871) averages. Simply put when valuations are low that asset
will have a higher percentage as compared to the remaining two [cash is our
default position] and when they are way above that asset will have very little or in
extreme cases of massive overvaluation none.
Bull Markets!
You do not have to rely on one asset category
– such as stocks – to provide your returns.
During any 5 or 10 year periods of time at least one of these assets
[sometimes 2] will be in a bull market.
Today U.S. stocks are massively overvalued to the point of absurdity thus
DYI’s formula has kicked us out of the market and rightfully so. However due to the massive sell off of
precious metals mining companies DYI model portfolio has a 31% position. Gold and other precious metals have bounced
off their bottom thus increasing the profits for these mining companies thus
making their shares more attractive to buyers pushing up prices. All told there
is bull market somewhere.
Updated Monthly
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