Don’t Count Your Chickens Before They Hatch: The Fallacy of Assuming a 10% Market Return

Introduction

One of the most common beliefs in the world of investing is that the total market return will, in the long run, be over 10%. This assumption is often based on the findings of the 75-year Ibbotson/Chen study, which has been touted as a major source of evidence supporting this claim. However, a critical analysis reveals that this study fails to address important implications of its starting and ending points, as pointed out by the Bernstein/Arnott rebuttal.

The Ibbotson/Chen Study

The Ibbotson/Chen study, conducted over a 75-year period, has been widely cited as evidence that the total market return is likely to be over 10%. The study analyzes the performance of various asset classes over the long term, concluding that stocks have historically provided an average return of around 10% per year. This has led many investors to believe that they can expect similar returns if they invest in the stock market.

The Bernstein/Arnott Rebuttal

However, critics such as Bernstein and Arnott have pointed out a major flaw in the Ibbotson/Chen study. They argue that the study fails to account for the implications of its starting and ending points. By cherry-picking specific time periods to analyze, the study may have inadvertently skewed its results. In reality, the average market return can vary significantly depending on when you start and end your analysis.

Implications for Investors

For individual investors, the assumption of a 10% market return can have significant implications. Relying on this assumption may lead investors to take on more risk than they can handle, or to overestimate their expected returns. It is important for investors to conduct their own research and analysis, rather than relying solely on historical data that may not be applicable to current market conditions.

Impact on the World

At a broader level, the belief in a 10% market return can have implications for the overall economy. If investors base their decisions on unrealistic expectations of high returns, it can lead to market bubbles and crashes. This can have far-reaching consequences for the economy as a whole, affecting everyone from individual investors to large corporations and governments.

Conclusion

In conclusion, while the Ibbotson/Chen study may suggest that the total market return will be over 10% in the long run, it is important to take these findings with a grain of salt. The critical rebuttal by Bernstein and Arnott highlights the need for a more nuanced understanding of market returns, taking into account the complexities and uncertainties of the financial world. As investors, it is crucial to stay informed and approach investing with caution and diligence.