A Guide To Your Stock Market Returns
If you’re new to investing, you might be wondering what kind of returns you can expect to make in the stock market. If those numbers aren’t acceptable, what might be more appealing alternatives?
I’ve seen with publicly traded stocks that often, there is a disparity in advertising and the expectations most have, compared to their true returns. If you don’t know what you are really getting, the results can be far off right when you need them most, such as if you hit retirement and are counting on a certain level of assets or income. By then, it is far too late to make up for it without taking on extreme risks.
This is why I’ve developed a guide for business leaders who are looking to diversify their portfolios but aren’t sure what to expect.
Myths And Misconceptions Of The Stock Market
I believe most of us now recognize that the public stock market is not as safe, steady or independent as we might have once felt. It’s hyper-emotional and volatile; it is influenced daily by big money managers and through the media, and previous economic crises have shown there is really no floor to the potential downside.
I’ve seen doctors and business owners make and lose millions of dollars in the market. The main concern is that it isn’t always as profitable as many individuals are told. Net returns can be quite different than advertised. So, what level of returns can those participating in this asset class realistically expect?
Stocks are sold to investors based on their historical average returns. Unfortunately, there is little clarity on how these averages are formulated. You might often hear that the stock market can deliver reliable annual average returns of 10% over the long term, but does it?
Take the S&P 500: According to CNBC, the S&P 500 has only seen a gain of 9.8% over the past 90 years. Obviously, few of us have been investing for 90 years, so what about someone who started investing just 20 years ago? According to this Forbes report from November 2018, the average annualized return is only 4.5%.
The reason advertised “average” returns can become inflated is because they don’t factor in losses. For example, if you invested $100,000 and the market went up 50% one year, you’d have $150,000. But, if it goes down 30% the following year, you are back to almost zero returns (and you could be negative if you incurred any costs). If the market had gone down 50% that first year, you would have only had $50,000 in investment capital left. A 20% gain the next year would only put you up to $60,000; you still would be deep in the hole. Even if it repeated that amazing trajectory the next year, you’d still only have $72,000 in your portfolio. Still, a loss of over $25,000.
As a business owner, failing to understand how these averages are figured can mean your portfolio far underperforms your expectations or you’re investing money in the wrong things. This, in turn, can put your business at risk if your personal finances are struggling. It could also impact your whole organization should your employees’ retirement plans fail to deliver on expectations.
What To Do With This Knowledge
With this information in mind, I believe it might be wise to split your portfolio and put half in something considered “safe,” such as a certificate of deposit (or CD) because it has more of a guaranteed return and is insured by the FDIC. The other half of your portfolio can be put into alternative investments with more upside potential. Think hard about portfolio diversification, because few can really do well when only investing in the stock market.
When investing, business owners and entrepreneurs need to keep in mind their ultimate financial goals, and balance risk and returns with liquidity for when they might need to access their money.
Because your income as an independent professional might not always be consistent throughout the year, and you are busy, it can seem easy to just dump money into stocks or abdicate any decisions. But that approach can come with a heavy cost.
It’s worth taking the time to make intelligent investments that really have the ability to deliver on the outcomes you need. Just one great investment can be worth more than a lifetime of work (although that probably isn’t going to be found in the public stock market, or we’d all be multimillionaires).
What about all of these IPOs?
It seems to be the season for initial public offerings. Some companies — such as those that are scaling with real profits and sustainable business models — launching into the stock market might seem like great lottery tickets to cash in on. For others, going public could be a sign the company has matured and peaked; they want their money out.
This is why I believe it could be wise to consider investing in a business pre-IPO and cashing out a good portion along with this smart money in the public debut. Keep a limited number of shares, just to hedge your bets and not miss out for the long term.
What about my 401(k) and IRA?
The majority of participants in the public stock market are there by default. They’ve been contributing through 401(k) and individual retirement account plans, often with little knowledge of what they are invested in or why. Change can seem like a pain. But it can be a lot more painful and expensive to ignore the issue, just like putting off going to the dentist or doctor.
Know that these plans can be rolled over to self-directed versions, allowing investors to retain the same tax advantages, while enjoying a wider variety of sound and more profitable investment choices.
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