Study the table of asset class returns below. It is one of the most important graphics you’ll ever see in investing.
Created by Vanguard [1], the table ranks several of the main asset classes [2] by historical performance [3] – from best to worst – for each of the past 15 years.
- For instance, you can see that in 2014 North American equities were the best performer, delivering a return of 19.6%.
- The worst performer that year, and thus at the bottom of the 2014 column, were European equities. They returned just 0.2%.
The different asset classes are differentiated by colour.
[4]Click to enlarge this table of historical asset class returns.
Source: Vanguard
Hunting high and low
Even without enlarging it you can see the table looks like a patchwork quilt embroidered by a drunken colourblind sailor in the dark.
One year’s winners can be bottom of the class just a year or two later.
Yet equally, sometimes the best performers continue to do better for several years in a row.
This volatility [5] is what makes tactical asset allocation – that is, trying to chop and change ahead of the market – so tempting, and yet equally so difficult.
It’s also why most people are better of not bothering with such second guessing [6].
A bit of what you fancy does you good
With a well-diversified [7] and occasionally rebalanced passive portfolio, you’ll always have some money invested in the best performing assets in any particular year – albeit at the cost of holding some losers.
And by tweaking your allocations according to your risk appetite [8] – as opposed to doing so to chase higher returns – you can influence the overall volatility.
The big win of this balanced portfolio [9] approach is if you avoid being the schmuck who sells everything when your ultra-risky portfolio plunges in a rough year.
The table shows many instances when hot money would have had a bucket of cold water thrown over it in the following 12 months, scaring many investors into selling – only for the asset class to bounce back the year after that.
It’s the reason for the so-called behaviour gap [10], which is the repeated observation that real-world investors do much worse than asset class returns would imply.
It’s all due to their woeful attempts at market timing their way in and out of the best investments.
Look at the table again and imagine trying to actively dance your way through its highs and lows.
Do you feel lucky? Well, do you?
Note: I’ll be back later this week with more thoughts on the asset class returns table and tactical allocation strategies, so I am turning the comments off until then.