The American Exception And The Future Of The Stock Market

When someone is first introduced to stock market investing, they will often hear that stocks are supposed to return 10% annually over long periods of time, and this is the reason why it is worth seeing your paper worth fall by 50% at three or four different points over the course of your lifetime. People who are critical of this information say it is misleading because it promotes survivorship bias—the survivorship bias being that the United States is a highly fortuitous country because it spent the past 200+ years transitioning from being a ward of the English empire into becoming a standalone empire with a $17 trillion market of goods. People are right to wonder whether the results of the United States since 1800 are something that the United States can replicate in the future, and/or whether other countries will be able to replicate that success in the future.

First, the data points: From 1800 through 2014, a diversified collection of large American stocks returned 6.5% while inflation ran at 3.8%. In other words, the stocks returned 10.3% annually on paper, but inflation over time ate into the returns so that you saw purchasing power increase at 6.5% per year as your typical reward for risking your capital. You might be surprised to learn that, over the past two hundred years, the stock markets of Canada, New Zealand, and Sweden performed in line with the United States, and the stock markets of Australia and South Africa performed much better than the U.S.

The global average meanwhile, delivered 5.7% annual returns while experiencing 3.5% inflation. In other words, if the Vanguard Global Stock Market Index had existed for the past two hundred years, and if you had lived in a country with the average inflation rate of 3.5%, you would have seen 9.2% annual gains on average over your lifetime with your purchasing power actually increasing at that 5.7% clip.

What are the implications of this? Some people write as if the United States experienced an unprecedented boom these past two hundred years (which is true) but also write as if the American success story is so rare that nothing else can be extrapolated. I don’t see it that way—even if the United States experienced a peerless growth period throughout the 20th century, it still only manifested itself in the form of 0.8% superior annual gains (and when you include the fact that the United States had a higher inflation rate than the rest of the world), we are only talking about a 0.5% edge over long periods of time.

People who fear about future growth often underestimate the role that productivity gains and the growth of the global population play in delivering ever-growing future returns. If anything, the concern should be about the labor markets rather than the stock markets—businesses will do just fine; in fact, they will be able to receive ever-greater returns from lower and lower human input. We will have a jobs problem, not a corporate profitability problem.

Looking forward, even if America loses that half a point edge that propelled such exceptional returns over the past two hundred years, a reversion to the mean principle would still give long-term investor returns somewhere in the 9.2% ballpark (5.7% after subtracting inflation). For someone who spent 30 years investing $500 per month, we’re still talking a million bucks. And if the prospect of reversion to the mean bothers you, there is still a matter of picking excellent companies that deliver superior returns. A portfolio of Visa, Disney, Becton Dickinson, and Nike will get you better results provided you pay a rational price at the time you acquire ownership.