Magazine article American Banker

Verbatim: Long- and Short-Term Payoffs of Playing the Stock Market

Magazine article American Banker

Verbatim: Long- and Short-Term Payoffs of Playing the Stock Market

Article excerpt

Recent volatility in the stock market has prompted much analysis of how equity holdings fit into investors' portfolios.

Peter Yoo, an economist with the Federal Reserve Bank of St. Louis, compared long- and short-term equity investing in the October issue of its newsletter, National Economic Trends. His article is excerpted here.

Many people have reevaluated the share of equities in their portfolios as a result of recent stock market fluctuations.

In their deliberations, most undoubtedly encountered this advice: Invest in equities for the long term and ignore the short-run fluctuations of the stock market because stocks offer a higher rate of return than many other types of investments.

Many have heard a corollary: Investors with short investment horizons should lower their exposure to the volatility of equities.

Historically, holding an investment in equities for a long horizon has lowered the risk of losing money.Monthly total returns-that is, investment returns including reinvested dividends -on the Standard & Poor's 500 composite index averaged 0.8% and had a standard deviation of 4.1% between 1871 and 1998.

So an investment in the S&P 500 held for one month would have lost money nearly 40% of the time, but one held for 10 years would have lost money less than 2% of the time.

However, as noted by Paul Samuelson 35 years ago, lengthening the investment horizon does not reduce all of the uncertainties associated with equity investments.

Although a long investment horizon decreases the probability of losing money, it does not reduce the variability of an investor's portfolio value. …

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