Assets Over the Long Run, Kristopher Carroll - Carroll Financial
March 29, 2021

Assets Over The Long Run

Author: Kristopher W. Carroll, CFA®, CFP®

One of the most common educational props in the financial planning world is a graphic known as the Callan Periodic Table of Investment Returns.  The table is constructed in various ways with annual returns or monthly returns, but the result for those shorter time periods is always the same as vividly illustrated below. 

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As you can see from the yearly and monthly return chart, the rank order of different asset classes is always random.  These are color coded and the top boxes are the highest performers while the lower boxes represent the worst returns.

Can you discern any patterns here?  This illustrates that we really cannot predict whether international stocks will outperform domestic large cap or small cap stocks in any given year or whether any of them will outperform various bond investments over the next 12 months.  This also explains one of the reasons why professionals recommend diversified portfolios.  We simply don’t know from one year to the next what is going to perform better. Being well diversified means that you will probably own some things that work well and others that don’t.

But the interesting thing is that if you look out over longer time periods, the returns are not nearly so random.  Stephen Huxley, a professor of business analytics at the University of San Francisco, constructed the same chart over rolling 30-year periods.  He found that small cap stocks and value stocks nearly always finished with the highest returns.  You can see from the long-term periodic table below that real estate investment trusts consistently fell in the middle of the pack and bond investments alternated places at the bottom. 

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What does this mean?  The striking consistency of this simple chart is strong evidence of something that is talked about by professionals, but never actually proven.  It is the notion that over longer periods of time, returns become more consistent and predictable than during shorter intervals and that certain asset classes consistently provide more upside potential than others.  A simple way to think of it is that as an owner of companies (buying stocks), you will eventually earn higher returns than if you are a lender to companies (buying bonds).  You just have to wait long enough for the trend to play itself out.

Does that mean we should throw away the idea of diversification?  Of course not.  But it might mean that if you have a long enough time horizon, you have a decent chance of earning higher returns if you overweight certain categories of stocks and underweight bonds.  You should still hold both and rebalance each year, which raises the odds of experiencing a smooth investment ride while you wait for the asset returns to sort themselves out over time.

Bottom Line: We all have opinions about what will work best this year or the next and during other years we might question the benefits of diversification. However, in the short run diversification controls volatility and in the long run stocks tend to outperform.

Chart 1: 
Jay Kloepfer, Capital Markets Research – The Callan Periodic Table of Investment Returns – Callan Institute
Chart 2: The Illusion of Extrapolating Randomness from Periodic Tables by Stephen J. Huxley, Ph.D. Chief Investment Strategist, Asset Dedication, LLC and Professor of Business Analytics, University of San Francisco Brent Burns, MBA, President, Asset Dedication, LLC

Required Disclosures:
Registered Representative offering securities through Cetera Advisor Networks LLC, member FINRA/SIPC.  Advisory services offered through Carroll Financial Associates, Inc., a Registered Investment Advisor.  Carroll Financial and Cetera Advisor Networks are not affiliated.
For a comprehensive review of your personal situation, always consult with a tax or legal advisor. Neither Cetera Advisor Networks LLC nor any of its representatives may give legal or tax advice.

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