If you haven’t checked your investment returns in a while, good on you. You’ll do better than most people who are checking their account values multiple times a day. With that being said, right now would be a great day to check your account. Both the S&P 500 and NASDAQ are at all time levels, meaning that most people’s accounts should also be near all time highs.
Going back a year, we were right at the top of what started the rollercoaster ride that was 2020. We were cresting over the top of the hill before the big drop, except we didn’t even realize we were on a rollercoaster. COVID-19 started to be on people’s radars across the globe, but the stock market was at an all time high. Nobody knew the market was about to drop 30% by mid March.
As quickly as the stock market lost 30% of its value, it returned back to the levels before COVID started at a similar rate and has rocketed through the previous high. Most of this growth was driven by the technology stocks that weren’t nearly as affected as other industries like travel and hospitality.
There have been plenty of articles written about the flood of money into the stock market with people staying at home looking for something to do. I think the more participation in the stock market the better. Investing in stocks is an excellent way to accumulate wealth over time. The key part of that phrase is over time. The growth in the stock market we’ve seen since March of 2020 is an outlier. Stocks generally don’t go up as quickly as they have over the past year.
Even if you bought right at the top before there were significant drops in the market on 2/14/20, you would be up 16% today. A 16% return is an above average year from the stock market, but we were able to do it with the stock market crashing 30% during the previous year.
To emphasize this point even more, if the stock market loses 50% of its value, how much of its value does it need to regain to get back to even? If we start at $100 and we lose 50%, that means now we have $50. Making that money back is even harder. If you made 50% on $50, that means you are back up to $75. You actually need to double your money (making 100%) to get back to $100 from $50 – this is some pretty unfair math!
The phrase a rising tide lifts all boats is how I feel about this current market. I feel like anyone could blindly pick a stock, specifically in the tech industry, and feel like they can’t miss on their stock picks. I’m not trying to excuse myself from this because I’m 100% in this crowd. There has been only one new addition to my portfolio which I’ve lost money on in the past year. It isn’t because I’m a stock picking prodigy, it’s because pretty much everything has gained value at a quicker rate than the historical average. I want to make sure this euphoria around investing is properly tempered before people go overboard feeling invincible. It can be a dangerous game playing with leverage and options when the market isn’t on a historic run.
I wanted to do a little experiment showing how easy it has been to make money this past year by randomly selecting a basket of 10 stocks. I wanted to show that just randomly selecting stocks could generate a fantastic return. A pool of 10 randomly picked stocks could do as well as someone who hand picked their stuff.
I used two indexes for the pools of stocks which I randomly selected – the S&P 500 and the NASDAQ 100. The S&P 500 is the “market” that everyone compares their performance to, but the NASDAQ 100 is a very tech heavy index of stocks that most people gravitate to now. I randomly selected a portfolio of 10 stocks 100 times and I calculated the yearly return if you equally distributed your money between those 10 stocks. I then average the returns of the 100 different portfolios. I also wanted to compare these returns to previous years, I looked at yearly returns using Feb 12 as my starting point. For example, the 2019 return would represent the time period from 2/13/2018 to 2/13/2019.
What I found wasn’t surprising, we have been in a historic bull market and the returns show it. The average historic return of the S&P 500 is around 10%. We have seen significant growth above that number in recent years and the table below shows it. It also shouldn’t come as a surprise that the technology stocks outperformed the general market and the NASDAQ 100 really blew the S&P 500 out of the water this year.
For the most part, 10 randomly picked stocks were in the same ballpark as the average return of the index. It should be of note that these indexes are market cap weighted, meaning that the largest companies have more of an impact on the performance of the market. If Microsoft does well, it would drive the overall performance of the index more than a smaller company because Microsoft takes up a larger share of the pie that is the S&P 500.
I thought it would be interesting to see these portfolios of 10 stocks distributed on a histogram. Looking at the stocks in the S&P 500, most of the portfolios do fall somewhere between a 5-30% return, which is reflected in the average return across the 100 portfolios. We can also see that 2017 has a fairly large tail to the right which brings up the overall average compared to other years.
In my opinion, the NASDAQ histogram is pretty crazy. Look at all of the blue which represents returns from 2021. There are a considerable amount of portfolios that returned over 60% in one year! Once again, this wasn’t a portfolio of options or on margin, these were randomly picked stocks.
The graphic which might be even crazier than the NASDAQ portfolio one is one of the individual returns of the stocks in the NASDAQ 100. Moderna leads the field gaining over 800% in one year! There are also a considerable amount of stocks that doubled this past year. Also, keep in mind that these numbers are right at the top before the 30% decrease in March, so could you imagine what this chart might look like if the prices were taken from the bottom?
To keep things in check, I also wanted to see how the performance of the stocks that make up the S&P 500 compared to the NASDAQ 100. Tesla leads the charge as the biggest winner gaining over 400% from February 2020 to February 2021. It was also interesting to see the considerable increase of the stocks which had lost value in the year compared to the NASDAQ.
In summation, I put myself into check while writing this post. I had a bigger head than necessary thinking that all of my stock picks were great. I have returned 54% since February 2020, which is fantastic, don’t get me wrong. I have significantly beat the S&P 500 and have performed better than the NASDAQ 100 during that time, but not by nearly as much. In fact, the randomly selected portfolios actually did better than me returning 56%.
We need to realize that we will not see this growth forever. Enjoy the going while it’s good, but have a healthy amount of respect for things being able to turn on a dime. Just like we didn’t see COVID coming, there could be something else around the corner. With that being said, I’m still confident that investing in stocks will continue to generate wealth in the long term. Keep investing regularly and you’ll be very pleased 30 years into the future. A rising tide raises all ships, and we are experiencing a flood of extraordinary proportions. Don’t let your previous returns overextend yourself.
Peace and Love.
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