by Bob Brooks
November 13, 2014
Nationally Syndicated Talk Show Host Dave Ramsey has made a startling claim early this year. He claims that you should expect an average annual return of 12% on your stock market investments going forward. In a piece that he wrote, he says the following:
“When Dave says you can expect to make 12% on your investments, he’s using a real number that’s based on the historical average annual return of the S&P 500. The S&P 500 gauges the performance of the stocks of the 500 largest, most stable companies in the Stock Exchange. The current average annual return from 1926, the year of the S&P’s inception, through 2011 is 11.69%. .
So you can see, 12% is not a magic number. But based on the history of the market, it’s a reasonable expectation for your long-term investments. It’s simply a part of the conversation about investing.”
Then he makes this dangerous claim:
“In investing, we can only base our expectations on how the market has behaved in the past. And the past shows us that each 10-year period of low returns has been followed by a 10-year period of excellent returns, ranging from 13% to 18%!”
My main problem with him cavalierly making this claim is the disregard of his role as a trusted educator versus making that claim while concurrently educating investors on the psychology of investing. In other words, give the upside if you believe that. However, explain the traps that could go along with thinking that way.
When it comes to investing, investors have the deck stacked against them primarily because of the whole psychology that surrounds investing. Here are some examples of beliefs that could form just from him making this statement:
If the market is going to make 12% a year, then…..
I don’t have to worry about risk if I am going to get that average.
I don’t have to pay as close attention.
Great now I don’t have to worry about running out of money.
I can put my investments on auto-pilot.
If the market is going down, it is ok.
If Dave Ramsey said it, then it must be true.
It is the human nature psyche of most investors to want to just assume that everything is going to work out. They don’t want to make high stake decisions. They don’t want to make mistakes. If the market is going to make an average of 12% return, then there isn’t anything to worry about.
Does the past guarantee the future? Actually, if you talk to regulators (individuals that he does not have to comply with) they would say NO and they make sure every investment piece has the statement printed on it – Past investment results don’t guarantee future results.
Well, no one can guarantee that to be the fact. Further, it is a dangerous assumption to make. Do you think that in a world where global debt is 158 TRILLION dollars that the future is going to look a lot like the past? I wouldn’t bet on it. Second, it is an even more dangerous mind sight to continue once you get close to and are in retirement.
What would possess someone with his influence to make that general of a statement is beyond me. I would recommend keeping your assumptions much lower. If there really is pie in the sky and he is right, at least you will be surprised on the good side versus being blindsided by reality.