We at the Motley Fool believe that investing in the stock market is the best path to long-term wealth. But it isn't always easy to stick with stocks. Here to talk about how to manage and stomach all the risks so you can reap the rewards is Ben Carlson. Ben is the Director of Institutional Asset Management at Ritholtz Wealth Management, the writer behind the Wealth of Common Sense blog, the co-host of the Animal Spirits podcast, and the author of five books, including his latest, Risk and Reward, which will be available on May 12. Ben, welcome to Motley Fool Money.
Great. Thanks for having me.
It seems to me that one of the main goals of your book is to convince people that they should invest in stocks. But for that to work out, they have to hold on through thick and thin. The evidence is clear: the US stock market always recovers from previous downturns and reaches all-time highs. But people still need the reassurance, especially during the tough times. Sometimes even I feel like I need the reassurance, especially as I'm getting older and getting closer to retirement. Why do you think people need that constant reminder? Do you think it's mostly irrational fear, or is it more one of those behavioral quirks from when we humans were hunters and gatherers being chased around by lions, and it doesn't make as much sense nowadays?
That's part of it. It's funny. I did the audiobook for this one for my first time. My publishers asked, hey, do you want someone else to read it or do you want to do it yourself? I said, I'll let someone else read it. Then I thought, wait a minute. I do the podcast. Now, I can try this myself. I'm not an actor. I'm not really great at these things. I don't like the sound of my own voice, but I'm going to give it a try. I've got this other person in my ear who's telling me, hey, slow down, speed up, do that word again, try this sentence again. It was an interesting experience. The gentleman who was working with me on the other end, he said, listen, I work for the publisher, but I'm not in the markets at all. He said, your book is terrifying me. Everything is making me very anxious. Hearing all these bad things that can happen, this is scary stuff. He said, listening to you talk about it is making me anxious, but I appreciate you providing either side.
I think this is just something that we can try to get this point across is that human emotions are not good or bad. They're just what we are. Like, we can't really help it. I always say that human nature is like the one constant across all market cycles, and so it doesn't matter how experienced you are with this stuff. You're still going to get those feelings, and that's what I try to convey here is just point out that these things can and will happen, and you have to somehow build them into your plan, just not hope them away that they won't happen at some point. So I think the big thing is just to provide context around people and show that, yes, I still believe long-term investing in the stock market is your best builder of wealth over the long term, just like you said, but you have to get used to these bad things happening along the way, too.
But for what it's worth, I saw it as the complete opposite. I saw the book as very optimistic, very realistic about what could happen, but investing in the stock market is the way to go. I do think that part of the reason, too, is that it's pretty easy for people to look at situations going on and saying, you know what? This time, it's different. During the dot-com crash, we had valuations at the highest point ever, even higher than before the Great Depression. During the Great Financial Crisis, we had the first nationwide crash in home prices, old banks like Lehman Brothers going out of business, the pandemic, the worldwide economy goes on pause. We're sanitizing our groceries before we bring them into the house. Then, today we have AI where we're worried about millions of people losing their jobs and businesses going out of business. Of course, I'm sure many of us have heard the classic John Templeton quote: the four most dangerous words in investing are 'this time it's different.' But it's still hard not to feel that way, especially when sometimes things are different.
It's funny. Templeton actually in an interview before he passed away said, actually, 20% of the time, things really are different. But your point about me being an optimistic person, I've always just been a glass-half-full person, but it felt like everyone's sentiment after the Great Financial Crisis was really beaten down. I had just started my career. I was five years into my career in the markets when the Great Financial Crisis happened and seeing the aftermath of that. I saw all these professional investors that I was working with completely, like you said, this time really is different. What if the stock market doesn't come back, and returns are awful from here, and we're living in the new normal? And that's the market that I grew up in, in the environment, and the sentiment was really beaten down. Everyone was just predicting the next nasty thing to happen, the double-dip recession, and we're never going to come back, and Greece is going to take the world down. Remember the Cyprus bank crisis and all this stuff. I thought, well, the stock market just fell 60%. History tells me that's a pretty good time to buy. I never would have expected we're going to have, hey, a 17-year bull market or something coming off of that. But my point was if you really think that this whole thing is going to go under and not going to come back, then what's the point of investing in the first place? I've always had that more optimistic long-term view, but you're right, you have to be realistic too and understand that the bad stuff comes with the good, and it's two steps forward, one step back when you're investing in the markets.
I think another point, of course, is that we all hate to see our net worth go down. You mentioned loss aversion in the book, which is that concept from behavioral finance which posits that losses hurt twice as much as gains feel good. But you also illustrate that you could be a pretty lousy investor and things could turn out right. Let's turn to a Ben Carlson classic and hear the story of Bob, the world's worst market timer.
Which was the inspiration for the book. Again, this came out of the Great Financial Crisis and people worried. It was funny because in 2013, after four or five years, we finally hit new all-time highs again, coming out of the Great Financial Crisis. It was like October 2007. In 2013, we finally hit it again. At that point, people go, we've seen all-time highs before. Guess what happens? It leads to a crash. I wanted to see, like, fine, let's play the devil's advocate. You are investing right before a calamity. You invest right before the peak. What happens? I decided to use this parable of the guy who's the world's worst market timer. I said, what if he only bought before a 50% crash in the 1970s, the 1987 crash, and right before the dot-com bubble blew up, and right before the Great Financial Crisis? He only bought then, and he sat in cash between then, but he held onto his shares. How would he have done? If he only bought at the peaks, he got crushed right afterwards, but he held on. Over the long term, over 40 years of investing, how did he do? The numbers were shocking, and I didn't even know what they looked like before I ran them. I did this back in 2014, and I tell people this is crazy. I look at my stats for my blog once in a while. Every year, it's still my most-read post. People still read it to this day, more than ten years later. It's funny, that whole concept really resonated with people, like, oh my gosh, you can actually make mistakes, but as long as you extend your time horizon and you keep saving and you keep investing and you don't get scared out of the market. That was the whole point. Don't get scared out, you can actually still have pretty good results. People like that. But the other one was, again, the whole point of this book was, fine, that was in the US. What about elsewhere? What if you were in Japan? What if this? I get a lot of what-ifs from people. What about this scenario? What about lost decades and this? That was the whole point of the book is to go through all those caveats and worries about long-term investing and then provide some context around them. But it is funny how that one piece still resonates with people in good and bad ways. People want to pick it apart, and people want to take it and go, the long term actually is your best friend.
To put some numbers on that, in this scenario, Bob starts saving in the early '70s, retires at age 65, and despite being a horrible market timer, you retire as a millionaire, $1.1 million, which is pretty amazing. On the other hand, if he had instead just been dollar-cost averaging into the market over that time, he would have had more than twice that, $2.3 million.
The point of that was, my big takeaway there is don't try to overthink this and try to perfectly time when I should put money in and when I should take it out. If you just consistently put money into the market and diversify your entry points, that's what I like to say about the beauty of dollar-cost averaging is not only that most people do it because that's when they get paid. They invest when they get paid. People get paid on a set schedule. They don't sit there with lumps of money unless you get an inheritance or something or win the lottery. Most people invest on a dollar-cost-average basis because that's how the world works, and that's how you save over time. You save on a monthly or weekly basis or whatever. But you diversify your entry points. One entry point is not going to crush you if something does go wrong. And guess what? It's also like a very simple strategy that doesn't require a lot of brainpower. It doesn't give you a lot of brain damage of trying to pick the right time. Oh gosh, what if I picked the wrong one? What if this happens? And you don't have to what-if as much anymore when you just spread your bets.
The story of Bob shows that long-term investing historically worked out, and you have all great statistics in your book showing the risk but also the rewards. Are there one or two facts or figures in your book that you hope really stick with people when they're done reading your book?
The one that's always stuck out with me that I've used a lot is I looked at the 30-year returns for the US stock market going back to the 1920s. Let's say you actually picked the very worst. You're worse than Bob. You put your money in right before the worst crash in history, and you put your money in September 1929, the Great Depression. You put your money in there and you hold it for 30 years. How did you do? Reinvested dividends along the way. The worst 30-year return that we've seen over the past hundred years in the US stock market is about an 8% return per year, which is crazy. Now, you had to live through an 80% crash to get there. I don't know how many people actually had the wherewithal and the ability to do that. But it is shocking that even at that worst point in history, you still get like an 800% total return from that point. I think that one is interesting to me.
I really like the Roger Federer stuff. It's funny, I put two tennis people in my book. I'm not a big tennis person. I never played tennis or anything growing up. My dad tried to get me to play. It didn't really stick with me. But Roger Federer said that he won 80% of his matches, one of the greatest professional tennis players of all time, but he only won 54% of his points. Those numbers line up almost exactly with the stock market on a daily basis. The market is up something like 52, 53, 54% of the time. It's only a little better than a coin flip that the stock market is up or down on a given day. But you extend your time horizon and you go out three, five years, now we're talking about, again, being up 80% of the time on an annual basis. I thought that parallel was interesting too, that just the longer you extend your time horizon. I always say that the stock market is the best casino in the world because the longer you stay in a real casino, the worse your odds of success. The house always wins because the longer you stay, their odds are in their favor. And it's the total opposite in the stock market, which is always funny to me when people compare the stock market to a casino because if it is, it's the only casino where the house doesn't win if you stay in longer.
One of the facts that I took away from the book, which is related to that, is that we all know that the long-term return of the stock market is 10% since the 1920s. But the number of years that the stock market actually returns anywhere around 10%, between 9 and 11%, is very low, like three. One of the aspects of investing in the stock market is you don't really know what you're going to get in the short term, but the longer you hold on, your range of returns narrows, which makes it easier to plan for things like retirement.
Yes. I think the number I give that the volatility of returns over 30 years, there's actually a wider range of results in bonds and cash than there is in stocks, which is interesting. You're right. It narrows and narrows and narrows the longer that you hold it for. The other one about the average, I always say that the average stock market return is never average in a given year. I think the average year in an up year for the stock market is 21%, and the average year in a down year is down 13 or 14%. It's a really wide range from any given year, and that's one of the things that makes the stock market so interesting and challenging is because if you could just plan, I'm going to get 10% here, it would make your life much easier. Financial planning would be easier, your emotions would be easier. But if the stock market did that, if it was easy, you wouldn't get the risk premium. The stock market has to be volatile like that to give good returns over time, and that's the thing that gets people is getting too high or too low when things are really good or really bad.
You'd mentioned the Great Depression, and a lot of the data in your book does start with 1928, so it includes the Depression, which was just horrible. It wasn't just one bear market. It was a series of bear markets. Overall, the market's down 86%, as you point out in the book, that after a loss like that, you have to earn 615% just to get back to break even. When you see other statistics about historical returns out there on social media or even from some financial services firms, they often start at the end of World War II or maybe 1950, which I think implies that they think, the Great Depression, that couldn't happen again. But you chose to include it, and you point out how bad it was, you point out that 18 of the 26 worst monthly returns of the stock market happened 1929-1940. So do you include it because you think, well, if it happened in the past, of course, we could have another Great Depression? Or do you think we're probably beyond that, but it's still important to include it because it shows that even long-term investing could survive those horrible returns?
Yes. I think it's worth including because, yeah, it's part of the long term. I think that's interesting, too. Like, hey, the 10% return is inclusive of that 86% crash. But I don't necessarily think it could happen in the US, save for an alien invasion or something. But even if we got attacked by aliens, we're probably going to spend on infrastructure, so maybe that's a boom to the economy. But it's happened in other countries. I think you can look at other countries around the world and have a 70, 80% crash in the stock market. One of the other things I'll talk about in the book is how ownership has changed over time, and that was one of the interesting things I found about the Great Depression is basically, no one owned stocks back then because people couldn't really afford it. There wasn't a lot of disposable income. The number I found was like 2-3% of households even owned any stocks in the Great Depression. It's a misnomer that everyone lost their shirt and got crushed in the stock market. It was more of the economy that really crushed people back then. I think the fact that the stock market is more important these days, and we've seen that in a crisis period, the Fed and the government is willing to throw the bazooka at these problems. I guess you could say, well, maybe if they didn't do that, then all bets are off. But I think it would be hard to have that happen again. But if you're a globally diversified investor, could it happen in another smaller country if you are exclusively in that country? That probably could happen. They may not have as diversified an economy as we have, or have a central bank that was willing to do this with the global reserve currency. But it's part of the history, and maybe part of the reason that we don't have a Great Depression anymore is because we lived through it already. The reason that we had such high fiscal stimulus in 2020 with the pandemic, I think, is because we lived through 2008. I think there is some market knowledge that builds on itself, and then you wonder, well, are you just transferring these one risks to other risks? That's the thing I talk about in that chapter is these normal accidents, trying to make these complex adaptive systems safer. All it does is you move risk from one thing to another, and it just manifests in different ways.
The phrase long-term has come up a bit in our conversation, and it's in the subtitle of your new book. But what does that mean for you? What's the timeframe for you for which someone says, I need money in this number of years, and you'd say, oh, well, that should be in cash, or I can leave it alone for this number of years, you're probably going to be okay in the stock market? I'm sure there's a bit of a gray zone in between those two.
Yeah, I think it's something like, probably if you need that money in five years or so, it probably shouldn't be in the stock market because you can have really bad returns over a five-year period. Most of the time, the stock market is up over a five-year period. But I think if you're talking about something like a down payment for a house or something, or a wedding, I think you've got to be pretty careful and at least have some diversification there. I talked about in the book, too, that having an offset to the stock market is a good idea, so you're not selling stocks when they're down. I think that's a pretty good rule. Some people would say, that's way too conservative. What are you talking about? I can handle that, and maybe it is. But I think personally in terms of a barbell, if you need to have that money, I don't want to be in a position to sell stocks when they're down and be a forced seller at a bad time because I think that's the whole thing about stocks in a bear market, if you have the ability to extend your time horizon, not just buy more in a bear market, but just let it ride and not have to sell, I think that's a big part of it. I think long-term for me is 5-7 plus years, something like that.
You've touched on international investing a little bit and mentioned Japan. I'm about, I don't know, 15 years or so older than you. I was a teenager in the 1980s, which was just a fantastic decade for Japan. I remember all the headlines back then about how Japan was taking over the world. There was worry that the US would be surpassed. American companies were being encouraged to take on Japanese business practices. Japanese companies were buying up real estate like the Rockefeller Center and companies like Firestone. But then things changed in 1989. The Japanese stock market plunged and didn't get back to its previous high until relatively recently. You devote two chapters to Japan in your book. Tell us a little bit about how crazy things got and what you think the lessons for investors are when they look at what happened in Japan.
When I went to go title this book, I jokingly said to my publisher that I wanted to call it 'Noh Japan.' It would have been a little too inside baseball, I think, but that is the one thing I hear all the time from people over the years when they push back against the idea of long-term investing because I'm a big proponent of long-term investing, and I'd say in the book that buy-and-hold investing is not like a perfect strategy. Like, it's just better than all the other ones. That's the way that I feel. Everyone always says, okay, fine, great, buy-and-hold works, but what about Japan? I go through to show that, yeah, I really do think that was the biggest financial bubble of all time because it wasn't just the stock market that was trading 100 times earnings. It was the real estate market, too, as you mentioned, the numbers that I share in there are just hard to believe. It's funny because the Japanese, traditionally, they don't get as high and low as we do. They're pretty even-keeled people. They have these long-term businesses that have been around forever, and they don't really have these booms and busts as much as we do. The fact that they got pulled into it just shows how strong that can be, that human nature piece. Yeah, you're right. They didn't have a lost decade. They had a loss like 3.5 decades. It was really until last year that the Nikkei finally broke above it. People always say, okay, fine, smart guy, what about the Japan situation? I show that yes, since 1989, 1990, the situation in Japan has been pretty dire. It is interesting, though, that there's not huge financial strife in Japan because of this. They increased their savings. They maybe had more money in cash. Families helped out. They also invested in bonds. If you were a globally diversified investor, you barely notice it. Even though Japan was almost half of the world market cap at the peak in 1989. It was bigger than the US stock market. Then it went all the way back down to 5%. It went from the biggest stock market in the world. Imagine if that happened to the US right now. We went from 65% of the global market cap to 20% or something. You'd think, what happened? How did the rest of the world go on? If you look at just the MSCI All World, it still did 9% a year with that happening. Again, inclusive of that. I did it in the book, if you extend Japan back to 1970, when the MSCI indexes start, you earned almost 9% per year. Maybe I'm extending my definition of long-term. You asked me in the last question. But over the long term, Japan's returns have been pretty good. It's just that they compressed those returns in such a short period of time that mean reversion had to rear its ugly head, and you put the really bad period with a really good period, and it evens out. It just depends. Were you lucky enough to invest in the good period, or did you have bad luck that you invested in the bad period? How do you reconcile that?
