Historical statistics show that, despite market volatility, equities tend to provide investors with solid returns over the long term. But do they outperform the other asset classes?
To get a general idea, investment professionals make a practice of studying charts like the one below. As we can see, the diagram places the main asset classes in order of rank based on the returns they generated in each of the years in question.
Looking at this chart, we can make a number of observations.
There are equities… and then there are equities
First observation: when we talk about the “stock market,” we are in fact referring to an asset class that contains many sub-classes: Canadian equities, U.S. equities, emerging market equities, etc. Similarly, stocks can be classed according to whether the company’s capitalization is large or small. They can also be grouped by economic sector: finance, technology, public utilities, consumer staples, and so on. To track the returns on “stocks,” it can be important to refer to the specific indices corresponding to the asset class(es) we’re talking about. For example, in the past 50 years, the difference in returns between Canadian equities and U.S. equities is almost one to three in favour of U.S. equities.
No asset class consistently outperforms the others year after year
As we can see, none of the asset classes manages to automatically outperform the others for many years in a row. Since 2007, equities from emerging countries have led the pack three times, U.S. equities twice, Canadian equities twice, international equities twice, and government bonds three times. Furthermore, in 2018, only government and corporate bonds generated positive returns. In fact, if the chart included cash and cash equivalents, that class would have ranked first for its performance last year.
The first will be last, and vice versa
The chart also makes it plain that the highest-ranking asset classes in a given year often slide to the bottom of the heap the following years. The opposite is also true. This is particularly noticeable for equities from emerging markets. This can be explained by the fact that each asset class experiences positive or negative effects from the various market cycles to different degrees.
Balance could well be in the middle
If the chart included a “class of classes,” i.e., a portfolio based on the allocation of assets to different classes, it is likely that this would usually rank more-or-less in the middle of the chart: it would rarely provide the best return, but just as rarely the worst, since any given market phase would be strongly beneficial for some of the portfolio’s assets, but less beneficial or even detrimental for others. The figures from the past two decades also show that a diversified portfolio has a tendency to recover from losses more quickly than an all-equity portfolio after a sharp downturn in the market.
It might be better to be partly right than completely wrong
Since market behaviour is hard to predict with any precision, someone who invests massively in a single asset class is at risk of having spectacular returns in some periods followed by disappointing losses in others. That’s the choice made by some investors who can tolerate the risk associated with that approach. Nonetheless, many investors would rather experience smaller fluctuations in the short term, even if it means a slight sacrifice of performance over the long term.
One final observation: when you decide to invest in the stock market – by buying mutual funds, for instance – history tends to show that it’s better not to try “timing” the market by guessing when to get in or out. For example, after the crisis of 2008, anyone who was out of the market just for the 20 top trading days of 2009 would have missed out on more than half of the recovery posted by the S&P 500 index.
In conclusion, which asset class performs best? The answer: it depends on the period, your tolerance for volatility, and your goals.
Accessible Investor, « Asset class returns (2018) ».
Charles Schab, « 7 investing principles ».
Fidelity, « Fidelity Freedom 2025 Fund ».
Get Smarter About Money, “Interactive investment graph.”
Visual Capitalist, « How Every Asset Class, Currency, and Sector Performed in 2018 », January 2019 ; « The Historical Returns by Asset Class Over the Last Decade », July 2015.