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Reduction of Risk over Time

Data on risk and volatility shows that the range of returns appears less volatile with longer holding periods.

What you will learn

  • Stock and Bond Volatility Varies
  • Risk of Stock Market Loss over Time

Reduction of Risk over Time

One of the main factors you should consider when investing is the amount of risk, or volatility, that you are prepared to assume. However, recognize that the range of returns appears less volatile with longer holding periods.

Over the long term, periods of high returns tend to offset periods of low returns. With the passage of time, these offsetting periods result in the dispersion of returns gravitating or converging toward the average. In other words, while returns may fluctuate widely from year to year, holding the asset for longer periods of time results in apparent decreased volatility.

This graph illustrates the range of compound annual returns for stocks, bonds, and cash over one-, five-, and 20-year holding periods. On an annual basis since 1926, the returns of large-company stocks have ranged from a high of 54% to a low of negative 43.3%. For longer holding periods of five or 20 years, however, the picture changes. The average returns range from 28.6% to negative 12.5% over five-year periods and between 17.9% and 3.1% over 20-year periods. During the worst 20-year holding period for stocks since 1926, stocks still posted a positive 20-year compound annual return. However, keep in mind that holding stocks for the long term does not ensure a profitable outcome and that investing in stocks always involves risk, including the possibility of losing the entire investment.

Things To Know

  • The risk of holding stocks appears to lessen with time.

Although stockholders can expect more short-term volatility, the risk of holding stocks appears to lessen with time.

Government bonds and Treasury bills are guaranteed by the full faith and credit of the U.S. government as to the timely payment of principal and interest, while stocks are not guaranteed and have been more volatile than the other asset classes. Furthermore, small-company stocks are more volatile than large-company stocks and are subject to significant price fluctuations and business risks and are thinly traded.

About the data

Small stocks are represented by the Ibbotson® Small Company Stock Index. Large stocks are represented by the Ibbotson® Large Company Stock Index. Government bonds are represented by the 20-year U.S. government bond, and Treasury bills by the 30-day U.S. Treasury bill. An investment cannot be made directly in an index. The data assumes reinvestment of all income and does not account for taxes or transaction costs.