Fisher Investments Reviews if Capital Preservation and Growth Are Both Possible

Transcript

Ken Fisher:

Whenever we get into a period of a certain amount of volatility and wild whip in capital markets, there's an increased desire and a large universe of vendors who, one way or another, want to offer capital preservation and growth. And so, sometimes I'm asked how effective that is.

There's a kind of a schizoid answer to that. If your goal is for simultaneous capital preservation and growth, it is an impossible goal—it's the moral equivalency to calorie-free cheesecake, in the legendary phrase of beauty pageants, the ever common statement that the pageant participant is in favor of world peace, which of course, we've never, ever had, and in our lifetimes, we will never have. There's always multiple wars going on someplace in the world, or sensible politicians with your interests, particularly in mind—level-headed and fair and just. These are all fantasies. And so is capital preservation and growth if treated as simultaneous goals.

Now, on the other hand, if you actually pursue growth sensibly, you achieve both capital preservation and growth in the long term, because the growth takes care of the capital preservation with some volatility along the way. The problem is that actual capital preservation by itself implies a lack of volatility, and that feels good whenever we've come through gut-wrenching wild whip in the market but is in fact impossible to link with growth because people forget, said simply, that negative volatility of 1, 3 or 5 percent is similarly volatile to positive volatility that would get you back to the same level of a little more than 1, 3 or 5 percent. And therefore, if you wipe out the one, you can't have the other. You cannot eradicate downside volatility without eradicating upside volatility. And the more you eradicate downside volatility, the more you eradicate upside volatility.

So, pure true capital preservation implies the equivalent of near cash-like returns, which inherently are low and negative relative to inflation, almost always. They are almost always—not always, but almost always— and in the long term, have been. Then, you can get a higher return in the long term by owning bonds, but people forget and you probably don't forget that just like in 2022, when long term interest rates went up, that forces the bond price down, and you had near stock market-like downside volatility with bonds, followed by the next year with near stock market-like volatility up for bonds. Being in bonds is typically less volatile than being in stocks but it doesn't have any eradication of volatility. Said otherwise, if you think of 10- or 30- year US government bonds right now, you know, they're rendering is someplace around 3.6 to just under 4 percent, and that's real consistent with the long-term average inflation rate.

So, you're treading water, and currently, the inflation rate is running right around 2.5 percent year-over-year, as I speak. And of course, 2.5 percent year-over-year for inflation is not a very precisely accurate number. So, some parts of life are more than that, and some parts of life are less than that and it's just a statistical average of an index that's not very precise to begin with. But, be that as it may, if you have moving ahead, since the long-term average of inflation in the United States has been a good percentage-plus higher than that, if you return to historic averages or higher still, that implies bond prices would fall and yields would rise, and the yields rising, bond prices falling, would give you more downside volatility and bonds. All that I'm really saying is doing bonds doesn't escape volatility.

In the long term, you achieve growth with volatility by owning stocks. So, if you think of the history of the S&P 500 since 1925—where you have good, accurate daily pricing—you've never ever had a negative 20-year period. 5- and 10-year periods are overwhelmingly positive. Not as much so as 20-year periods, volatility along the way, but the 20-year returns, never ever negative, have 800-plus percent average returns over the 20 years, which is pretty big returns. The point that I'm wanting to make to you is—if you do that, you've preserved your capital and you've grown. That's the conundrum—the achievement of capital preservation and growth can only really be achieved by putting the pursuit of the growth without taking crazy risks, like being diversified within equities. It can only be achieved that way; it's a point that people miss.

The desire to minimize downside volatility is so strong in some, that by achieving the minimization of downside volatility, they also don't get that long-term return that you accomplish out of owning equities with volatility along the way. And then, they miss because they miss that upside, they don't get the growth. They just get the attempt to mimic inflation, which might work, might not, but you own those 10- to 30- year bonds for 10 to 30 years and you might come ahead with a slight return, particularly if inflation falls and interest rates fall over those years, but you might also come away with a negative return. All I'm really saying—and it's very simple— to try to achieve both simultaneously is impossible. To pursue sensible growth by diversification among equities over the long term accomplishes growth and provides capital preservation, because growth in and of itself achieves capital preservation.

So, that's really a long, complicated explanation of what should be a pretty simple topic. But when people tell you they're going to do something that's going to provide you capital preservation and growth, they're either wrong— may believe it, but they're wrong—not kind of understanding how it really works, well, what's the upside volatility and downside volatility being flip sides of the same coin. And that if they don't understand that or they're hawking bad product at you, which is also pretty common, in the guise of that which is worse, or they're even criminal-like Ponzi scheme-type folks that peddle—invariably the Ponzi scheme people peddle the same concept— they've got a magic way to do it for you, and that's the equivalent to what Bernie Madoff was, which is, above average returns with no downside volatility. That's just pretty much like calorie-free cheesecake. And it's pretty much if you swallow that, it's going to taste like calorie-free cheesecake.

So, thank you for listening to me. I hope you found this useful and educational. Take care. Talk to you next.

Voice of Ken Fisher:

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