In the world of investing, there’s so much data available that it’s essentially impossible to look at all of it. Instead, we have to examine only a small slice of history at a time. Unfortunately, by carefully selecting which slice of history to look at, people can “prove” just about anything they want.
For example, I’m reading a book right now that repeatedly uses statements like, “Look at how well this strategy did in 2001 and 2002!” Of course, there’s no mention of how well the strategy did in the 8 years before, or in the 2 years after. (The book was published in 2004.)
The way I see it, using statements like this is just cheating. It’s an easy way to “prove” a point without digging for any more substantial data. What significance does a 2-year return have? As far as I can tell, the only thing it’s useful for is telling us how well the strategy might do over 2-year periods in the future. (And even for that purpose, it’s only meaningful when combined with data from several other 2-year periods.)
Which ten years?
The problem isn’t just with people selecting time frames that are too short. A similar strategy can be used to mislead people using periods of any length.
For example, if you look at the 10 years ending in 2008, the S&P returned -1.36% per year. But if you shift that period backward one year, it returned 5.84%. A clever marketer could quote one statistic or the other, whichever is more beneficial for selling his product. (Or if he really wanted to show high returns, he could quote the 10 years ending in 1998, over which the S&P 500 earned over 19% per year.)
It’s not just about time periods, either.
If you’d invested in American Funds’ Capital Income Builder, which “invests in common stocks of large, established companies with proven records of increasing dividends” you would have earned a 3.76% annual return for the 10 years ending 2/28/09–not bad considering how poorly the market did overall during that period.
However, if you’d invested in Fidelity Equity Income Fund (which follows essentially the same strategy as Capital Income Builder), you would have lost 2.35% per year over that same period.
Want to prove that investing in stocks with a high dividend yield is a great strategy? Quote Capital Income Builder’s success relative to the market. Want to prove that it’s a poor strategy? Quote Fidelity Equity Income Fund’s results.
Who can you trust?
In an environment in which people can use real facts to back up just about any statement they want, it’s difficult to know who you can trust. To the extent possible, I recommend doing your own research before accepting somebody’s claims. Try changing the assumptions (about period of time, for instance) and see if you still reach the same conclusion.
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That’s a good point, the other thing you can do to protect yourself from such marketing is to talk to the competition. That often helps.
Yes, that’s a great idea. Always good to get both sides of the story.
Agreed. Its always good to validate these claims. I would also argue that even a 10 year time horizon isn’t enough time to prove that a particular theory works.
Another good test would be to check the theory against other countries, not just the US.
Hi Brian. Thanks for stopping by and commenting.
I agree: A 10-year period doesn’t necessarily tell you very much. (Especially not if we’re only looking at one particular 10-year period.)
And you’re right on your second point as well. It can be quite enlightening to see how well a given theory holds true in some other economy.
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