Stocks Are Always the Best Investment in the Long Term
When it comes to the financial markets, there are many investment options to choose from, but experienced investors know that stocks are always the best investment in the long term. And here is why we think so.
Stocks are considered the best investment over the long term because they tend to grow with the economy, so as long as the economy grows steadily over the long term, stocks will always be the best long-term investment. This is true for most countries, but it is especially true for countries with expansionist economic models and where there are no wars, population crises, and other factors that can hinder long-term economic growth.
In this post, we will take a look at some of the financial assets available to investors and compare their returns to those of the US stock market to show that stocks are always the best investment in the long term. If you want to know why stocks are the best long-term investments, keep reading!
Why are stocks considered the best investment over the long term?
Stocks are considered the best investment over the long term because they tend to grow with the economy, so as long as the economy grows steadily over the long term, stocks will always be the best long-term investment. This is true for most countries, but it is especially true for countries with expansionist economic models and where there are no wars, population crises, and other factors that can hinder long-term economic growth.
But why do stocks long-term performance tied to economic growth? Here is why: When the economy is growing, companies will be doing well and will employ more people. This leads to more productivity and more profits for companies, which may respond by increasing workers’ wages. With more wages, workers will have more disposable income, which will lead to more consumer spending, more savings, and more investment, especially stocks.
Related reading: –What Are The Historical Returns For Stocks, Bonds, Gold, Real Estate, And Cash?
Thus, with more growth and productivity, more money flows throw the economy into the stock market. This is why periods of strong economy are followed by strong bull runs in the stock market.
In the US, for instance, historical evidence shows that stocks offer the highest investment returns over time. According to Prof. Jeremy J. Siegel of The Wharton School, the total real returns for US stocks, bonds, bills, gold, and cash from 1802 to June 2023 are as follows:
- Stocks: 6.8% real
- Bonds: 3.5% real
- Bills: 2.5% real
- Gold: 0.6% real
- Dollar -1.4% real
As you can see, stocks performed better than all other asset classes in terms of average total return since 1802. From the result above, a $1 invested in 1802 — with all dividends reinvested — would have grown to almost $1 million by the end of 1990. If you extend the calculation to 2023, the $1 investment would have grown to well over 2.06 million USD by 2023. The result is for total return indexes, which are different from standard stock market indexes, like the S&P 500, as they include reinvested cash flows.
How investment returns in stocks come about
Stocks represent part-ownership in publicly traded companies. The returns you make from investing in stocks come from two primary sources — capital gains and dividend payments.
Capital gains or capital appreciation is the increase in the value of a stock over time. It is the profit you realize when you sell a stock higher than you purchased it. Stocks appreciate in value due to different reasons, including higher demands, market trends, and ultimately, economic growth. Over the long term, capital appreciation results from economic growth causing a steady increase in the demand for the stocks.
The other way stocks make returns is through dividends, which are a portion of a company’s profits that are shared and paid out to its shareholders. Dividends may come in the form of cash payments to the shareholder, but sometimes, and for some companies, they may come as additional shares of stock instead of cash. Paying dividends in the form of additional stocks allows shareholders to increase their ownership in the company without having to buy more shares. But even when dividends are paid in cash, you can reinvest them by using the cash to buy more shares of the stock.
Stocks that are consistent with dividend payments provide some income while offering the potential for capital appreciation. So, they offer two sources of investment returns. However, note that companies pay dividends at their own discretion, as dividend payment is not mandatory. Even companies with a history of steady dividend payments do not guarantee that they will keep paying in the future.
Stocks vs. Bonds: Are Stocks Better Than Bonds?
Stocks are investments that offer you partial ownership in a public company, whereas bonds are investments that allow you to lend money to a company or government and they pay you interest over the duration of the loan.
Simply put, when you purchase a stock, you’re buying a certain unit of the company that issued the stock. A unit of a stock is known as a share, and the number of shares you buy will determine how many units of the company you own — the more shares you buy, the more your ownership stake or equity in the company. This means you can share in the company’s profits, which they may pay you as dividends from time to time, and the stock can also appreciate in value by the time you want to sell it.
A bond, on the other hand, is a loan you give to a company or government with the hope of getting regular interest payments until the bond matures. The maturity can range from three months to 30 years. Depending on the maturity, they are classified as Bills (less than 1 year), Notes (2 to 10 years), and Bonds (more than 10 years). At maturity, the entity will pay back your principal if you hold till then. Sometimes, you may choose to sell your principal to another bond investor before maturity.
In terms of returns, stocks offer higher long-term returns than bonds. However, that comes with greater short-term risks, as bonds are generally more stable than stocks in the short term but offer lower long-term returns. According to Prof. Siegel’s chart, stocks have provided about 6.8% annual return compared to 3.5% for bonds from 1802 to 2023.
Are stocks better than commodities?
While stocks offer ownership stakes in public companies, commodities are raw materials that are used to make products for consumers. Examples of commodities include precious metals, like gold, platinum, and silver; industrial metals, like copper and steel; energy commodities, like crude oil and natural gas; agricultural produce, like cotton, wheat, corn, and rice; and livestock, like pork, lean hogs, and live cattle.
People invest in commodities with the hope of value appreciation over the long term. In other words, returns on commodity investments only come from value appreciation often due to inflation, as commodities do not offer dividend or interest payments. Commodities find their usefulness as a hedge against inflation and as diversification products against periods of economic downturns.
Compared to stocks, commodities may be less liquid (depending on the commodity) and tend to be more volatile in the short term, as their prices fluctuate hugely with supply and demand. In the long term, commodity prices do not appreciate as much as stocks do. The reason is that while stocks’ values grow steadily with the economy, commodity values tend to be in a cycle — appreciating during inflation and falling when the economy is healthy.
Overall, the value commodities don’t appreciate much over the long term. Even gold, which offered the best returns among commodities, offered a meager 0.6% annual return from 1802 to 2023 compared to stocks’ 6.8% annual return, according to Prof. Siegel’s chart.
Are stocks better than private equity?
Unlike stocks, which represent partial ownership in publicly traded companies, private equity investment involves buying shares in a private company that does not offer its stock to the public. One peculiar thing about private equity investing is that it is generally not accessible to every investor as in public stocks. It is only accessible to accredited investors — entities or individuals who meet specific requirements regarding income, net worth, asset size, governance status, or professional experience.
Because of the restrictions to the private equity market, it is usually less liquid compared to publicly traded stocks. In addition, information about the stocks, such as their management decisions and earnings, is not public, as they are not required to report their quarterly and annual earnings or publish their management decisions.
In terms of returns, private equity may offer higher returns than public stock investments over the short and medium term. However, the returns vary from year to year and among different private equity firms, as they depend heavily on the specific private equity firm and the industry invested in. Over a long period, returns on a broad public stock market index are slightly higher than those of private equity funds — 13.99% vs. 13.77% — according to the U.S. Private Equity Benchmarks (Legacy Definition) Q2 2020 Final Report.
Moreover, private equity is illiquid and can involve more risk, which is why they are offered to specialized investment funds and limited partnerships that take an active role in the management and structuring of the companies.
Are stocks better than mutual funds?
Stocks offer you partial ownership in publicly traded companies, whereas mutual funds are managed funds that pool money from investors to invest in securities on behalf of the investors. Mutual funds charge management fees for their services, which surely reduces the returns you get from the investment.
However, mutual funds carry less risk compared to stocks, as they diversify investments across different stocks. In fact, mutual funds may be cheaper in a way, because building such a diversified portfolio of stocks on your own will cost a lot. While mutual funds have the benefit of being managed by a professional, stocks offer more control, as they allow you to directly own your shares and possibly participate in shareholders’ meetings and voting.
In terms of returns, stocks have better return potential than mutual funds for many reasons. First, the broad market index has historically performed better than most managed funds. Secondly, the management fees further reduce whatever gains mutual fund investment earns. Stocks’ superior performance comes with higher risks, as stock prices can fluctuate wildly.
Are stocks better than cash?
Sometimes, it may feel safer to keep your investment assets in cash, but the truth is that cash loses value over time due to inflation. Stocks, on the other hand, can grow in value. Thus, while cash may be safe to hold in the short term, it offers negative returns in the long term while stocks offer positive long-term returns. As you can see in Prof. Siegel’s chart below, cash is the only one that yielded negative returns.
Nonetheless, there are times when it may be wise to keep a significant portion of your portfolio in cash. For instance, when you need to take care of an emergency or save cash for a future investment. In periods of economic downturn or a bear market, it may make sense to move into cash so you can make better purchases in the future. However, holding too much cash for a long time can reduce your potential for making higher returns over the long term. Experts advise to stay invested at all times.
Are stocks better than cryptocurrency?
Cryptocurrency is indeed an emerging asset class, and it has shown that has potential for huge returns, at least over the short term. But it is not yet well regulated — new ones are created almost on a daily basis and many pull a rug and disappear. The returns on crypto are highly unpredictable, as the prices can fluctuate widely even on a single day. Moreover, crypto values are not really tied to any underlying business — they are just speculative assets, driven by social media sentiment and hype.
Stocks, on the other hand, are tied to corporate businesses and their earnings. They are usually regulated, have historical long-term growth, and are less volatile in the short term compared to cryptos, which are highly unpredictable. While crypto offers superior short-term returns, it comes at a much higher risk. Moreover, it has not been here long enough for us to be able to compare its long-term returns to that of stocks.
But given the huge risks, you are better off with stocks. If you must add crypto to your portfolio, it shouldn’t be more than 5-10% of your invested capital.
Are stocks better than real estate?
While investing in stocks involves having partial ownership in the companies that issued the stocks, Investing in real estate involves buying properties and renting them out. Both assets profit from capital appreciation plus periodical cash flow from rent (in the case of real estate) and dividends (in the case of stocks).
Both markets can be volatile, but stocks are more volatile in the short term, as real estate earnings tend to be more stable. You can get the benefits of both assets by purchasing shares in real estate investments, such as REITs — real estate investment trusts.
According to a 2019 Morningstar report titled, Time for a Second Look at REITs: REITs returned an 11.8% total annual return on average compared to 10.6% for the S&P 500 Index for the period between 1972 and 2019. However, REITs didn’t always perform better than the S&P 500 index, as you can see in the chart below. And over a much longer period, stocks seem to offer higher long-term returns than real estate in general.
How to build wealth investing in stocks
To build wealth investing in stocks, you must have a source of income to earn the money you can invest, set your investment goals, and develop a plan for achieving those goals. So, the first step is to find a job that pays well so you can have disposable income to invest. You can also start a side hustle to boost your income.
Your investment goals could be to raise money for a future project or retire at a certain age. Once you have set your smart goals, you have to develop a plan to achieve them. There are different investment plans for someone who doesn’t have a lump sum but wants to gradually build wealth in stocks. These are some of them:
- Dollar-cost averaging: With this approach, you set aside a certain percentage of your income each month and use it to buy stocks. You keep doing this whether the market is rising or falling so that in the end, the total cost of purchase will average out.
- Dividend investing: This method involves investing in stocks that regularly pay dividends. The goal is to have a huge portfolio of dividend stocks by the time you retire such that your dividend payouts can take care of your living expenses post-retirement.
Final words
There are different financial assets to invest in — ranging from stocks and REITs to cryptocurrency. However, stocks are considered one of the best investments over the long term as they tend to grow with the economy. Since the economy of stable, non-warring countries tends to grow at a stable rate, stocks will always offer a reliable way to build and secure wealth over the long term.