“Hey Jeff,” an emailer wrote on Friday as we arrived in Quebec City from Cape Cod to have dinner with some family and Institutional friends, “I thought you said it would not be until mid/late-September before a point of vulnerability would arrive! Today is merely September 9, what gives?” I responded, “As often expressed in our missives/comments, the short/ intermediate-timing models ALWAYS have a 3-5 session margin of error. That implies anywhere within 3-5 sessions of that mid/late-September ‘call’ is close enough for government work.” Subsequently, Friday’s Dow Dive (-395 points) was attributed to a myriad of things that have been rehashed so many times by the media, and false pundits that never saw it coming, there is no need to repeat them here. Suffice it to say, anyone reading these reports should have treaded cautiously going into September. Still, if past is prelude, I would not look for anything more than the ~3% to a little over 5% pullback as we have suggested countless times for numerous stated reasons. So, the title of today’s report is “Time or Timing.” For over 40 years, one of my market mantras has been, “Nobody can consistently ‘time’ the markets, but if one listens to the message of the market, you can certainly decide if you want to be playing hard or not playing so hard (that’s timing). Time, however, is a totally different animal.

“Time” is the Archimedes’ lever of investing. Archimedes is often quoted as saying, “Give me a place to stand and a lever long enough, and I shall move the earth.” In investing, that lever is time. The length of time investments will be held, the period of time over which investment results will be measured and judged, is the single most powerful factor in any investment program. If time is short, the highest return investments – the ones an investor naturally most wants to own – will be undesirable, and the wise investor will avoid them. But if the time period for investing is abundantly long, the wise investor can commit without great anxiety to investments that appear in the short run to be very risky.

Given enough time, investments that might otherwise seem unattractive often become highly desirable. Time transforms investments from least attractive tomost attractive – and vice versa – because, while the average expected rate of return is not at all affected by time, the range or distribution of actual returns around the expected average is very greatly affected by time. The longer the time period over which investments are held, the closer the actual returns in aportfolio will come to the expected average. The following table shows the compounding effect on $1.00 invested at different compound rates compounded over different periods of time. It’s well worth careful study – particularly to see how powerful time is. That’s why time is the “Archimedes’ lever” of investment management.

Compound Interest over Time

Compound Rate of Return Investment Period
  5 Years 10 Years 20 Years
20% $2.49 $6.19 $38.34
18 2.29 5.23 27.39
16 2.10 4.41 19.46
14 1.93 3.71 13.74
12 1.76 3.11 9.65
10 1.61 2.59 6.73
8 1.47 2.16 4.66
6 1.34 1.79 2.65
4 1.22 1.48 2.19

Source: Investment Policy, How to Win the Loser’s Game; Charles D. Ellis

When asked what he considered man’s greatest discovery, Albert Einstein replied without hesitation: “Compound interest!” But compound interest is ignored in most bull markets. For instance, the late-1990s, the bulls said compounding dividends doesn’t matter. Nobody wants to pay double taxes on ‘em, and that old bear growl about the markets being vulnerable when the yield on the S&P 500 drops below 3% hadn’t been valid for years (the same can be said from the 2009 lows). So who cares if the current yield is only roughly 2.0%? Well, we happen to think dividends are very important. Indeed, historically, a major percentage of the return on stocks has come from dividends.

How much? Of the ~10.4% compounded annual return generated by stocks in the S&P 500 since 1926, nearly “half” has come from dividends, according to Ibbotson Associates. Their studies show that, over the long term, stock prices have risen at an annual pace of less than 7% with most of the rest of the returns coming from compounding reinvested dividends. Now the more popular index with the public, and the financial media, is the Dow Jones Industrial Average (INDU/18085.45), which also shows a yield of roughly 2.0%. Year-to-date from December 31, 2015 close, up until last Friday’s Flop, the Dow has gained some 6%. Historically, the INDU has also averaged a little over 10% total return annually. Most of the time, however, the INDU showed a 4% to 5% dividend yield, with price appreciation making up the 5% or so of the difference of that 10% annual total return. Accordingly, if you only have a current 2.0% yield, that means you have to get an 8.0% annual price appreciation.