In summary: Interest rates must go up dramatically to something like 7% before they become threat to the stock market. The reason is that the expected profit from the stock market is at least 7%. So, interest rates must move up to that level where they will become a source of serious competition.
Expected Earnings from the stock market: What you may not realize is that the stock market is not a black box. It has real life companies. These companies issue guidance as to how much profit they will make next year. Profit is added up and divided by the number of corporations. This gives the average profit. You also may not realize this figure is quite readily available to the practitioners like Tralucent.
The current return: The S&P 500’s profit, a basket of 500 companies, is expected to be $170. The current price of S&P 500 is $2650. This means if you buy the market, you as a shareholder will be entitled to 170 dollars that will accrue to the shareholders. 170 divided by 2,650 means a return of 6.40%. In other words, after all taxes and all, a return of 6.40% in the very first year.
Return over 30 years: In addition, these 170 dollars are growing at about 6%. What this means is that the $170 that shareholders get is going to be $921 dollars in year 30 and for the entire duration, you would have been deemed to receive some $13,439 dollars.
At 3%.: On the other hand, if you were to invest in interest bearing deposits even at 3%, you would have only $3,782 in 30 years.
The Equilibrium: Therefore, for you to get similar returns from interest bearing accounts, interest rates must rise to almost 7 % or more.
Explanation Why Gold has done so poorly: The above is given in the table below. I have also included a stock growing at 9%. From this table, you can also see why Gold has done poorly over hundreds of years – there are ZERO earnings and bigger amounts to be had in other places.
No guarantees at all: The stock market in the short run is governed by all kinds of cross currents that make little fundamental sense – Insanity. The above estimates are often totally ignored for reasons of ignorance, greed and fear thus creating wild gyrations and downward moves of 10%, 20%, 30% and even more. We request of you to please read our article called “Pain and Joy in the stock markets”. In our opinion however, there is only one thing that matters in the long run – underlying profits. As Peter Lynch would put it: It is all about earnings, earnings and earnings. And the above analysis holds true.
What Funds are we going to invest in: With that basic math in place, it becomes easier to answer this question. If 6% will give $13,439 in 30 years, then 9% will yield even higher. We therefore go for companies that are expected to grow much higher than 6%. I know you have asked “Funds”. And I have answered companies. I do want to clarify that we invest in companies and not Funds.
Please acknowledge that you and Margaret have read this and will think about this. You will find the above math also applicable to real estate investing.