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Can Markets Be Trusted?
In my interactions with investors, one theme that I frequently encounter is a belief that stock markets have fundamentally changed and can no longer be “trusted.” These investors usually reference recent events like the market meltdown of 2008, Bernie Madoff and the flash crash of 2010. There are two ways that I address this question.

First, scandal has — and likely always will be — a part of the financial markets. For a thorough account of this history over a very long window of time, check out Edward Chancellor’s Devil Take the Hindmost. While this particular facet of the markets seems to ebb and flow, it’s not truly a new development. Further, let’s not forget that there are many good people in the financial markets and firms who put clients first and are continually looking to improve the quality of the investment experience.
Second, in some ways, this question is one that can be answered objectively. Since we know that market manipulation and scandal have always been around, we can look to stock market data to see whether these negative aspects of financial markets have literally reduced the rewards for taking risk to zero or even negative.
On this front, the data is clear: While there are stretches where stock market risk has shown up and realized returns are low, risk taking has been amply rewarded over longer periods of time. Over the period 1970–2011, U.S. and international stocks have outperformed Treasury bills by 5.9 percent and 5.8 percent. Investors who had well diversified portfolios and traded minimally could have captured the bulk of these returns on a net-of-costs basis. In my opinion, it’s likely that we’ll see roughly similar long-term rewards to risk taking going forward as well, though of course not guaranteed. Also, there are numerous vehicles for accessing the stock market at very low cost, costs that investors 30 to 40 years ago likely couldn’t have imagined.

Random Links and Commentary of the Week
I found this post from John Cochrane reviewing a piece by Mike Woodford to be really interesting. The piece basically examines the Federal Reserve’s ability to influence interest rate levels in the marketplace through its language around future interest rate policy and quantitative easing.

Jared Kizer is the director of investment strategy for BAM Advisor Services. See our disclosures page for more information.


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