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There is an old saying that stock market provides better long term returns than bonds. The example usually cited is always the US stock market which has had a good bull run and has it doubled in value since the last crisis. Is this rule of thumb true outside the US?

I'm a bit skeptical about this because leading European stock indexes like the N100 (Euronext 100) have barely regained their value since the 2008 crisis. The FTSE 350 index (London) is just 20% above its pre-crisis peak, making it appear that EU stocks are not a good investment. Is this true?

  • Depends what you mean by "long". – Harper - Reinstate Monica Nov 9 at 18:23
  • @Harper 10-20+ years. Think about pensions. 60-40 portfolios, etc... – Calmarius Nov 9 at 18:26
  • That's a problematic range. The stock market behaves quite differently in a 10-year sliding window than at 20+. Try it yourself; plot gains over a 10 year sliding window vs a 25 year, and adjust for inflation. The market is rather feisty at 10 years; at 25 years it becomes much more reliable. – Harper - Reinstate Monica Nov 9 at 18:29
  • Also note that even in this example (barely regained their value), the bonds in the same country have a negative interest rate, so even a 0% return is better than the bond return. – xyious Nov 13 at 20:46
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Several issues here.

Firstly, you must include (past and future) dividends. If you include them, and compare the yields of European stocks to nonexistent interest on European bonds, you will see it generally doesn't make sense to invest in European bonds but makes a lot of sense to invest into European stocks. The index you was looking at probably is a price index without dividends.

It's true that US company valuation has increased but conversely this means European companies are bargains currently with better dividend yield. Past returns are past, future returns are future. To obtain good future returns, it makes sense to have an underweight in the US market, and have an overweight in the European market.

Also, stock prices aren't some random process. They have a reversion to the mean tendency. This means that not only do you get better dividend yield from European stock, the chances of the terribly high overvaluation in the US market diminishing and the terribly high undervaluation in the European market vanishing are good.

Finally, I must state this again: note that European bonds don't even yield so much that they would yield more than inflation!

Disclaimer: I have a heavy overweight in the European stock market and a heavy underweight in the US stock market. Most of my money in in stocks, sans an emergency fund.

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There is an old saying that stock market provides better long term returns than bonds

It's not a saying, it's statistics and it's a result of the nature of each type of investment.

A bond is a loan. Generally, there are two outcomes for a loan, either it's paid back based on the terms of the loan or the borrower defaults and the lender loses money. The BEST case scenario is that the lender is paid back.

Stock is company equity, the best case scenario for a stock is infinity return. Its not unheard of to realize thousands of percents of return after holding a stock for 10 years, Apple's 10 year return approaches +2000%. And the worst case scenario, like a bond, you lose your investment.

So yes, on average stock outperforms bonds. Look at Netflix, the stock is up several hundred percent and the bonds pay about 6.5%. But in a worst case scenario, generally bondholders fare better than stock holders because bond holders are priority creditors, but that's a different topic.

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