'Lost decade' can provide perspective

This week brings a close to the "lost decade."

Maybe the decade actually concluded at the end of 2009. Perhaps it wasn't all that lost anyway, considering that some stock-market indexes have clawed back within view of their prior record highs.

Regardless, there have been ample lessons for investors to learn from the past 10 years, which clearly were more tumultuous and challenging than the feel-good 1990s. Here are some takeaways:

- If it sounds too good to be true, it probably is.

Investors for decades have been warned to exercise skepticism when it comes to promises, but the notion took on special meaning with the Bernard Madoff scandal.

The snooty financier kept reporting double-digit gains in a single-digit world. Investors craved that tap on the shoulder from Madoff, allowing them entry into his exclusive club. Most questioned neither the accuracy nor the sustainability of those big returns as long as plus signs kept showing up on their monthly statements.

But Madoff wasn't delivering what he promised or even doing what he claimed, and when his Ponzi scheme collapsed, his investors were out billions of dollars.

If anyone boasts of beating the market by more than a few percentage points for more than a couple of years, it should raise red flags.

- Extreme predictions can prove costly.

During the worst of the stock-market slide in early 2009, investors were bombarded with predictions of just how much worse things were going to get. Nearly 10 years earlier, they were reading books heralding the market's unavoidable march to 36,000 (or whatever) for the Dow Jones industrial average.

Both views wound up being off-base because they assumed recent past performance would continue indefinitely.

When things get stretched in either direction, stock prices tend to work their way back toward middle ground. Pundits use a statistical term, "regression to the mean," to describe this backing-and-filling motion.

In the stock market, the recent trend - no matter how bad or good - never continues indefinitely.

- Trees, and houses, don't grow to the sky.

This one seems so obvious in hindsight in connection to real estate, but few people back in 2005 believed housing prices were heading for a crash of biblical proportions.

Sure, individual homes, neighborhoods and even regional markets had stumbled here and there before, but hardly anyone foresaw such a severe slump on a national scale.

U.S. home prices were riding a roughly seven-decade winning streak, supported by government policies promoting homeownership as central to the American dream.

We all know what happened after that, and now the prevailing sentiment is that home prices won't recover for years to come. But the current trend also will end, sooner or later.

- Credit is important and needs to be managed.

A decade ago, most people had a general sense that they needed to pay bills on time and keep their debts under control to retain good credit.

But awareness picked up in the wake of the financial crisis. Credit is tighter now, and consumers are watching it better. Credit-card balances have dropped steadily for the past two years.

Americans also are gaining a better understanding of what goes into credit scores. Everyone has access to their scores (a fee might apply), and more people recognize the factors that can raise or lower these personal borrowing grades.

Over the past decade, Americans also gained the right to order their credit reports for free from the three main credit bureaus, and subsequent legislation has made credit-card statements more transparent and understandable.

The past decade has been marked by an awakening of credit awareness.

- It still pays to diversify - even if it doesn't work all the time.

The wisdom of spreading money among different investments has been recognized for more than a half century. It rests on the notion that doing so reduces risk and possibly leads to greater returns. It took on new relevance over the past decade with two traumatic stock-market declines.

During those slumps, diversification didn't work as well as advertised. Markets around the globe pretty much fell in lockstep. That in turn prompted a search for investments that follow a more independent path such as gold, commodities and more esoteric stuff.

The short answer is diversification doesn't work all that well when you need it most - during sharp downdrafts. But it does work reasonably well over time and thus remains a prudent long-term strategy.

by Russ Wiles The Arizona Republic Dec. 26, 2010 12:00 AM




'Lost decade' can provide perspective