2020.
However, over the long term, there's always a direct correlation between business earnings and stock prices. Warren Buffett's former Columbia University professor, Benjamin Graham, referred to the stock market as a short‐term voting machine or popularity contest, but a long‐term weighing machine.9 Business earnings and stock price growth are two separate things. But in the long term, they tend to reflect the same result. For example, if a business grew its profits by 1,000 percent over a 30‐year period, the stock price, including dividends, would perform similarly.
It's the same for a stock market in general. If the average company within a stock market grows by 1,000 percent over 30 years (that's 8.32 percent annually), the stock market would reflect such growth.
Over the long term, stock markets predictably reflect the fortunes of the businesses within them. But over shorter time periods, the stock market is nuts.
Fast‐Growing Economies Can Produce Weak Returns
Adding to the difficulty of predicting stock market growth is the fact that emerging stock markets don't seem to follow the same rules. For example, everybody knows that China's economic growth has run circles around US growth for the past 20 years. But here's a trivia question to ask a friend. Knowing what you know now, if you went back 27 years in a time machine with $10,000 to invest, would you want to spread your money among 100 randomly selected Chinese stocks or 100 randomly selected US stocks?
Most people would choose China. But they might end up feeling foolish. If $10,000 were invested in Chinese stocks in 1993, it would have been worth about $23,898 by March 31, 2021 (the time of this research). If, on the other hand, the same $10,000 were invested in US stocks, it would have grown to about $155,398.10
Such disparity between economic growth and stock market growth isn't prevalent just in China. Emerging markets (India, Thailand, Indonesia, etc.) have definitely benefited as villagers have migrated to cities, worked at better jobs, and spent higher wages. In some cases, their bathrooms were outhouses. Many of those same people now fart through silk. But shadier legal frameworks and poor corporate governance sometimes leave stains.
As Yale University finance professor David Swensen writes in his book Pioneering Portfolio Management, “A particularly prevalent problem in many Asian countries involves family‐controlled companies satisfying family desires at the expense of external minority shareholder wishes.”11 Most global expats are aware of the corruption among many emerging‐market businesses. Such palm greasing is one of the reasons strong economic growth doesn't always manifest itself in the stock market.
While emerging‐market economic growth has run circles around US growth, the developed world's stock markets haven't been left behind.
If $100,000 were invested in US stocks in 1985, it would have grown to about $5.75 million by March 31, 2021. If it were invested in developed‐world stocks (excluding the United States), it would have grown to roughly $2.36 million. If it were invested in emerging‐market stocks from January 1985 until March 31, 2021, it would have grown to about $2.47 million.12
Don't, however, commit to believing US stocks will continue to win in the years or decades ahead. They might. But often, one time period's winner is the next time period's loser. Nobody knows which stock markets are going to do well this year or over the next decade. That's why smart investors are like the young gardener I mentioned at the beginning of this chapter. They sow every type of seed. They invest in a representation of the entire world's market so they don't get caught with their pants down when a sector takes off (or when a specific stock market sector falls off a cliff).
Many people hire advisors to guess which investment sectors they think will do well. But speculating is silly, as I'll show in later chapters. Instead of rolling the dice with a soothsayer, trying to predict which market will outperform, it's better to diversify money across every sector at the lowest possible cost.
Unfortunately, many global expatriates fail to do so. They chase whatever market has performed well lately (or over the past 15 years) to the detriment of everything else. And their retirements often pay the price.
Bonds Are Protective Nets for Jumpers
Besides investing in stocks, smart investors choose bonds as well. When investing in bonds, individuals loan a government or corporation money in exchange for a fixed rate of interest. Bonds underperform stocks—not every year or every decade, but over the long haul, they do. But they aren't as volatile. An investor, for example, with the majority of his or her money in bonds issued by a developed country's government wouldn't suffer a 50 percent investment loss if the stock market dropped by half. In some cases, such an investor might gain money when stocks drop.
Investment portfolios composed of stocks and bonds are less volatile and more diversified than those made up solely of stocks. So they're safer. In the short term, investments get yanked about based on supply and demand. When demand for stocks is especially high (many more buyers than sellers), stocks rocket. But for stocks to rise so quickly, people would be buying them with abandon. Where do they get such money for their stock market purchases? Many pull proceeds from savings accounts, mattresses (if they're nuts), gold, real estate, and bonds. If enough money is pulled from gold, real estate, and bonds, these asset classes fall in price.
Their supply would exceed their demand. When stocks are roaring, investors selling bonds can force bond prices to drop. Always remember that short‐term asset class movements are a result of supply and demand. If more people are selling bonds than buying, supply outweighs demand. So bond prices fall. If more people are buying bonds than selling, bond prices rise.
You don't have to know the intricacies of how bonds work. Just make sure your portfolio includes a government bond index (which I'll explain later in the book). If, however, you want to know how bonds work, here it is in a nutshell.
There are a few different types of bonds, but I'll explain the most common with a story. Assume your eccentric Uncle James wants you to save, so he makes you a deal. If you give him $10,000, he'll invest the money for himself however he sees fit. You arrange for him to keep the money for five years. In the meantime, he gives you cash interest. He promises 5 percent per year. This is called a 5 percent coupon.
In this case, the yield is also 5 percent. Uncle James promises to pay you $500 annually. He pays it twice a year, $250 each time.
At the end of the five‐year term, Uncle James will return the $10,000. You will have recouped the $10,000, plus earned $500 for every year your uncle held your money.
But what if you had asked him to return the $10,000 before the end of the five‐year term? This is where Uncle James's quirkiness shines. He may decide to return just $9,800. Or he may give you a gift, handing over $10,300.
Uncle James guarantees he'll return exactly what you give him only if he's able to hold the money for the duration agreed upon. If you want the money early, the strange duck might return more than you gave him, or less.
Here's where Uncle James gets weirder. Assume that one year after you invested your initial $10,000 with him, your friend Amy wants in on the action. She approaches your uncle, who makes her a deal. “Amy, you can buy into the same scheme, but it expires in four years. This means you have only four years to earn interest, not five. I'm returning all of the money four years from now—yours (if you choose to
