An Extremely Overlooked Fact About Stock Market Investing

When many think of investing they immediately think of stocks. While stocks may not be a bad investment, in my opinion they are far from the best option available. 

The safest way to invest in the stock market is through index funds, so in this article I’ll disect one widely overlooked fact about investing into index funds/the stock market that most people don’t think about. 

Investments should be evaluated on a risk-adjusted basis. Essentially, the higher the risk, the higher the return potential needs to be. 

While the word ‘guarantee’ isn’t a word most investors will ever use, the only case it could be viable is in betting on the US government through the US Treasury. 

The 10-year treasury offers investors an essentially guaranteed return. The only risk here is that the US government collapses, in which case essentially every investment will fail. 

So from a ‘guarantee’ perspective, a 10-year treasury return is what most savvy investors will benchmark all other investments to because it gives us a risk-free investment to compare. 

From the year 2000 to today, the US 10-year treasury has seen an average rate of return of 3.24%. 

So the US government will offer investors a 3.24% return for taking on no risk. This becomes the first benchmark we’ll judge all other investments on. Essentially, every investment option available needs to be more than 3.24% because every other investment will be more risky than the US government collapsing. 

In that same period, the S&P500 has seen an average return of 6.26%. 

While 6.26% is much better than 0, it’s marginally better than 3.24%. 

The delta S&P500 investors are looking to capture is 3.02%. 

But not only that, there’s another metric investors should look at when investing, and that’s inflation. 

Inflation resets what a 0% return looks like. If inflation is 2% for the year, any investment that sees a 2% return essentially saw a net 0% return because the gains only made up for inflation.

Any investment that did less than 2% that year will have a net loss. 

Once we account for inflation, we can see our returns pull significantly closer to 0 for both US treasury bonds and the S&P500. 

In my opinion, a 3.02% delta isn’t enough upside for me to take on additional investing risk. I’d prefer to either stay completely safe in a risk-free investment or push for a much higher delta with alternatives like real estate or businesses which have historically seen 15 - 25% returns not including tax benefits. 

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