Common sense will sometimes cost you a lot of money. Comparing inflation-adjusted returns shows when investing in the stock market was less risky than cash.
Do You Own any Stocks?
A Gallup poll shows that following the so-called “Great Recession,” fewer Americans invest in the stock market, dropping on average from 62% in 2001–2008, to 54% in 2009–2017. The decline was greatest among younger Americans, who have the longest time horizon to make up for any stock market losses.
If you owned stock during the “Great Recession,” you may well have concluded that owning stocks is hazardous for your financial health. However, if you look in the long term, nothing could be further from the truth, and if you hold only cash, you may as well burn (much of) your money!
Why Company Quality Makes a Difference
It’s not just whether you own stocks—it’s what kind of stocks you own that can make or break your long-term results. Not all companies are created equal. Investing in well-established, consistently profitable businesses—think household names like Apple, Johnson & Johnson, or Procter & Gamble—tends to be much safer than rolling the dice on obscure or unproven firms.
Why? Let’s face it: established companies usually have a long track record of weathering economic storms, adapting to change, and paying out dividends even during rocky markets. Meanwhile, tiny, speculative companies may shoot up quickly, but they can also crash and burn just as fast. So, by focusing on quality companies, you’re less likely to wake up to unpleasant surprises (and sleepless nights).
Look at most major indices like the S&P 500: they’re loaded with these so-called “blue chip” companies for a reason. Over the long term, steady tortoises tend to outperform flashy hares—especially when you factor in the risk of loss.
What Is Opportunity Cost in Stock Market Investing?
When we talk about “opportunity cost” in the world of investing, we’re really talking about what you give up by choosing one path over another. In this case, if you shy away from stocks and keep your money in cash—or something equally safe and low-yielding—you could be missing out on the far greater long-term growth that stocks can provide.
Put simply, the real cost isn’t just the numbers you see on your bank statement—it’s the potential gains left on the table. Over decades, those differences can be dramatic. By avoiding the stock market out of fear or habit, you might be trading short-term comfort for long-term regret.
What Does the Data Say about the Risk of Investing in the Stock Market?
Considered by many as the “father of value investing,” Benjamin Graham said, “In the short run, the stock market is a voting machine but in the long run, it is a weighing machine.” In other words, in the short term, you have to guess which stocks will go up, or at least if the market as a whole will. However, in the long term, the economy tends to grow, so on average, the stock market will go up.
Looking at the annual returns of the S&P 500 index (with dividends reinvested) from 1926 to 2018, we see that the market lost money in just a bit more than a quarter of those years. As you increase the time period length, the fraction of losing periods drops to about 1 in 8 for 5 years, 1 in 20 for 10 years, and none at all for rolling 20-year periods.
Is There a Risk in Picking Just a Few Stocks?
While time is a powerful ally in investing, concentration can be your downfall. Pouring all your money into a single stock—or just a handful—introduces a whole new level of risk. Imagine betting your life savings on Blockbuster instead of Netflix, or banking on Kodak in a world that went digital overnight. Even giants stumble, and the demise of once-mighty corporations is proof that fortunes can unravel quickly.
This is why diversification is the investor’s secret weapon. Spreading your investments across a range of companies, industries, and even countries helps protect you against the unforeseen—the unexpected bankruptcy, the sudden scandal, the technological revolution that leaves yesterday’s leaders in the dust. Diversification doesn’t just smooth out the ride; it can mean the difference between compounding your wealth and watching it disappear.
Stock market losses are less frequent for longer investment periods
Fraction of rolling periods with market losses between 1926 and 2018
If you’re planning to spend the money right after the period in question, you’d be justified in considering the maximum loss possible too. In that regard, the worst one-year loss was 43%, and the worst-case total loss increases as you look at longer periods until you start dropping from 4-year periods to 5- and 10-year periods. For 20-year periods, the worst-case total was actually a gain of 84%!
Looking at annualized returns, each time you look at a longer period, the worst case becomes better, and the best case becomes worse. Whereas the difference for a single year is 97% (between 54% gain and 43% loss), for 5-year periods that range drops to 41%. For 20-year periods, the best-to-worst range narrows to 15%.
Diversification: Spreading Your Bets to Tame Risk
Of course, plunging all your savings into a single stock—or even just a handful—is like betting the farm on one horse at the racetrack. If that company or sector hits a rough patch, your entire portfolio feels the pain. That’s where diversification rides to the rescue.
By owning a broad blend of stocks from different industries, company sizes (think Apple and General Electric to small-cap up-and-comers), and even geographic regions, you help smooth out the bumps. While technology might hit a snag, healthcare or utilities could be quietly climbing. Sometimes international markets shine when the U.S. market stumbles. In short, diversification helps ensure your portfolio doesn’t hinge on one company’s fortune or a single sector’s cycle. Over time, this approach cuts down on wild swings and lets you capture the stock market’s overall growth without taking on any single company’s full risk.
Over longer periods, the best- and worst-case stock market performance gets closer to the average performance
Worst, average, and best returns (total and annualized), for rolling periods between 1926 and 2018
Inflation Becomes a Real Problem in the Long Term
The problem with the above data is that they don’t take into account that over time, the dollar’s purchasing power tends to go down as a result of inflation. From 1926 to 2018, the dollar lost value in 7 out of every 8 years. As you look at longer periods, that fraction goes up to 100% of rolling 20-year periods.
Cash losing value is MORE frequent for longer periods
The fraction of rolling periods between 1926 and 2018 where the dollar lost purchasing power
Especially if you’ve been paying attention to how tame inflation has been recently, you’d be forgiven for thinking inflation isn’t a big concern anymore in absolute terms. However, looking at the long term, it’s still a major factor.
Over the long term, inflation eats away at your money’s purchasing power for all long-enough periods of time, with a whopping 52.8% loss for the average 20-year period.
In fact, holding cash would have lost you an annualized average of 3–4% for all holding periods, with total losses growing from 3.7% for the average single year to a whopping 52.8% for the average 20-year period. That means you’d be able to buy less than half as much after holding cash for the average 20-year period! Know what the worst period for cash was like? If you had held cash from 1966 to 1985, you’d have lost more than 2/3 of its value!
Even with low average inflation, loss of purchasing power becomes significant over long enough periods
The average loss of purchasing power of cash (total and annualized) over rolling periods between 1926 and 2018
Comparing Stock Investment Risk to the Risk of Holding Cash
To figure out what stock market returns really mean for you, you have to adjust returns for inflation. Doing that, we see that the worst one-year loss was 39%, For 20-year periods, the worst-case total was a gain of 22%. For annualized returns, each time you look at a longer period, the worst case and best case also get closer to each other. Whereas the difference for a single year is 101% (between 62% gain and 39% loss), for 5-year periods that range drops to 35%, and for 20-year periods, the range narrows to 12%.
Even considering the Great Depression and Great Recession, the worst 20-year market performance was a total gain of 22%
Worst, average, and best returns (total and annualized), accounting for inflation, for rolling periods between 1926 and 2018
Looking at how frequently the stock market loses purchasing power, we see losses about 1/3 of single years, 1/4 for rolling 5-year periods, 1/8 for 10-year periods, and not a single losing 20-year period.
Stock market losses are less frequent for longer investment periods even after adjusting for inflation
Fraction of rolling periods with inflation-adjusted stock market losses between 1926 and 2018
While these results are less inspiring than the pre-inflation returns, we have one last step to take, comparing them to the risk of holding cash.
Comparing how bad worst-case inflation-adjusted losses were for stocks vs. cash, we see the loss was about 3x worse for stocks compared to cash for single years, 2.5x worse for 2-year periods, 2x worse for 3-year periods, and 1.7x worse for 4-year periods.
For 5-year periods, the worst-case inflation-adjusted loss was comparable for stocks and cash.
For 10-year periods, cash lost about 1.7x more than stocks in the worst case!
Once you hit 20-year periods, worst-case inflation-adjusted stock market returns were 22% up, compared to 72% down for cash!!!
The worst-case market performance for 10- and 20-year periods were better than the worst case of holding cash for comparable periods
Comparing worst-case, inflation-adjusted loss of cash vs. stocks for rolling periods between 1926 and 2018
The Bottom Line on Stock Market Risk
Considering that the upside is far greater for stocks than for cash, it’s clear that for time horizons longer than a few years, investing in stocks is the winner compared to holding cash.
For 5-year periods, the worst-case inflation-adjusted loss was comparable for stocks and cash. For 10-year periods, cash lost about 1.7x more than stocks in the worst case! Once you hit 20-year periods, worst-case inflation-adjusted stock market returns were 22% up, compared to 72% down for cash!!!
Disclaimer: This article is intended for informational purposes only, and should not be considered financial advice. Before making major financial decisions, please speak with us or another qualified professional for guidance. The original version of this article first appeared on Wealthtender written by Opher Ganel.