Financial planners love to give examples about a hypothetical investor who placed $2,000 in the stock market every year since he was eighteen years old in 1950 and retired rich thanks to the stock market’s returns. They talk about the power of compound interest and getting rich slowly, investing in low-cost index mutual funds. There’s nothing wrong with this idea. In fact, for many people, it’s the best investment advice they’d be able to handle.
In 1950, the average salary was just under $3,000, so you could interpret this as an eighteen-year old needing $17,000 each year going forward starting today, based on 2010’s average salary. While $2,000 doesn’t seem difficult today, that’s in 1950 dollars.
Additionally, the number of investors putting money into the stock market over the past few decades has surged, thanks to low-cost investment plans, automatic 401(k) investments, and great marketing by the financial industry. While in 1950, only a small percentage of the population thought the stock market was the path to riches, that’s a more common philosophy now.
Thanks to the expanding the economy and everyone else who put money into stocks subsequently, that eighteen-year-old in 1950 was able to retire rich. The big question is whether the stock market can continue to provide long-time returns if there isn’t another surge of new investors and a rapidly expanding economy. But if you want to have those kind of returns, it may not be the stock market you need to follow — it may be the types of investments that the richest pursue.
Decades ago, the stock market was not the middle class playground it is today. As the flood gates opened and more people at lower income levels received access to stocks and mutual funds, the class of investors who formerly played in the stock market has moved onto alternative investments. I would place my bet on investments that are relatively out of reach for the middle class, like hedge funds and private opportunities. These will provide the historical returns financial planners tout, thanks to limited public interest and access.
Goldman Sachs is creating its own private market for shares in Facebook. Companies make their own markets all the time, but this is drawing extra scrutiny. Facebook is receiving the benefits of being a public company through massive capital infusion, but it isn’t subject to any regulation.
The Security and Exchange Commissions says that companies must report their financial results publicly if they have more than 500 shareholders — at which point any company might as well officially be public. Goldman Sachs seems to believe it can get around that requirement by pooling investors together. It sounds dubious, but for those who want the “full stock market experience” as it were, what upper-class investors enjoyed in the decades before the 1980s, a private market may be the only way to go.
Should Facebook go public? Do you think we need to follow the money — invest where the richest people invest — in order for our investments to pay off?
Photo: Hygiene Matters
Updated January 5, 2011 and originally published January 4, 2011.