Do you remember the story of the tortoise and the hare from the bedtime stories of your youth? The tortoise moved ahead slowly and purposely. His mantra was ‘slow and steady wins the race'.
The hare, on the other hand, ran his race aggressively followed by moments of rest and laughter at the tortoise along the route.
We all remember who won this race in the children’s storybook; but, how might it actually play out as a grown-up version of the race through the eyes of the financial markets.
In our market-driven rabbit example, let’s pretend the hare begins with a nap. Let’s say during the first year, the Rabbit’s account went down 10%. Then, he becomes serious and works to catch-up. So, in the second year he had a rate of return of 20%, followed by a third-year rate of return of 10%.
In year four, he rested yet again with a negative -5% rate of return; then, he bounced back again with a 10% rate of return in year five and again in year six; followed by another negative -5% in year seven.
Getting serious again, our funny bunny jumps ahead in year eight with a 15% rate of return and a 10% rate of return in year nine….and you know how the story goes….in the last year, year ten, he becomes lazy once more and experiences a negative -5% return.
This is what his rates of return look, all together, year-by-year:
-10%, +20%, +10%, -5%, +10%, +10%, -5%, +15%, +10%, -5%
What do you think was the ‘actual’ annualized rate of return for our speedy, funny bunny over our 10-year race example?
It’s hard to believe it, but even with six years of double-digits returns our funny bunny’s actual annual rate of return was just 4.55%. He didn’t even average an annual return of 5%. All that hopping our funny bunny made, didn’t seem to get him too far.
Now, what about our turtle – Mister Tortoise? Let’s suppose our turtle simply meandered along at a slow and steady 5% each and every year. Who won the race? You know.
Obviously, this is only a made-up children’s story for investors. Yet, there is a moral to our story of the tortoise and the hare: long-term, slow and steady can often win the race, even though it might not be as exciting as watching the excitement of double-digit returns and the hopping, skipping and jumping of our funny bunny.