Looking back at the early 1980’s, the investing environment was an absolute bonanza for long-term investors. At the time, it probably did not seem that way. Interest rates and inflation were EXTREMELY high. Because of these factors, the economy was not doing particularly well. Getting a mortgage on a home was not exactly a great idea as rates were around 20%. A two-year Certificate of Deposit yielded north of 12%. Whether an investor was interested in stocks, real estate, or government bonds, everything was set up for long-term success. Of course this is easy to see in hindsight, but still true. Every risk asset is valued versus the rate an investor can get on a U.S. Treasury Bond. At the time the yield on the 10-year treasury bond was almost 15%. Due to extremely low valuations, no matter what asset class an investor chose be it stocks, bonds, or real estate, they likely made a very handsome return as long as they held for a long time.
Let’s look at what would have happened had someone such as a parent or grandparent decided to buy a 30-year U.S. Treasury Bond in June of 1982. At the time inflation was starting to get under control, although it was still very high at around 8%. 30-year government bonds were yielding around 14%. This is considered risk free due to the faith and credit of the U.S. government, while also being able to raise taxes to accumulate more revenue in case of a shortfall. If the government ran into long-term problems to where they couldn’t repay debt, life as we know it would be over. Nothing is truly risk free, but government bonds are about as close as one can get. I am not a fan of bond investments in most situations, but this time period was different. Being able to get a risk free 14% yield was a no brainer. Of course, things weren’t so clear at the time. Investors usually have a lot of recency bias, meaning that whatever has happened in the recent past is projected to continue happening far into the future. Suppose a grandparent in 1982 was affluent and about to retire and decided to put almost all of their liquid wealth of $500,000 into a 30-year bond. $500,000 was a lot more money 36 years ago adjusted for inflation. It was probably worth around 1.5–1.8 million in today’s dollars. They would have happily collected their $70,000 per year due to the 14% coupon rate on the $500,000 investment. Over thirty years, he or she would go on to collect $2,100,000 in interest payments. Also when the bond matured, either the grandparent or parent would receive the initial $500,000 back. It was an outstanding risk adjusted return.
If someone had bought a stock of a blue chip company back in 1982, they were buying at an absolute ideal time. Due to the interest free rate being 14%, P/E ratios on most blue chip stocks were in the single digits. Suppose that same grandparent decided to buy $500,000 of one of the premier blue chip stocks at the time, Johnson and Johnson. Of course I would never recommend betting most of anyone’s portfolio on one stock, this is just for illustrative purposes to compare to the 30-year bond. Even though at the time they were already a large, established company, JNJ still had a long runway for growth. In June of 1982 JNJ was trading at a split-adjusted price of around $2.40 per share. In June of 2012 JNJ was trading at around $67 per share. The total value of the shares in 2012 would be worth around $14,000,000, or 28 times the original investment. In 2012 the investor would be collecting ~$500,000 for that year alone in dividend payments, not to mention all of the dividend income collected over the previous years. Even if the grandparent were no longer around and had five heirs and the inheritance was split evenly, each heir would be making a six-figure salary from seeds the grandparent planted long ago. Also, that six-figure dividend income salary would grow well above inflation in the following six years, and will likely continue to do so.
The point is not to put all of your money into one stock. That was a cherry picked example for illustrative purposes. The point is that both investments performed very well given the level of risk, and starting valuation. The bond had the tailwinds of falling interest rates and a high starting yield, and Johnson and Johnson had a low valuation, combined with robust growth. As the example shows, even when bonds trade at their cheapest valuation in a century, they still can’t compete with a great business combined with a low valuation. That said, the government bonds still provided an outstanding risk adjusted return.
I do not have any hard data on real estate, but I imagine commercial real estate performed very well also. I assume cap rates were likely in the upper teens if not the low twenties, which in today’s environment seems unthinkable. Combine that with pretty robust rent growth due to rapid economic growth and inflation, and even a cash buyer would be collecting around a 50-70% yield on cost after 30 years of ownership, if held that long. The capital gains would likely be staggering as well due to rent growth and cap rate compression.
Basically with interest rates as high as they were in the early 80’s, any asset class did pretty well. Contrast that with the low interest rate environment today. 30 year government bonds as I write this are yielding somewhere around 3%. The P/E ratio of the stock market is around 20. Cap rates on decent commercial properties are around 5-6% in most areas of the country. Some areas such as San Francisco or New York are much lower. It looks as though we are in for 30 years of returns far, far more modest than we had from the early 80’s to the early 2010’s. Also, most people seem to think the U.S. economy has matured and GDP growth will likely be much more modest. I don’t want to make any predictions or sound pessimistic, but investors should keep their expectations in check. Past performance can be a guide, but doesn’t equal future performance. There are still going to be some great opportunities, investors will just have to look a bit harder. I don’t think we will see high interest rates like those in the early 1980’s for quite a long time, if ever. Just look for great businesses or properties trading at a fair price or better. That is always a recipe for success in investing.