in every 30-year time period for more than a century. Amazing!
Professor Siegelā™s third point addresses the issue of timing (bad tim-
ing, to be specific). Years ago, I remember a somewhat cruel TV inter-
view of one investor with extremely bad timing. The unlucky chap had
made a major purchase in the stock of Braniff Airlines on the day before
it filed for bankruptcy. Braniff never reemerged from bankruptcy; the
company was liquidated and stockholders lost every penny.
The reporter asked the investor, āWhat were you thinking when you
invested tens of thousands of dollars into Braniff hours before they went
out of business?ā The investor (and he was a professional) responded
with, āI bought the stock because I thought it would go up in price.ā
Whenever I make an investment decision, I wonder if I am going to
suffer the fate of the Braniff buyer. Will my purchase be at exactly the
wrong time? For these fears, Professor Siegel has a responseā”relax. So
far in U.S. history it has been impossible to buy at the wrong time. In fact,
even if you bought on the day before a market crash, stocks have outper-
formed other investments over the following 30-year period.
The Dow Jones Industrial Average, for example, lost an amazing 89%
of its value during the Great Depression.2 To understand this, you have to
imagine a modern stock market crash taking the Dow down to about
1,000. So some investors bought stocks in the late 1920s and watched
their wealth evaporate. For those who were patient, however, buying
stocks on the worst day of a lifetime was still better than buying bonds.
Yes, even the unlucky investor who bought stocks on September 3,
1929ā”the high water point before the crashā”did better than the investor
who bought bonds. Professor Siegel calculates the 30-year return on a
$100 investment at the 1929 peak as follows: bonds $141, stocks $565.
He makes similar calculations for all other market peaks. (Stocks have
not yet recouped their losses since the 2000 peak, but we will not know
the ālong-runā payoff of late 1990sā™ investments for many more years.)
The history of U.S. investing is clear. Always and everywhere the best
course for the patient investor is to buy U.S. stocks.
In The Paper Chase Harvard law professor Charles Kingsfield grills a
student about a case. The student is unable to provide any useful analy-
sis. After some verbal flailing, the student blurts out āI have a photo-
graphic memory.ā To which Professor Kingsfield responds, āThat will do
you no good at all.ā
164 Applying Science and Art to Bonds, Stocks, and Real Estate
Similarly, the fact that stocks look good when we look at pictures of
yesterday does no good at all to those of us who want to make money
now and tomorrow. To determine if stocks are a good investment now and
in the future, we need to go beyond Stocks for the Long Run and look at
more than the past return of stocks.
Why Jeremy Siegel Does Not Play Professional
Basketball or Live in East Germany
āBetter lucky than good,ā summarizes the feelings of many toward per-
formance. This view suggests that winning is more important than hav-
ing deserved to win. When it comes to U.S. stocks since 1802, they have
indeed won. To decide how much to invest in U.S. stocks today, however,
we have to try to divide the past success of U.S. stocks into luck and skill.
If U.S. stocks did well because of skill, they are more likely to be good
investments now than if their strong performance was simply lucky.
As in many areas of finance, if we are to determine whether U.S.
stocks have been lucky or good, we have to confront one of our human
shortcomings: our tendency to place too much faith in actual outcomes.
One aspect of this problem is called āsurvivorship biasā and was illus-
trated in the documentary Hoop Dreams that chronicles the lives of two
talented young basketball players in their quest to play professional bas-
One message of the movie (and there are many) is that these two
young men make their decisions based on overly optimistic expectations
about playing in the NBA. They devote their lives to basketball in the
hopes that they can become rich and famous. One of the causes of
overoptimism is the fact that all of us see only the winners in the compe-
tition to become NBA players. This bias toward seeing only the survivors
causes us to overestimate the chances of success. It causes many people
to devote their lives to a quest that is unlikely to succeed.
Being fooled by survivorship bias is almost unavoidable when we
watch professional sports. Our arenas and TV screens are filled with
professional athletes who have made it to the big time. Even on their bad
days we know that these professional athletes live exciting lives filled
with cash, cars, beautiful women and homes (often chronicled in MTVā™s
show ā˜cribsā™). All of these athletes are the winners in a competitive ath-
letic world that begins before high school. Except for news reports and
documentaries, we do not see the players who have worked just as hard
and never earned a penny from athletics.
Because we almost always see only those who survive, and therefore
win athletic competitions, we tend to overestimate the ease of becoming
a professional athlete. In Hoop Dreams the odds of making it from U.S.
high school basketball into the NBA is estimated to be 1 in 7,600. The
film shows that young basketball players are far too confident of their
chances. Consequently, they make life decisions that are different (and
presumably worse) than if they acted upon the true odds.
Survivorship bias is present in many areas of life other than profes-
sional sports. We generally only see the winners in politics, modeling,
acting, and entertainment. The trouble comes when we make decisions
based on our overoptimistic estimates of success. Survivorship bias
pushes us toward investing time and money in prospects that appear
alluring, but would not be exciting if the true odds were known and
As a kid, my friend Jay was fooled by survivorship bias. The credits of
every movie that he saw included āCompletion guaranteed by The Com-
pletion Bond Company.ā This is a form of insurance that pays off if a film
isnā™t completed. When he grew up Jay planned to start his own comple-
tion bond company since every movie that he saw had clearly been made
and so insuring them seemed like a sure thing.
The survivorship bias argument against stocks for the long run is that
U.S. stocks have done well, but many other stock markets have done ter-
ribly. Consider an investor in East Germany who patiently invested his or
her money into stocks.
Our East German stock investor would have lost every penny when
the communists took over East Germany after World War II. For an East
German, stocks for the long run would have meant a complete loss.
166 Applying Science and Art to Bonds, Stocks, and Real Estate
Consequently, there are no Jeremy Siegels promoting East German stock
U.S. stocks are the Michael Jordanā™s of the investing world. No sane
person would decide how much time to practice basketball with the
assumption that she or he could be the next Michael Jordan. Similarly, no
one should decide how much to invest in stocks based solely on the his-
tory of U.S. stocks.
Thus, in addition to the U.S. stock market performance, we should
consider the outcome of other markets. Consider some of the debacles
that faced equity investors in major markets around the world just in the
last century. Russia, China, and much of Eastern Europe became com-
munist with state ownership of much or all business. Germany suffered
through hyperinflation and destruction in World War II. The allies in
World War II similarly destroyed Japan. By some measures Argentina
was richer than France a century ago yet has had severe economic strug-
gles since then.
Some people argue that the poor performance of stocks in countries
like East Germany is irrelevant. The argument goes something like,
āEquity investments in a place and time where property rights are not
respected (or are so heavily taxed) will always be a poor bet. Communist
markets of any kind by their nature have to be inherently fictionalā”a
government made-up number.ā
So is it fair to include East Germany? The answer depends on the time
period you analyze. No sane investor would have wanted to own East
German assets after the country was taken over by the Soviet Union. The
investor back in 1802, however, had no idea that part of the world would
become communist (Karl Marx was born in 1818) and part of the com-
munist world would be called East Germany. So the part of the world that
ended up becoming East Germany belongs in the analysis of the stock
returns from 1802 (the beginning of Professor Siegelā™s U.S. data), and
excluding it would be committing an error of survivorship bias.
Interestingly, one doesnā™t have to go all the way to communist coun-
tries to see that just looking at the United States is a form of survivorship
bias. In Triumph of the Optimists: 101 Years of Global Investment
Returns, Elroy Dimson, Paul Marsh, and Mike Staunton argue that most
analyses of stock market returns are overly optimistic.3 Most studies, the
authors argue, ignore places or time periods where stocks did very
poorly. The authors study 16 major countries (the United States plus 15
others including the U.K.) and write that standard analysis āhas provided
investors with a misleadingly favorable impression of long-term equity
The argument of survivorship bias has also been performed rigorously
in academic papers. These results suggest that part, but not all, of the
advantage of U.S. equities is a result of survivorship bias.4 U.S. stocks
have been both lucky and good. It would be naĆÆve to expect the future of
U.S. stocks to be as bright as the past.
Why Jeremy Siegel Does Not Live in Nuclear
Winter without Electricity
Our examination of survivorship bias is worthwhile but incomplete. Stu-
dents of Eastern philosophy are told, āThe Zen that can be taught cannot
be real Zen.ā Similarly, the survivorship bias that can be measured can-
not be the real survivorship bias. To understand the profound problem in
measuring survivorship bias, we can gain perspective from the field of
cosmology. This field studies such deep issues as the formation of the
The analysis of survivorship bias in cosmology is motivated by the
following observation: Our universe is built with certain basic properties
including the speed of light and other parameters that most of us have
never heard of such as Planckā™s constant. Everything in the universe is
affected by these parameters. The amazing thing is that scientists have
determined that if these basic aspects were even slightly different, then
life would be impossible.
Stephen Hawking summarizes this in A Brief History of Time: āThe
168 Applying Science and Art to Bonds, Stocks, and Real Estate
remarkable fact is that the values of these numbers seem to have been
finely adjusted to make possible the development of life.ā5 One obvious
explanation for our good fortune is that God or another intelligent force
designed the universe. Scientists have developed the āanthropic princi-
pleā either as an alternative to intelligent design or in order to understand
the details of intelligent design. The anthropic principle comes in a weak
form and a strong form. Stephen Hawking describes the two versions of
the anthropic principle:
The weak anthropic principle states that in a universe that is large or
infinite in space and/or time, the conditions necessary for the devel-
opment of intelligent life will be met only in certain regions that are
limited in space and time. The intelligent being in these regions
should therefore not be surprised if they observe that their locality
in the universe satisfies the conditions that are necessary for their
existence. It is a bit like a rich person living in a wealthy neighbor-
hood not seeing any poverty.6
According to the strong anthropic principle,
there are either many different universes or many different regions
of a single universe, each with its own initial configuration and, per-
haps, with its own set of laws of science. In most of these universes
the conditions would not be right for the development of compli-
cated organisms; only in the few universes that are like ours would
intelligent beings develop and ask the question, āwhy is the uni-
verse the way we see it?ā The answer is then simple: if it had been
different, we would not be here!7
Most efforts to estimate survivorship bias in stocks ask the equivalent of
the weak form of the anthropic principle. They test the outcome of an
average stock investment around the world, not just the United States. In
the case of Hoop Dreams this weak form of survivorship bias requires us
to look at all 7,600 high school basketball players for each one who
makes it to the NBA.
The strong form of survivorship bias is much more fundamental. It
asks us to consider not just stock markets in other countries, but also
other possible global histories. This sort of question is most often inves-
tigated in movies, particularly those that involve time travel. In Back to
the Future, Marty McFly (played by Michael J. Fox) travels back to the
time when his parents were in high school.
In his effort to get back to the future, Marty changes the outcome and
jeopardizes his family. As Marty looks at a family snapshot that he car-
ries in his wallet, he sees the image of his siblingsā”and then of himselfā”
begin to dissolve as his actions in the past change the future. By the end
of the movie, of course, the happy outcome includes a different,
improved outcome for the modern McFlys.
With regard to U.S. stock returns, the strong form of survivorship bias
suggests that not only has the United States been the luckiest of all coun-
tries, but also that the whole world has been extremely lucky. Just as
small actions by the time-traveling Marty McFly had big effects on the
future, āsmallā events that did not happen in the history of this world
could have destroyed the value of stocks.
Among the most obvious bad thing that didnā™t happen is nuclear war
between the United States and the Soviet Union. This avoidance of war
seems to have happened with a large dose of luck. Recently released doc-
uments from both sides during the Cuban Missile Crisis reveal just how
close we came to global nuclear war. During one confrontation between
U.S. and Soviet ships, two soviet commanders gave orders to launch
This near nuclear miss is described by Noam Chomsky as follows:
We learned that the world was saved from nuclear devastation by
one Russian submarine captain, Vasily Arkhipov, who blocked an
order to fire nuclear missiles when Russian submarines were
attacked by US destroyers near Kennedyā™s āquarantineā line. Had
170 Applying Science and Art to Bonds, Stocks, and Real Estate