by: Hari Wibowo
Have you ever wondered why investors behave the way they do? For example, why do people invest in bonds or stocks or not at all? Since I am an advocate of stock investing, let me make the case for stock investing.
So, why invest in stocks? No, I won’t just invest in any kind of stocks. There are goals associated with investing in stocks. For starter, stock investors would want to be compensated more than if they put their money in the bank. Anything else? Yes. Stock investors would want to be compensated more than the risk free interest rate which currently yield around 4.7%. For your information, risk free interest rate here is the 10 year Treasury bond which is backed by the United States Government. These bonds are deemed to be free from the risk of default.
Therefore, when we invest in stocks, we would want a return in excess of 4.7%. How much more? That varies within individuals. Some wants a 5% return. Others are satisfied with 6% return. Personally, I would want at least 7% return for my stock investment. There are reasons for this. Stock investing is relatively volatile and full of uncertainty. Interest rate goes up and down which will hamper our return as stock investors. For example if interest rate rises to 8%, would aiming a 7% return for your stock investment worth the risk? Probably not. In this case, most people prefer to put their money in the bank and enjoy the higher return.
Having said that, we need to know how much stocks have given investors historically. For the US stock market, the return for the last century has been in the neighborhood of 10%. That, my friend, is the sole reason to invest in stocks. Not because you want to own a piece of corporate America. You invest in stocks because historically it gives you a better return that other investing alternatives. No other investments boast that high of a return over the last century, not even real estate.