Coronavirus is Reminder of Stock Risk Premium

A recent article in The Wall Street Journal reminds investors that there’s a premium attached to the equities they own—to reward them for the additional risk they’re assuming compared to holding safer securities such as bonds. “Sometimes that risk comes due, and now is one of those times.”

The article reports that global stocks have outperformed bonds by 3.2 percentage points a year since 1900 and that, in theory, the outperformance is “justified as reward for the danger of unexpected events, including pandemics, and for the volatility of stocks.”

But right now, stocks are looking “terrible even for some who invested decades ago,” the article argues, adding data showing that the S&P 500 is lagging Treasurys since the summer of 1998. “None of this means Treasurys are a better investment than stocks in principle,” the article emphasizes, “but it should underline the word ‘risk’ in the equity risk premium.”

The article qualifies that “the corona-crash hasn’t been that bad for American investors,” noting that investors who purchased equities in March 2009 are still ahead of those who didn’t. “For the long run,” it advises, “the key is to avoid buying when stocks are historically overpriced, and to accept that the reason stocks should beat bonds is that they are riskier.” It also suggests that investors pay attention to their own risk tolerance: “If you can’t handle big swings in the value of your portfolio, don’t hold it mainly in stocks.”