How Should You Measure Success?

Trailing vs. Rolling Returns: Which Are Best?

Whether you’re investing in stocks, bonds, real estate, private equity or another asset, you’re in it to grow your wealth. But how you measure success and make decisions about your investment portfolio can make all the difference, and being aware of cognitive biases will help you avoid costly mistakes.

Trailing Returns

Trailing returns (sometimes referred to as point-in-time returns) are the most common and basic means of measuring investment performance. As the label implies, trailing returns measure the performance of an investment between two dates. These dates could cover a day, month, calendar year or even decade.

Trailing returns are often measured over the last 12 months. You might see these returns labeled “TTM,” which stands for “trailing 12 months.”

The limitation of trailing returns is that they can hide the consistency or volatility of an investment. In other words, they do not tell you how an investment achieves a return. The current dynamic in the S&P 500 provides a good illustration of this problem.

At the end of 2022, the TTM for the S&P 500 was -18.1%, reflecting the drop in the stock market. But as 2023 has progressed, the TTM has reflected the S&P 500’s sharp recovery.

For instance, it was -7.7% through March 2023, and by June it had jumped to 19.6%. If the index holds around its current levels, the TTM could rise to something like 30% by September, reflecting the massive rally since late last year.

All this is illustrated in the chart below, which shows monthly returns in blue and TTM returns in yellow.

But the large jump in the S&P 500’s TTM this year is partly due to last year’s bad returns dropping off the calculation as new returns come in. It’s this rolling off of returns that can cause trailing returns to be somewhat misleading.

For instance, that 19.6% return figure mentioned above doesn’t explain how the S&P 500 got there. Looking just at that single number, you wouldn’t know that the index declined 4.1% and 9.2% last August and September, respectively. Put another way, it was a bumpy ride to 19.6%.

Rolling Returns

If trailing returns are flawed, are rolling returns any better? Their biggest advantage is that they provide more information—instead of a single return, you get dozens to thousands of discrete returns, depending on your starting and ending points.

Suppose you want to see rolling five-year returns for the S&P 500 between 2010 and 2020. This means you calculate the five-year return on each day during this period. You start on Jan. 1, 2010, then go to Jan. 2, 2010, and so on until you finish on Dec. 31, 2020.

This is an insightful way of calculating returns because it shows you a range of possibilities over a much bigger set of data, as you’ll see below. Furthermore, you can gain a better understanding of the types of returns an investment has delivered over a given time horizon. And to an extent, rolling returns can help you assess the probability of earning such returns going forward.

The chart above shows rolling five-year total returns for the S&P 500 from July 1970 through this week. Over the 50-plus-year period (and the more than 12,000 unique five-year returns within it), returns ranged from about -10% to almost 30%, but they spent the vast majority of the time in positive territory. This is much closer to the long-term investor’s experience than picking a calendar year or a trailing return between two arbitrary dates and seeing how you’ve done.

Investments go up and down, but the probability of a gain in the stock market is greater than that of a loss—and the longer your time horizon, the higher that probability goes. In this example, the S&P 500 had an average five-year gain of 11.3%, and its return was negative only 9.5% of the time.

Beware of Returns and Biases

Investors often make mistakes after the market drops. During the worst of a drawdown, it’s easy to give up hope, panic and sell. Looking at rolling returns can help you avoid kneejerk decisions by reminding you that any drawdown—like the one in 2022 or the next one—is a temporary setback and one of the inevitable short-term losses that are occasionally part of investing. This knowledge makes it easier to maintain perspective and a long-term focus on your goals.

In contrast, focusing on annual and trailing returns can expose you to one of the most dangerous and prevalent biases in investing: Recency bias. This occurs when you draw conclusions based on short-term events.

The danger of this bias is that it can lead you to make emotional decisions. For example, when the S&P 500’s annual return was -18.1% last year, recency bias might have motivated you to sell because the market dropped and it was all over the financial media. Had you sold in December, you would have missed out on the rebound this year.

The way to overcome this bias and others that can expose you to unnecessary risks is to craft a comprehensive financial plan, stick with it and focus on your goals. And of course, rely on the support of a financial advisor. Behavioral coaching is one of the most valuable services your advisor can provide you, especially during market volatility.

So which return type is best for making investment decisions? Neither.

Please feel free to forward this to a friend, co-worker or family member who might be chasing returns and at risk of falling victim to recency bias. And reach out to your advisor if you have questions.

Planning for the Best and Worst

So much of our work at Adviser is about planning for the best in life. We strive to help you achieve big goals like enjoying a comfortable retirement, buying a second home or giving your children a strong foundation. It’s a gift for us to support you in reaching these wonderful moments in life.

But it’s also our responsibility to help you prepare for the worst of times. From losing a spouse to helping a kid into rehab, we’re here for you when you face unexpected and difficult life events. It’s with this sentiment that we want to talk about the horrific tragedy in Maui, Hawaii.

Our hearts are breaking for the more than 100 victims of the Hawaii wildfires. We send our deepest sympathies to their families, friends and co-workers, as well as to the thousands of other residents of the Valley Isle who are without a home, suffering and in shock.

Preparing for a Natural Disaster

As was the case in Maui, when disaster strikes, it often strikes fast and without warning. You’re not going to be thinking about anything beyond surviving and taking care of your family and pets in that moment. That’s why it’s imperative to prepare as much as you can.

The Federal Emergency Management Agency (FEMA) has a practical guide to help you prepare for a disaster. It covers steps like creating an evacuation plan with your family, taking an inventory of your belongings, building an emergency kit with food and water, and much more.

You can download the guide here: FEMA Preparing for Disaster Guide.

Financial Planning for a Natural Disaster

From a financial standpoint, you can do a lot to prepare for a disaster. Planning ahead is far more effective than anything you can do in the aftermath, and taking preventive measures can help reduce the impact if you get injured or your property is damaged or lost. In fact, financial preparation is as essential as storing water and food.

Just like the financial plans we create for you, your financial plan for a disaster should be based on your values and goals, and it should include steps you can take to protect your wealth and family.

The Red Cross has a comprehensive guide on disaster preparation and recovery. It covers taking an inventory of your assets, securely storing your important documents, considering key insurance issues and much more.

You can download the guide here: Red Cross Disasters and Financial Planning.

Here are a few steps from the guide that you can discuss with your advisor.

Your Property

• Check that you have adequate homeowners insurance.
• Ask your advisor if you should look into additional insurance if you live in a high-risk area (e.g., a flood zone).
• Ask your advisor if you should consider an umbrella policy.
• In the aftermath of a disaster, perform due diligence before hiring contractors and get a second opinion from your advisor.

Your Health and Life

• Review the coverage of your health insurance plan.
• Maintain at least minimum health insurance to cover catastrophic emergencies.
• Maintain health insurance coverage when changing jobs.
• If your spouse is working, compare health insurance plans to see which has the best coverage and ask your advisor for help.
• Ask your advisor to review your life insurance and coverage.
• Update beneficiaries after marriages, divorces or births.
• Ask your advisor to review your current and future insurance needs.

Your Family

• Create your estate plan if you do not have one.
• Ask your advisor to review your estate plan if you have one.
• Write a letter of intent and share it with your loved ones.
• Make plans if you have a dependent with special needs and ask an advisor for help.
• Research the steps you must take immediately following the death of a family member.
• If you are an executor of an estate, understand your requirements.

Your Records

• Consider opening a safe deposit box at your bank to store original policies, deeds and titles as well as important receipts.
• Store your original will with your lawyer or another trusted person such as your advisor. Do not store your original will in a safe deposit box because it may be temporarily sealed upon your death.
• If you are in a disaster, try to keep records of the chain of events and use your phone to take photos and videos of damage to your property.

Recovery

• Beware of rampant fraud following disasters and talk with your advisor if you detect anything suspicious.
• Carefully consider your cash sources.
• Perform background checks on service providers like cleanup crews or contractors.
• Tend to your emotional health and seek solace from your advisor.

Gain Peace of Mind

You can never fully prepare for the shock of a natural disaster. But there are steps you can take to reduce the fallout. One of the most important is to create an emergency fund. This should contain three to six months’ worth of your living expenses (or more, depending on your circumstances).

Store your emergency savings in a liquid account that you can access. Additionally, you might keep a credit card designated for emergency situations like a natural disaster. And it might be a good idea to keep some cash on hand, whether in a safety deposit box or a fireproof, lockable safe in your home.

Finally, remember that you should lean on your financial advisor. This offer extends well beyond natural disasters to encompass all tragedies, traumas or otherwise challenging events you might experience. Our advisors are here for you, especially during the moments in life when you need them the most. Whether you simply want a shoulder to cry on or advice on how to move forward, we’ve got your back.

Resources for Maui Residents

For our clients in Maui, we’ve pulled together this list of helpful resources. And if you have immediate cash needs, need help reviewing insurance policies, or want advice on how to proceed in the wake of this disaster, please do not hesitate to call or email your team.

Adviser Market Update

• The latest inflation data shows that consumer prices have continued to moderate, rising just 0.2% from June to July. A majority of the price increases are attributable to rising home prices. Year-over-year inflation is now running at 3.2%, and July’s results support expectations that the Federal Reserve will decide not to raise the fed funds rate at its next meeting in September.
• Higher prices have not kept consumers from spending. Retail sales rose for the fourth consecutive month in July, and they did so at the fastest pace since January. While we always expect a surge in back-to-school spending over the summer months, people were also out and about more, including at restaurants and bars. As we often note, the consumer is the driver of the economy, and increased spending is a sign of confidence. Should this trend continue, it bodes well for economic growth.
• While the U.S. has led the economic recovery from the COVID-19 pandemic, other parts of the world are starting to rebound. This week, Japan reported that its economy grew for the third consecutive quarter. Exports have been behind most of the gains, and increased tourism has also helped. The report is an indicator that global logistics networks are finally getting back to a semblance of normality following pandemic-era disruptions.

Strategy Activity

Please see below for a summary of the trades we executed over the week through Thursday and our current tactical strategy allocations.

Dividend Income

AIQ Tactical Defensive Growth

AIQ Tactical Multi-Asset Income

Sell Invesco DB Agriculture Fund (DBA)

Buy Invesco DB Commodity Index Tracking Fund (DBC)

AIQ Tactical High Income