Bad Times Can Lead to Big Returns


by Eric Nelson, CFA


With almost four years separating us from the end of the brutal 2007-2009 bear market for stocks, we have another opportunity to determine whether investors were rewarded for staying with their broadly diversified portfolios, as had been the case after the Great Depression, 1973-1974, and the 2000-2002 Tech Bubble/Bust, versus selling out and trying to preserve what was left.


At least historically, stocks had always recovered from even the worst declines, each time producing returns that were well above long-term average results.  In particular, smaller and lower priced “value” stocks had been the most rewarding, and broadly diversified portfolios that were “tilted” towards these companies generated returns significantly higher than even the impressive growth of the stock market itself.


We now know the market did recover, starting on March 10th of 2009, ironically the day after the Wall Street Journal featured an article tilted “Dow 5000, There’s a Case for It” (the Dow was at about 6500 at the time, so that would have been an additional 23% decline on top of about 60% in losses to that point), with the famous quote from a Warren Buffett interview on CNBC the previous day that the economy had “fallen off a cliff”.


The following table looks at the magnitude of the recovery, and whether the tendency for smaller and more value oriented stocks to recover more quickly has held true this time around.


TABLE 1: Global Stock Market Performance (3/09/2009 to 12/18/2012)

Asset Classes

Growth of $10,000 

Total Return

Vanguard US Total Stock Index Fund (VTSMX)



DFA US Vector Equity Fund (DFVEX)






Vanguard Int’l Developed Stock Index Fund (VDMIX)



DFA Int’l Vector Equity Fund (DFVQX)






Vanguard Emerging Markets Stock Index Fund (VEIEX)



DFA Emerging Markets Core Equity Fund (DFCEX)





Using Vanguard index funds as our proxy for broad market averages, we see that stocks in the US, International, and Emerging Markets have risen considerably in just the last 3 3/4 years.  The worst of the bunch was Europe and Asia (“International Developed”), with just a +100.9% return, or over +20% per year since early March 2009.  Stocks in the US and Emerging Markets turned in even more impressive results, earning almost +140% and over +25% per year for this stretch.


But there was more to be had.  If we use DFAs “Core Equity” funds as proxies for broad market portfolios with pronounced tilts to smaller and more value oriented stocks (as opposed to the large and growth stocks that dominate traditional indexes and index funds), we find that this more diversified approach produced even higher returns.  


Domestically, the DFA US Vector fund earned over 30% more than the broad US market, and over 30% per year.  If the +172% result was earned over a decade, that would still be an impressive +10.5% per year return.  Having done so in less than four years shows the tremendous potential for sticking with your stocks during even the worst periods, as bad times mean low current stock prices and the potential for extremely high future returns—in this case the +30% per year was almost 3 times the average long-term return for a market-wide portfolio tilted to smaller and more value oriented stocks (which was about +12% per year from 1928-2011).


The advantage of this small/value tilt was not only a US effect.  The DFA International Vector Equity Fund earned almost +25% more than the Vanguard Developed Market Index Fund, with a similar margin of outperformance for the DFA Emerging Markets Core Equity Fund relative to the Vanguard Emerging Markets Index Fund.


So once again, we find the Mark Twain quote “history doesn’t repeat itself, but tends to rhyme” accurately describes recent market developments for broadly diversified portfolios.  Investors who worried "this time is different", panicked, and sold their stocks prior to the early 2009 recovery have missed a significant rebound that could take a decade or more of average returns to duplicate.  Those who stayed with their stocks, and in particular their tilts to smaller and more value oriented companies have been handsomely rewarded, and have again been reminded that bad times can lead to big returns.



Past performance is not a guarantee of future results.