Are you thinking about a major purchase in less than 10 years, but aren’t sure yet whether it will actually happen—and if so, exactly when you’ll make it (a new car, buying a home, a new partner + divorce, etc.)?? Does it break your heart to see your money sitting idle in a checking account? But you feel you have no other choice, since any investment in ETFs for less than 10 years poses an incalculable risk? Then you should read this post!
Our world isn’t black and white. There are nuances; the lines are blurred. The reasons for investing (or for not investing) vary and are individual. To assess the risks and opportunities, more detailed information is essential. Only then can we make rational decisions based on our individual risk profiles. Using the historical performance of the S&P 500 as a basis, we’ll examine in this post whether you’re actually stepping into the gates of hell if you invest in an ETF for just 1, 2, 5, or 9 years. And if not: How much higher is the risk compared to a holding period of 10, 15, or 20 years?
Important: This post deals exclusively with the risk you take on with a short investment horizon in a broadly diversified portfolio. The opportunities offered by such an investment horizon are not considered. Nor are strategies that involve early or frequent buying and selling of securities taken into account. The goal, therefore, is to better assess the risk involved if money invested for the long term might need to be withdrawn after less than 10 years.
Conclusion & tl;dr
If history repeats itself, it is entirely possible—with a relatively low risk premium—to save into an S&P 500 ETF for just 9 or possibly even 8 years instead of the often-recommended 10 years. In the case of a lump-sum investment, even an investment horizon of just 7 years would be completely unproblematic. Nevertheless, past experience has shown that even with a 10-year investment period, in the worst-case scenario, a loss of up to 50% is possible for a one-time investment or 40% for a savings plan.
But there’s also good news for the less risk-tolerant investors among us: Over the past 95 years, there has never been a time when a one-time investment in—or the start of a savings plan for—the S&P 500 would still have resulted in a negative return after 19 or 17 years.
Data Source and Methodology
The analysis in this post is based on the performance of the S&P 500 Index from December 1927 to June 2022 [1]. I would have liked to use a global index as a basis, but unfortunately I do not have data that is detailed enough or goes back far enough. If you have any, please let me know. It’s important to note that the performance of a specific ETF can, of course, differ from that of the index—for example, due to annual fees, costs associated with executing a savings plan, the ETF’s structure, and tax considerations.
Since the companies in the S&P 500 not only grow but also pay dividends, these were also taken into account [2]. For simplicity’s sake, I ignored the ex-dividend date and assumed a flat tax rate of 27% on dividends. I also assumed that dividends are reinvested directly.
The approach itself is relatively simple. Over various time periods, the same amount is invested each month (or, for one-time investments, only for one month) and offset against the monthly gain (or loss) in line with the index. After the savings phase, the invested amount may be left untouched for a certain period—that is, no further savings are made—before the money is then withdrawn. Dividends paid are taken into account over the entire period. The key question is: In how many cases do I end up with a loss, how large is that loss, and how significantly do these figures change as the investment period increases or decreases?
Assessing the Risk Correctly
We look at the absolute risk of loss: In how many cases (as a percentage) was a loss or gain realized over an investment period of X years? If 100 cases are considered, 98 of which end in a gain, the absolute risk of loss is 2%. However, if a profit is realized in only 97 out of 100 cases, the absolute risk of loss is 3%.
In addition, the relative risk of loss is also an important metric. It indicates by what percentage the risk of loss increases or decreases compared to a reference value. In the two examples from the previous paragraph, the increased risk of loss in the second scenario seems, at first glance, so small that it can be ignored as an investor. What’s 1% more risk or 3% total risk, after all? Significantly more than one might think. In relative terms, the risk of loss actually increases by a whopping 50% (2% * 1.5 = 3%)! The probability of incurring a loss in the second scenario is therefore 1.5 times higher than in the first scenario.
In addition, we must consider the magnitude of potential losses. As an investor, I might accept a 20% probability of having to sell my investment at a loss, provided the amount of the loss does not exceed 10%. On the other hand, a risk of loss of just 5% could be too much if the loss could amount to as much as 90%.
To make a rational decision, all three metrics must be considered accordingly. What is the absolute risk of a loss? By what percentage do I increase my risk of loss compared to the benchmark if I exit earlier? And what level of loss might I have to expect?
Risk tolerance varies greatly from investor to investor, which is why everyone should ask themselves how much risk they can take on and at what point the risk becomes too great. Accordingly, I’ll present the key metrics mentioned here below so you can make an informed decision for yourself.
The Benchmark (Hold for 10 Years)
Let’s first take a look at our baseline scenario: We make a one-time investment and hold it for 10 years. In total, from December 1, 1927, every month through May 1, 2012, 1,014 possible investment dates. After 10 years, we end up with a negative return in 120 (without dividends) or 66 (with dividends) of these cases. This corresponds to a risk of loss of 11.8% or 6.5%, respectively.
How often do losses occur, and in what amounts (including dividends)?
- 3 times between 50% and 40%
- 8 times between 40% and 30%
- 17 times between 30% and 20%
- 23 times between 20% and 10%
- 15 times less than 10%
Unsurprisingly, the years and months around 1929 and 2000 were particularly prone to losses.
However, if a fixed amount is invested in the S&P 500 every month over a 10-year period, the risk can be reduced somewhat. In 94 (excluding dividends) and 29 (including dividends) of the 1,014 cases, a negative return was recorded. This corresponds to a risk of 9.3% and 2.9%, respectively.
In this scenario, the losses break down as follows (including dividends):
- 1x between 40% and 30%
- 5x between 30% and 20%
- 9 instances between 20% and 10%
- 14 instances less than 10%
In this scenario, the losses occurred at the start of the savings plan around the years 2000, 1930, and 1964.
To reduce risk over a 10-year investment period, a savings plan tracking the S&P 500 has historically been a more sensible choice than a one-time investment.
Holding Period < 10 Years – Data
How do the numbers change for a one-time investment with a holding period of 1–9 years? @Kundenservice I’d like to be able to format the data as a table.
9 years:
- 1,026 possible investment dates
- 113 (without) / 48 (with dividends) negative outcomes
- 11% / 4.7% risk of loss
- Reduction in risk of loss by approx. 28%
Losses (including dividends):
- 1x between 60% and 50%
- 6x between 50% and 40%
- 12x between 40% and 30%
- 11 times between 30% and 20%
- 8 times between 20% and 10%
- 10 times less than 10%
8 years:
- 1,038 possible investment dates
- 140 (without) / 42 (with dividends) negative outcomes
- 13.5% / 4% risk of loss
- Reduction in the risk of loss by approximately 38%
Losses (including dividends):
- 1 time between 60% and 50%
- 2 times between 50% and 40%
- 7 times between 40% and 30%
- 10 times between 30% and 20%
- 7 times between 20% and 10%
- 15 times less than 10%
7 years:
- 1,050 possible investment time points
- 152 (without) / 62 (with dividends) negative results
- 14.5% / 5.9% risk of loss
- Reduction in risk of loss by approx. 9%
Losses (including dividends):
- 1 time between 50% and 40%
- 6 times between 40% and 30%
- 19 times between 30% and 20%
- 14 times between 20% and 10%
- 22 times less than 10%
6 years:
- 1,062 possible investment time points
- 164 (excluding) / 91 (including dividends) negative outcomes
- 15.4% / 8.6% risk of loss
- Increase in risk of loss by approx. 32%
Losses (including dividends):
- 7 times between 60% and 50%
- 8 times between 50% and 40%
- 7 times between 40% and 30%
- 18 times between 30% and 20%
- 13 times between 20% and 10%
- 38 times less than 10%
5 years:
- 1,074 possible investment dates
- 223 (without) / 139 (with dividends) negative outcomes
- 20.8% / 12.9% risk of loss
- Increase in risk of loss by approximately 98%
Losses (including dividends):
- 4 times between 70% and 60%
- 10 times between 60% and 50%
- 15 times between 50% and 40%
- 15 times between 40% and 30%
- 8 times between 30% and 20%
- 33 times between 20% and 10%
- 54 times less than 10%
4 years:
- 1,086 possible investment dates
- 246 (without) / 171 (with dividends) negative outcomes
- 22.7% / 15.7% risk of loss
- Increase in risk of loss by approximately 142%
Losses (including dividends):
- 4 times between 80% and 70%
- 8 times between 70% and 60%
- 10 times between 60% and 50%
- 13 times between 50% and 40%
- 11 times between 40% and 30%
- 30 times between 30% and 20%
- 40 times between 20% and 10%
- 55 times less than 10%
3 years:
- 1,098 possible investment time points
- 242 (without) / 189 (with dividends) negative outcomes
- 22% / 17.2% risk of loss
- Increase in risk of loss by approx. 165%
Losses (including dividends):
- 1x between 90% and 80%
- 5 times between 80% and 70%
- 11 times between 70% and 60%
- 2 times between 60% and 50%
- 4 times between 50% and 40%
- 20 times between 40% and 30%
- 41 times between 30% and 20%
- 57 times between 20% and 10%
- 48 times less than 10%
2 years:
- 1,110 possible investment time points
- 266 (without) / 210 (with dividends) negative results
- 24% / 18.9% risk of loss
- Increase in risk of loss by approx. 191%
Losses (including dividends):
- 3 times between 80% and 70%
- 7 times between 70% and 60%
- 9 times between 60% and 50%
- 8 times between 50% and 40%
- 27 times between 40% and 30%
- 34 times between 30% and 20%
- 56 times between 20% and 10%
- 66 times less than 10%
1 year:
- 1,122 possible investment time points
- 348 (without) / 303 (with dividend) negative outcomes
- 31% / 27% risk of loss
- Increase in risk of loss by approx. 315%
Losses (including dividends):
- 2 times between 70% and 60%
- 5 times between 60% and 50%
- 6 times between 50% and 40%
- 21 times between 40% and 30%
- 36 times between 30% and 20%
- 85 times between 20% and 10%
- 148 times less than 10%
Holding Period < 10 Years – Conclusion
If a lump-sum investment was made, it made little difference in the past, in terms of the risk of loss, whether it was held for 7, 8, 9, or 10 years. Strictly speaking, an investment period of 7–9 years actually carried a lower risk of loss, provided the dividends were reinvested. With an investment period of just 6 years, the risk of a loss remained low in principle, but the risk of a large loss increased noticeably.
An investment period of 2–5 years already carries a significantly higher risk of loss. The magnitude of a potential loss also increased noticeably.
Although the maximum loss amount decreased slightly with an investment horizon of just 1 year, the probability of incurring an overall loss was highest at over 25%.
If the S&P 500’s history repeats itself, the minimum investment period for one-time investments can easily be reduced to up to 7 years. Those who can tolerate the increased risk may even venture as low as 6 years. A holding period of 5 years or less is not recommended, or only with an appropriate risk profile.
Savings Plan < 10 Years - Data
9 years:
- 1,026 possible start dates
- 90 (without) / 34 (with dividends) negative outcomes
- 8.8% / 3.3% risk of loss
- Increase in risk of loss by approx. 14%
Losses (including dividends):
- 1x between 40% and 30%
- 4x between 30% and 20%
- 13x between 20% and 10%
- 16 times less than 10%
8 years:
- 1,038 possible start dates
- 103 (excluding) / 46 (including dividends) negative results
- 9.9% / 4.4% risk of loss
- Increase in risk of loss by approx. 52%
Losses (including dividends):
- 1x between 40% and 30%
- 3x between 30% and 20%
- 16 times between 20% and 10%
- 26 times less than 10%
7 years:
- 1,050 possible start dates
- 131 (excluding) / 78 (including dividends) negative outcomes
- 12.5% / 7.4% risk of loss
- Increase in risk of loss by approx. 155%
Losses (including dividends):
- 1 time between 40% and 30%
- 7 instances between 30% and 20%
- 26 instances between 20% and 10%
- 44 instances less than 10%
6 years:
- 1,062 possible start dates
- 159 (without) / 107 (with dividends) negative results
- 15% / 10.1% risk of loss
- Increase in the risk of loss by approximately 248%
Losses (including dividends):
- 1x between 40% and 30%
- 15x between 30% and 20%
- 35x between 20% and 10%
- 56 instances of less than 10%
5 years:
- 1,074 possible start dates
- 185 (excluding) / 123 (including dividends) negative results
- 17.2% / 11.5% risk of loss
- Increase in risk of loss by approx. 297%
Losses (including dividends):
- 1x between 60% and 50%
- 3x between 50% and 40%
- 3 times between 40% and 30%
- 22 times between 30% and 20%
- 36 times between 20% and 10%
- 58 times less than 10%
4 years:
- 1,086 possible start dates
- 205 (without) / 140 (with dividends) negative outcomes
- 18.9% / 12.9% risk of loss
- Increase in risk of loss by approx. 345%
Losses (including dividends):
- 1 time between 80% and 70%
- 2 times between 70% and 60%
- 5 times between 60% and 50%
- 6 times between 50% and 40%
- 7 times between 40% and 30%
- 21 times between 30% and 20%
- 32 times between 20% and 10%
- 66 times less than 10%
3 years:
- 1,098 possible start times
- 242 (without) / 187 (with dividends) negative outcomes
- 22% / 17% risk of loss
- Increase in risk of loss by approx. 486%
Losses (including dividends):
- 3 times between 70% and 60%
- 3 times between 60% and 50%
- 7 times between 50% and 40%
- 13 times between 40% and 30%
- 30 times between 30% and 20%
- 40 times between 20% and 10%
- 91 times less than 10%
2 years:
- 1,110 possible start dates
- 287 (without) / 231 (with dividends) negative outcomes
- 25.9% / 20.8% risk of loss
- Increase in risk of loss by approx. 617%
Losses (including dividends):
- 1x between 70% and 60%
- 2 times between 60% and 50%
- 7 times between 50% and 40%
- 11 times between 40% and 30%
- 32 times between 30% and 20%
- 48 times between 20% and 10%
- 130 times less than 10%
1 year:
- 1,122 possible start dates
- 342 (without) / 299 (with dividends) negative outcomes
- 30.5% / 26.6% risk of loss
- Increase in risk of loss by approx. 817%
Losses (including dividends):
- 1x between 60% and 50%
- 2 times between 50% and 40%
- 9 times between 40% and 30%
- 19 times between 30% and 20%
- 60 times between 20% and 10%
- 208 times less than 10%
Savings Plan < 10 Years – Conclusion
If the savings plan ran for only 9 years instead of 10 before the payout, the risk of a loss increased only slightly. Even at 8 years, the risk of loss was—in my opinion—still within acceptable limits. With an investment horizon of 7, 6, 5, or 4 years, a significantly increased risk was already observed. Furthermore, the risk of a large loss rose significantly after 5 years or less. With an investment period of 3 or 2 years—and especially 1 year—one would already have to accept a high level of risk.
If investing via a savings plan, based on historical data, it would likely be reasonable to reduce the investment horizon from 10 to 9 or, if necessary, even 8 years. However, the risk increases sharply for even shorter time periods. A decision to invest for such a short period should only be made consciously and with consideration of one’s individual risk profile.
Leaving the money inthesavings plan after itends
Would the risk change if the money were left in the savings plan for another year after it ended before being withdrawn? Since I don’t want to bore you again with endless lists, here’s the short answer: If I contribute to a savings plan for one year less and instead leave the money in for one year after the final installment, the risk increases only minimally.
How much do I reduce the risk of loss if I hold my investments for longer than 10 years / let the savings plan run longer?
As expected, every additional year of holding reduces the risk slightly. For a one-time investment, the probability of having to sell at a loss was only 1.7% after 15 years (including dividends), 0.2% after 16 years, and 0% after 19 years. For investment horizons of 12 years or more, the date of any one-time investment that resulted in a loss was prior to 1931. Therefore, if we consider only the periods starting in 1931, the risk of loss for one-time investments was 0% for holding periods of 12 years or more.
A similar pattern emerges for savings plans. Here, the probability of having to exit at a loss after 14 years was 1.9% (including dividends). After 15 years, the probability was only 0.4%. Somewhat surprisingly, the months in which the loss-making savings plans were initiated were in 1959 and 1994. When executing a savings plan, the probability of a loss was already 0% after just 17 years.
But the S&P 500 isn’t the MSCI World!
That’s correct. As mentioned, I don’t have sufficient historical data for the MSCI World. But at least [3] provides a look back to December 1978. If we compare the risk of the MSCI World with that of the S&P 500 for the years 1979 through 2022, you’ll see a similar risk trend—for both lump-sum investments and savings plans. Even though, overall, the risk for the S&P 500 was slightly lower than that of the MSCI World in most of the periods considered.
Final Thoughts
