Each January I consider whether to post a “year in review” of asset class returns.  In some years I skip it entirely because nothing particularly remarkable happened.  But even before I sat down to study the final returns for 2022, I was pretty sure that last year was extraordinary in several ways.  It turns out that 2022 taught us mindful investors some useful lessons.

2022 Asset Class Returns

Here’s my standard graph of nominal (not inflation-adjusted) annual asset class returns in descending order of performance.

The bar colors group the assets into categories: real estate (blue), cash (green), gold (yellow), stocks (red), and bonds (purple).  The only things that made nominal money for investors in 2022 were real estate and cash (using 3-month Treasury Bills as a surrogate).

Unfortunately, 2022 also produced inflation rates that we haven’t seen in 40 years as shown in this graph.  Inflation decreases the spending power of your money (invested or not), which you can learn more about here.

So, one could argue that the inflation-adjusted returns shown in this next graph provide a better picture of what happened in 2022.

After accounting for inflation, the only major asset class that made money in 2022 was owning and renting out real estate property.

The basic reason for diversifying investments across various assets is that often some assets perform well while others perform poorly.  But last year provided almost no place to hide.

Putting 2022 In Perspective

How common is it for annual returns to be consistently bad across many asset classes?  After all, if this sort of thing happens every few years, then diversification may be less important than is often claimed.  On the other hand, if 2022 was pretty unusual, then ignoring diversification because of this one year would be shortsighted.

So, I looked at annual returns for all these asset classes going back to 1928, or as far back as reliable data go.¹  To understand how unusual 2022 was, I calculated standard percentile intervals for all historical return data for comparison.

For example, the 5th percentile nominal annual return for U.S. stocks going back to 1928 is -22.9%.  This means that only 5% of past years had stock returns that were lower than -22.9%.  If we compare that to the -18.0% return for U.S. stocks in 2022, we can see that 2022 was an unusual year, but it was not an extreme outlier.

Here’s a graph comparing nominal annual return precentiles to 2022 values for all 14 asset classes.

For 2022, the only asset classes that performed somewhat normally (roughly between the 25th and 75th percentiles) were cash, gold, real estate, and real estate plus rent.  On the other hand, all forms of bonds had historically horrible returns in 2022 (well below the 5th percentile).  In fact, 2022 had the absolute worst performance since 1928 for all types of bonds except high-yield corporates.   All varieties of stocks performed quite poorly in 2022, although above the 5th percentile, with value stocks turning in the “best” performance.

But again, inflation was a huge story in 2022, so let’s look at this on an inflation-adjusted basis.

The overall pattern is very similar, but the performance of every asset class in 2022 was even more unusual on an inflation-adjusted basis.  This makes sense given that the inflation rate itself for 2022 was at the 87th percentile as compared to inflation for all years going back to 1928.  That is, only 13% of historical years had higher inflation than we saw in 2022.

Everything All At Once

The graphs so far show that almost every asset class had an unusually bad 2022.  But returning to the diversification issue, I was curious whether simultaneously poor returns across asset classes were uncommon in any given year.

The simplest way I could think to answer this question was to examine how often in the past negative nominal returns have occurred for multiple asset classes in the same year.  Negative returns are not the only threshold one could use to define poor asset performance, but losing money is the top concern for most investors.

Here’s a graph showing the percentage of asset classes that turned in a negative nominal annual performance for every year going back to 1928.²

Last year, greater than 80% of the asset classes produced negative returns (12 out of 14 assets).  The only other year in that ballpark was 1931, during the Great Depression.  Four other years (1990, 1994, 2008, and 2018) produced negative returns for 60% to 80% of the assets.  The last time that nearly 80% of the assets had negative returns was just a few years ago in 2018.  (This caused me to write a somewhat similar post back then.)  Also, if you squint at the chart, you could argue that years with simultaneous negative performance across many asset classes are happening more often than they used to.

Bonds and Stocks

When it comes to portfolios that are constructed in the hopes that one asset zigs when the other zags, by far the most common approach is to hold a portfolio that’s a mixture of bonds and stocks.  I’ve written many pages over the years on why this most common diversification scheme:

1. Performs worse than many investors expect or hope in volatile times and
2. Doesn’t reduce the kind of long-term risk mindful investors care about, which is the risk of a permanent loss.

The unprecedented poor performance of bonds in 2022 means that many investors who thought their portfolios were “safe” or “conservative” got a huge shock this year.

One part of the shock was that both stocks and bond returns were substantially negative at the same time, which is a rare occurrence, as this graph shows.

On a nominal basis, annual stock and bond returns have both been substantially negative only four times going back to 1928, and one of these was that same year of the Great Depression (1931).

On an inflation-adjusted basis, this next graph shows that simultaneous negative annual returns for both stocks and bonds are a bit more common.

In this case, there have been 14 years with simultaneously negative annual stock and bond returns.  Further, in both nominal and inflation-adjusted terms, the poor performance of bonds in 2022 was an extreme outlier that is completely unprecedented.

The second part of the shock for stock/bond portfolio holders was the magnitude of the poor performance of both assets, which combined to create an annual loss that might have previously seemed impossible.  The most common stock/bond portfolio is probably 60% stocks and 40% bonds.  Here’s a percentile graph showing how the performance of the 60/40 portfolio in 2020 compared to all previous years.³

As bad as 2022 was, it turns out that it was not the absolute worst performance in the history of the 60/40 portfolio.  Here are two tables that rank the five worst return years for the 60/40 portfolio.

Nominal Annual Returns

1931	-27.33%
1937	-20.65%
2022	-17.94%
1974	-14.74%
2008	-13.89%

Inflation-Adjusted Returns

1974	-24.11%
2022	-23.11%
1937	-22.86%
1931	-19.86%
1946	-18.57%

In some prior years, stocks performed much worse than in 2022, which dragged the overall 60/40 portfolio further down.  Nonetheless, as the prior scatter plots show, it’s still safe to say that bonds in 2022 created an entirely unprecedented amount of drag on the venerable 60/40 portfolio.

Conclusions

Asset class returns were so dismal in 2022 it’s hard to see those “useful lessons” I mentioned at the top of this post.  But for me, there are at least three big lessons from 2022.

One, history is a guide, not a prediction of how asset classes will perform in the future, either individually or in aggregate.  I’ve written many posts on this blog that use historical data to define mindful investing approaches.  But there’s always a caveat that unprecedented events can and will happen eventually.  Modern automobiles are extremely reliable, but many relatively new cars in the world fail to start every day.  Is that a good reason to never buy or drive a car again?

Two, regardless of how complex and “optimized”, no diversification strategy will work all the time.  If you think you’ve devised a painless portfolio, a painful year will come along soon enough.  One bad year doesn’t prove that your strategy is wrong.

Three, there’s always a seemingly good reason to revamp a strategy, which means selling some stuff and buying new stuff.  But no strategy works without mindful long-term consistency.  This graph is one way to visualize that idea.  I found it at TagStone Capital, but there are many versions of it all over the internet.

However, for me, the emphasis on “discipline” smacks of deprivation and white-knuckle anxiety.  I prefer mindful investing, which essentially embodies the opposite emotions.  Regardless, trying to time when markets will be favorable or unfavorable to your portfolio is a guaranteed way to sink any strategy.

---

1 – Specifically, reliable data going back to 1928 only exist for 7 of the 14 asset classes: U.S. stocks, 10-Year bonds, cash, corporate AAA bonds, corporate BAA bonds, real estate, and real estate plus rent.  The other asset classes have reliable data as far back as follows: developed market (excluding U.S.) to 1970; U.S. small-cap, mid-cap, and value stocks as well as gold to 1972; high-yield corporate bonds (junk bonds) to 1979; and emerging market stocks to 1988.  You can learn more about my standard data sources by starting on my historical returns page.

2 – Again, I should note that the historical track record is longer for some assets than others.  That’s why I used percentage, instead of the number of negatively performing assets for each year.  It’s a decent (if not perfect) way to level the playing field as we go back in time.

3 – My calculations assume the portfolio is rebalanced annually.  And because these are all annual return data, that means I’m assuming no rebalancing.  I was curious how much the results might change if I had supposed quarterly rebalancing, which would have taken me considerably longer to calculate.  So, I calculated the difference between annual and quarterly rebalancing for 2022 using Portfolio Visualizer, which contains slightly different data than the sources I used.  The 2022 return for the 60/40 portfolio with quarterly rebalancing was -16.8% and with annual rebalancing, it was 17.0%.  So, more frequent rebalancing makes a difference, but it’s never going to totally change the results for the 60/40 portfolio in any given year.