Could we have 7 lean years in the stock market?

Sobered by two years of stock market losses, we're inclined to take the question seriously.

Let's start with the historical record. In the 15-year period ending 1999, large capitalization common stocks provided a compound annual return over 18 percent. This has only been equaled in one other 15-year period since 1926. (The figures come from Ibbotson Associates in Chicago.)

The last two years of woe reduced the trailing 15-year compound annual return to less than 14 percent. That return is still greater than the 11 percent average annual return of common stocks. Indeed, in the 37 fifteen year periods since 1951, large cap stocks have provided returns under 11 percent 18 times. In every 15 year period that ended from 1973 through 1984 returns were well under 10 percent.

So it can happen and it isn't necessary to drag out the Great Depression to find long periods of disappointment in the stock market.

Nor is it difficult to build a case for 7 percent returns in coming years. With low dividend yields, real growth can only come from rising per share earnings. If corporations enjoy their long-term annual profit growth of 7 percent, we can expect 7 to 8 percent returns in the future, provided only that earnings multiples don't change.

How you are affected by a period of low returns depends on your age. We'll start with the good news first.

Young Savers. Suppose you are 25, have no savings, and have a $30,000 a year job with a 401k plan that provides a 50 percent employer match on the first 6 percent of salary. Suppose you capture the match with a 6 percent savings rate. With 4 percent raises and a 7 percent return you'll accumulate $27,000 in 7 years, a good deal less than the $35,500 you would accumulate at 15 percent.

Does it matter?

Not at all. With another 30 plus years to save and accumulate, you're certain to go through periods of above average return. Your long-term return will probably even out to 10 or 11 percent. The hard part will be psychological. The still better news is that this applies nearly as well to workers in their thirties and forties.

Late-Middle Aged Savers. If you are in your 50's and already have significant savings, the impact of below average returns will be greater because it will affect your existing savings as well as your new savings. A 55 year old with an income of $55,000 a year and $110,000 in savings (2 years of income) who saved at the same rate as the 25 year old could expect to grow his savings to $357,600 at 15 percent but only $226,100 at 7 percent.

That's a big difference.

To have sufficient resources at retirement, people in their 50's can increase their savings to partially offset the lower return. Note that I say partially. Increasing savings from 6 percent of income to 13 percent, for instance, would do the same as having a 10 percent rate of return during the period. To have your assets grow as fast at a 7 percent return, as at a 15 percent return would be virtually impossible--- the savings requirement would more than quadruple. The greater your beginning savings, the harder it is to compensate for lower return expectations.

Pre-Retirees.   If you are a few years away from retirement, lower returns will impact you severely because you'll be hit by a "triple-whammy." Your existing savings will grow more slowly. Your new savings will grow more slowly. And your early years of withdrawals will have a large impact on your savings.

How can you compensate for the change in returns?

Save more. Spend less. Retire later. Those are the only real options.

Retirees. If you're already drawing a retirement income there is a single impact--- the effect of your withdrawal rate. The higher the rate, the greater the damage you'll do to your long-term future. Compensate by spending less.

Is this terrible news?

I don't think so. As always, we can choose the glass that is half-empty or the glass that is half-full. The half-empty glass tells us we won't do as well in the future so we should save more. The half-full glass reminds us that anyone who saved over the last 15 years is ahead of the game.