Silver LiningThis is a year for the record books.

As we stand gaping at the incredible losses in the last three months -- or just the month of October -- we search for comparative measures of loss. The period I remember most vividly is 1973-1974. Large common stocks lost 14.7 percent in 1973 and another 26.5 percent in 1974. At the time, it was the worst decline since the Great Depression.

It had tough results.

One of my neighbors on Cape Cod, an antique car collector who had provided the yellow Rolls-Royce used in Robert Redford's filming of "The Great Gatsby," went bankrupt. His summer house was foreclosed. His car collection was auctioned off. He quietly disappeared.

Houses didn't sell. The second-home market died. Everyone wondered just how bad it would get. But 10 years later, large common stocks had provided a return of 6.7 percent, including the years of loss.

What we're experiencing today is worse. As I write this, large common stocks have declined by 39 percent over the last 12 months -- more than the combined decline of 1973-1974.

So, exactly how bad is this decline?

Answer: When you consider 10-year periods of investing, it's right up there with the Great Depression. According to "Stocks, Bonds, Bills and Inflation" -- the Morningstar-published standard reference for major asset class returns since 1926 -- the worst 10-year period for investing in large common stocks was 1929 through 1938. The return was an annualized loss of 0.9 percent, after including reinvested dividends.

The second worst period was 1930 through 1939, an annualized loss of 0.1 percent. The third worst period was 1928 through 1937, which registered a neat 0.0 percent.

The trailing 10-year return on the S&P 500 index was recently running at an annualized loss of 0.3 percent. There is a pretty good chance that when Dec. 31 comes around, the 10-year loss may be the worst in the last 74 years. If not, it will certainly be somewhere among the four worst 10-year periods.

Can we find any silver linings in this gloom?

Absolutely. Here are three.

  • Tax-free investment gains in mutual funds. In past periods of heavy declines and fund redemptions, mutual funds have been forced to realize capital losses that could not be distributed. As a consequence, we will see thousands of mutual funds with capital loss carryforwards by early next year. This means you don't have to worry about buying a tax liability when you buy a fund. It also means you don't have to worry about a higher capital gains tax rate that may be coming. Many mutual fund investors won't see any taxable capital gains distributions until the next presidential election. The opportunity for tax-free returns will include bond funds as well as equity funds -- at the end of September, according to Morningstar, more than 400 municipal bond funds had capital losses of at least 10 percent of their portfolios.
  • Zero-expense closed-end funds. Closed-end funds -- funds that sell on an exchange rather than through issuing or redeeming shares directly -- are now selling at serious discounts to net asset value. In other words, you can buy $1 of assets for 80, 85 or 90 cents. If you think of the 10 to 20 cents you didn't have to pay as a side fund devoted to earning enough to cover the cost of running the fund, many of these funds will have free or subsidized management. Here's a quick example. Recently, Adams Express (ticker: ADX) was selling at a 16 percent discount to portfolio net asset value. If that 16 percent earns only 2.8 percent a year, it will pay the 0.44 percent expense ratio for operating the fund. Another way to look at it is that you can now get the benefit of leveraging a portfolio without the risk of borrowing to do it.
  • Reduced investment expenses. There is only one direction for mutual fund and exchange-traded fund management expenses to go -- down. Fund companies will respond to net redemptions and exchange-traded fund competition with expense reductions. Here's an example: Typical retirement target-date funds have expenses around 1.2 percent a year. Low-cost firms like Fidelity and T. Rowe Price deliver at about 0.70 percent a year. But Barclay's has just announced a family of target-date ETFs with expenses of 0.29 to 0.31 percent.