Why Stocks Did Better Than You Think Last Year

Should investors have been disappointed by last year's flat stock market?

Probably not, because indexes don't measure the true changes in your wealth. And there's a bigger lesson for anyone saving for retirement.

The fact that the S&P 500, and the SPDR S&P 500 (SPY) , the exchange-traded fund that tracks the index, were basically flat (down 0.7%) for 2015 can be somewhat misleading. What really matters is the purchasing power of your holdings, or what you can buy with the proceeds when selling your portfolio.

By two key measures, anyone who held a broad basket of stocks, like those in the major indexes, actually saw their wealth increase meaningfully. How so? In 2015, the dollar appreciated by about 10% against the currencies of America's major trading partners, according to data from the St. Louis Federal Reserve. That dollar surge means that a portfolio consisting entirely of S&P 500 stocks had about 10% more purchasing power at the end of last year than at the beginning, because goods and services bought from overseas were that much cheaper than they had been at the year's start.

It gets even better.

The flatline S&P data doesn't include dividends. So really, the return would have been around 11% to 12%, when factoring in the less than 1%  slip in the index. Ask any investor whether that's a good return and they'll tell you that annual returns of 12% are awesome.

"It's the difference between nominal and real returns,"  says Greg King, CEO of REX Shares. "If the index number is down, then that's a big headline, but the reality is that the index number may not reflect changes in wealth and purchasing power.

"That's what we really care about," he adds.

The value of the dollar is just one measure. The other is how much gold, such as that held by the SPDR Gold Shares (GLD) ETF, could be purchased at the end of the year compared with the beginning.

Again, it's good news.

The price of gold declined by about 10% over the same period, according to data from the London Bullion Market Association. Or put another way, you'd get the same amount of gold at the end of the year for 90% of the money it would have cost at the beginning of the year.

Some people will critique this analysis by saying that the prices of the goods and services in their shopping basket are set inside the United States, and so the currency move doesn't make a difference. That simply cannot be wholly true. Gasoline is made from crude oil and the price is set on the world market. Bread is made from wheat and the price is set on the world market. Likewise, goods imported from China simply become cheaper when the dollar is stronger.

What is true, is that some things, like the cost of healthcare insurance, are set locally and not much affected by currency matters. Likewise, the cost of hiring the mechanic fixing your car is not much affected by currency issues on the international stage.

For most people, there is a mixture of items: Some prices are set globally, some inside the U.S. So maybe the increase in your wealth last year wasn't 11% to 12%, maybe it was half that, 5% to 6%. Still, that's positive.

But here's the kicker. Year to date through May 19, the S&P 500 is basically flat. But the value of the dollar has fallen over that same time by around 5%, again according to the St. Louis Fed data.

That means the purchasing power of your portfolio has lost value over the same time. How much depends on how much stuff you buy that's from the world market.

The problem is that focusing on the index or even a sum of money that you want to amass doesn't really work. The question is, what will it buy?

Says Diana Garnick, chief income strategist at TIAA: "Preserving purchasing power is more important than deciding how much to save in dollar figures." 

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.

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