Role of Equities in a Portfolio
Equities are the growth engine of most long-horizon portfolios. Understanding why, and where the argument breaks down, matters even for traders who never hold anything overnight, because it explains the behaviour of the largest participants in the market.
The case for equities
The equity risk premium is the excess return equities have delivered over risk-free assets, historically several percentage points a year. It is compensation for bearing the residual claim: shareholders absorb the uncertainty that bondholders have shed.
Compounded over decades that gap dominates everything else. It is also not guaranteed. It is a historical average with enormous variation, and some of it may be survivorship bias in the markets we happen to study, since the long-run record is dominated by economies that did not experience total loss.
Time horizon does the work
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