Stocks versus bonds for the long run when a riskless asset is available

Does the famous idiom “stocks for the long run” have an empirical or a theoretical foundation? Bali et al. (2009) show that the cumulative return distributions of stocks and bonds intersect for all investment horizons, implying that stocks do not dominate bonds, regardless of the horizon. This paper shows that adding the riskless asset to the analysis yields a clear-cut dominance of stocks over bonds: for any combination of bonds with the riskless asset, one can find a combination of stocks with the riskless asset that dominates it. This dominance holds for all non-decreasing preferences as long as the investment horizon is 3 years or longer. However, this strong result does not imply that arbitrage opportunities exist.