Investors need to roll up their sleeves and get stuck in
IF you feel like investment has become a lot more difficult in recent years there may be a good reason for that. As my chart shows this week, the returns from equity investing have indeed got progressively worse over the past 40 years.
According to the excellent Barclays Equity Gilt Study, out this week, the average inflation-adjusted total return from UK shares between 1975 and 1985 was an impressive 11pc. That dipped under 10pc in the following decade, halved to 5pc in the 10 years from 1995 to 2005 and halved again in the period from 2005 to date to 2.3pc.
The long bull market from the early 1980s until the top of the dot.com bubble in 2000 really was a golden age for stock market investing. You didn't need to do anything particularly clever in those years to enjoy remarkable (and history has shown, unsustainable) returns. Just turning up was enough.
No wonder investors started to believe that time in the market not timing the market was all that mattered. No wonder, too, that passive funds should have grown in popularity. If tracking the market, at low cost, is so profitable why go to the trouble, or expense, of trying to beat the index?
Just as old generals fight the last war, I wonder whether this passive, buy and hold approach can still cut it for investors in today's low-growth, low-returns world.
Credit Suisse recently made a convincing case to me that the strong returns enjoyed in the bounce-back from a financial crisis tend to mutate into an extended period of much less exciting returns.
A recent note from Goldman Sachs described the outlook for the market from here as "fat and flat" - in other words volatile and disappointing. A colleague this week described his vision of a trading range capped by high-ish valuations and unimpressive earnings growth but underpinned by central bank largesse and an absence of alternatives to equity investment.
If these market watchers are right, this environment poses a problem for disengaged investors without the interest or inclination to really manage their portfolio. A glance at a chart of the FTSE 100 over the past 20 years suggests a lot of heartache with precious little in return for an index-tracking investor.
Madness, as they say, is continuing to do the same thing and expecting a different outcome, so perhaps now is the time to think about how to thrive in a sideways-moving and volatile market. If successful investing is about something more than just taking part, what strategies might a risk-averse investor adopt? The first approach is to tilt the overall angle of your returns upwards by picking winners and avoiding losers. By definition, active investment does not always get it right. It may even be a zero-sum game. But if the alternative is to travel sideways, I would suggest that we don't have any alternative.
Second, be a contrarian. Equity investment as a whole may deliver unexciting returns, but at any one time certain markets are in or out of favour. History shows that rummaging through the metaphorical investment dustbin pays off in the long run. If the market has overcooked the pessimism, the potential gains are significant.
Third (and I'm whispering this because I've said the opposite many times) a bit of market timing may just be necessary now. You won't catch the top or the bottom but reining back your exposure when sentiment is high and becoming more gung-ho when the headlines are grim is a characteristic of all successful investors.
Fourth, remember that the best way of tilting the trajectory of market returns upwards is to re-invest your dividends. Do that religiously and even a flat market starts to feel rewarding. Finally, focus on quality. Companies which enjoy significant barriers to entry, strong brands and pricing power have the ability to earn higher returns on the capital they employ, sustainably year after year. If you can find this kind of investment opportunity you don't need to worry about market timing or being a contrarian.
Time and compounding will do the work for you. Remember, too, that nothing lasts for ever in investment. Markets are mean-reverting over time. The very fact that I am writing an article extrapolating the recent past of low real returns into the future will for many be the clearest indication of better times ahead. Let's hope so.