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Bulls, bears and long-term investors

23 January 2023

As long-term investors, one of our greatest advantages is time.

Chess game

Toby Willis, Investment Manager

Markets are increasingly driven by short-term investment decisions, with the average holding period of stocks listed on the New York Stock Exchange now less than a year, down from eight years in the 1950s.[1] The result is that short-term macroeconomic data and geopolitical events, exaggerated by attention-grabbing headlines, drive considerable short-term volatility within global stock markets.

The rise of passive investing

To an extent, ‘twas ever thus. But the rise of the tracker fund, or passive investing, has increased the ease and speed at which money can flow in and out of indices (e.g. S&P 500, FTSE 100), sectors (e.g. technology, oil and gas), styles (e.g. growth, value) or creative combinations of the above (e.g. funds that track the ‘values of Generation Z’ or the ‘Future of Food’… yes, they do exist).

Furthermore, this money can flow in and out with little regard for the valuations, or long-term prospects, of the individual companies that constitute that sector, region or style. More than a fifth of the average company in the S&P 500 is now owned by passive funds, a figure which has doubled in the last seven years[2].

“Is the world becoming short-sighted?”[3]

Short-termism is not a new trend, but one that has been developing over decades. In a speech in 2011, Andrew Haldane, the former chief economist to the Bank of England, suggested that this short-sightedness, or “subconscious myopia” as he called it, is due to vast increases in the quantity and velocity of data. He suggests that this is shortening the timelines for decision-making in all aspects of our life – not only investing, but also marriage, jobs and money[4].

As a result of this trend, it is often all too easy to become entangled in the short-term madness of markets. The long-term investor needs to be acutely aware of valuations in order to ensure they do not overpay in times of irrational exuberance, and to recognise when good businesses are being offered at discount prices. But most importantly, they must not let fear allow them to lose sight of the astounding returns that the stock market has consistently provided to investors willing to take a longer-term approach.

Reasons for optimism for the long-term investor

While history should not be expected to repeat itself, it is noteworthy that of the past 50 years there have been only eleven years when the US stock market (S&P 500) posted a negative return. The cumulative return of the three years following those downturn years has been over 40% in eight out of the eleven cases[5]. The anomalies were 1973, when investors had to wait until 1975 before there was any substantial recovery (the S&P 500 returned a cumulative 70% in 1975/76)[6], and 2000/2001, when investors had to wait until 2003 (+26%) before there was any substantial recovery.[7]

The point I intend to make, or the conclusion that I draw from this, is merely that while stock prices and valuations are volatile in the short term, the long-term trajectory of share price indices is up (see the chart below) and a fall in valuations increases the probability of positive subsequent years and increases expected medium-term returns. It also provides an opportunity to invest in good companies at reasonable prices.

This is far from a guarantee that equity prices will recover this year, but it provides a very good reason to believe that stock market indices will recover, and more, over the next few years and well within our investment time frame. Long-term investors should be looking for good quality companies that have been thrown to the bears by those with “subconscious myopia”.

The storm will pass

John Maynard Keynes famously wrote: “This long run is a misleading guide to current affairs. In the long run, we are all dead. Economists set themselves too easy, too useless a task, if in tempestuous seasons they can only tell us, that when the storm is long past, the ocean will be flat again’. The inverse is also true: current affairs are a misleading guide to the long run and, while economists may be tasked with explaining current affairs, as long-term investors we can take comfort from the fact that the storm will pass, and the ocean will be flat again.

Chart: Long-term return of US and UK equities (total return incl. dividends, local currency)

 

5 years

10 years

20 years

30 years

S&P 500 Annualised

9.2% p.a.

12.6% p.a.

10.2% p.a

9.8% p.a.

S&P 500 Cumulative

55%

226%

594%

1,544%

 

 

5 years

10 years

20 years

30 Years

FTSE All-Share Annualised

4.0% p.a.

6.7% p.a.

8.5% p.a

7.6% p.a.

FTSE All-Share Cumulative

21%

90%

406%

801%

Source: Factset. Prices as at close on 16/01/2023.

All figures quoted are Total Return unless specified otherwise.

[1] Reuters

[2] Bloomberg

[3] https://www.bankofengland.co.uk/-/media/boe/files/speech/2011/the-short-long-speech-by-andrew-haldane.pdf

[4] Bank of England

[5] Bloomberg

[6] Bloomberg

[7] Factset

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