Long Term Equity Investment is the best option

In the short term (3 – 5 years), market movements can be unpredictable. Fixed income securities however continue to be stable and predictable. In the long run, equity of good companies behave more predictably and long term equity investment produces returns that are far superior to risk free rates and other common asset classes.

In addition common wisdom is that, in the long run the equity market as a whole outperforms all other classes of investments (like deposits etc), and that too in a reasonably predictable manner.

The Two Questions

This leads any intelligent chap to ask two questions.

  • how “long” is a long term equity investment?
  • what does one mean by “equity market”?

Time Periods in Stock Market

  1. Short Term: Upto 5 Years.
  2. Medium Term: Upto 8 Years.
  3. Long Term: Forever. (Realistically 8 to 15 Years)

Stock Market

By stock market I refer to a standard indices like the NSE NIFTY or SENSEX.

Illustration of Long Term Equity Investment

In order to prove this anecdotal wisdom of whether long term equity investment through an an INDEX beats all other classes inn terms of returns, I decided to do a small study of my own.

  1. I took the average daily NIFTY values for each year and plotted all possible returns. By all possible returns I refer to rolling returns (CAGR) of various holding periods like 1 year, 2 years and so on and different starting years.
  2. For each of these holding periods I calculated the average returns and standard deviations.

long term equity investment NIFTY index

The results indicate that longer holding periods produce higher returns with lower standard deviations (volatility).

In my specific data set, 8 years is when the returns peak and when the standard deviation starts coming down rather quickly and then stabilizes.

Conclusion

8 to 12 years in an INDEX is a good bet for the non-expert investor. With NIFTY he would have made around 13% to 14% CAGR.

At 10 years the volatility comes down to 20%, which should be quite acceptable to he who knows not much. A volatility of ~20% and returns of ~14% means that the investors returns could vary from 11.2% to 16.8%.

In terms of amounts, what this means is that if someone had made a Rs 10 lakhs investment in NIFTY and held onto it for 10 years, his Rs 10 lakhs would have become anything between Rs 29 lakhs and Rs 47 lakhs.

This is much more than what any fixed deposits, gold, or any LIC endowment policy could have possibly yielded.

NIFTY – 10 lakhs becomes Rs 29 lakhs to Rs 47 lakhs and no taxes
FD – 10 lakhs becomes 21 lakhs pre-tax and 18 lakhs or so post tax (at 8%)

Based on the above index data set, long term equity investment easily trumps other asset classes for different time horizons.

I hope you enjoyed this post on long term equity investment. Please feel free to share and leave your comments.

You may also like:

3 Way to Calculate Dividend Growth
Popular Financial Products in India
Investing First Principles

External Reads

Prof Pattu – What Return Can I Expect From Equity Over the Long term? Part 1 Part 2
Sanjiv Singhal’s How Long Is ‘Long Term’ When It Comes To Investing?

Subhodeep Mukhopadhyay

I am a Management Consultant in the Education Sector. In my previous corporate career, I have worked in Banking, Private Equity and Software industry. I am an MBA in Finance/ Computer Engineer and enjoy doing equity research and financial analysis in my free time.

Leave a Reply

Your email address will not be published. Required fields are marked *

You may use these HTML tags and attributes: <a href="" title=""> <abbr title=""> <acronym title=""> <b> <blockquote cite=""> <cite> <code> <del datetime=""> <em> <i> <q cite=""> <s> <strike> <strong>