Gareth Roberts, director, clients department at Baillie Gifford, on why investors must keep their eyes on the long-term prize...
Having lived in Scotland for more than a decade, and having recently returned from an October half-term holiday in Cumbria, you will perhaps understand if I begin with a reference to something never far from my thoughts: the weather.
Specifically, the distinction meteorologists make between weather (the state of the atmosphere at any given point) and climate (the average of weather over a period of time).
I note this distinction as it is a useful analogy for how we think about one of the most fundamental aspects of investment: time horizon. For us, the weather (short-term fluctuations in the markets) is of considerably less interest than the climate (long-term trends).
I don’t care what the weatherman says: Why equities should still be a core holding
Guessing the direction of stock prices and bond yields in the next week, month, or even year, is a fool’s game. We believe it is only possible to make sensible investment decisions when you are prepared to look out three years, five years, or possibly further.
Time horizon is of particular importance for investors who have a significant proportion of their assets in equities. During the past 15 years, they have been painfully reminded that share prices can – and will – be extremely volatile year-to-year.
Hence the understandable interest in multi-asset portfolios, which have the ability to buy assets other than equities in order to dampen some of the wilder swings in the stock market. We continue to believe, however, that equities are the most appropriate home for long-term savings. The asset class has traditionally been – and will, in all likelihood, continue to be – the backbone of many portfolios.
This is because an investment in equities is an investment in real world productive assets that should produce a better-than-inflation return over time. Historically, that has certainly been the case. Between 1900 and 2012, equities returned 5.2% per annum in real terms.
During the same period, bonds delivered 1.5% per annum and cash 0.9% per annum, but that was obviously before interest rates had fallen to their current low levels.
There are clearly numerous ‘alternatives' available to today's investor: property, infrastructure and hedge funds to name but three. While these all have their place in a diversified portfolio, one has to have a clear understanding of their risks and rewards, as well as accept they can have their limitations with regards to liquidity and costs.
So, we recognise that share prices can fall considerably in the short term, but contend that this does not matter in the long run. You will, thus, understand why our ability and willingness to be long term is crucial.
Returning to my opening analogy, the weather (for example, trying to predict the precise date on which the US Federal Reserve will end its policy of quantitative easing) is of less importance to us than the climate: does there continue to be a wide universe of attractive listed companies to invest in?
Moreover, in our opinion, a long-term approach offers additional benefits. The stock market, when measured by portfolio turnover, has become dramatically shorter term when compared with its history: the overall average holding period for UK equities has declined since the mid-1960s from around eight years to just seven and a half months in 2007.
Our willingness to buck this trend gives us more opportunities to buy into what we consider to be excellent businesses during periods when ‘the herd' is feeling gloomy and share prices are artificially depressed.
More prosaically, it helps keep costs low, as longer-term horizons mean less frequent trading and, thus, less transaction costs. Stepping back a little, a longer-term approach should also have beneficial implications for overall corporate health, as there is evidence to suggest short-term timeframes imposed by short-term investors influence the actions of real investee businesses in relation to research and development, investment and so on.
While not ignoring the opportunities presented by short-term moves in different investment markets, we believe it is more important to always keep our eyes on a longer-term investment horizon. With this in mind, we still consider equities to be a core holding.
As for myself, I long ago stopped worrying about the Scottish weather and have adapted to my adopted climate. I have made a sensible long-term investment: I bought a good coat.
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