The stockmarket is often seen as a casino. The newspapers often refer to the market-side of investment banking as ‘casino banking’ which reinforces this commonly held view.
In this article I would like to bust the myth that ‘investing in shares is a very risky business, and should be avoided by those especially on normal and low incomes‘. I firmly believe that shares have a place in the average long term savings pot. In fact, I believe that those who don’t include shares in their long term savings are missing out on much higher expected returns. The information contained in this article is well researched but does not constitute as professional advice. Read ‘Do You Need a Financial Advisor?‘ and this sites important disclaimer.
The stock market provides the opportunity for investors to profit from the income and growth produced by large, listed corporations. On the other hand, savings deposited in banks are used to generate a profit for the banks themselves, not you. Shares give you a direct investment, whilst a deposit is a mere indirect investment where you ‘get what you’re given’.
Why Do People Believe Shares are Too Risky to Hold?
People are scared of equities as a whole because they are so volatile. On any given day on the stock exchange, shares actually have a roughly 50:50 chance of rising or falling, and sometimes those rises and falls can be 10% or more. So I will conceed that someone who invests in shares for a single day is gambling with their money. The massive error in many savers judgement is that they assume this relationship holds in the longer term. In reality, the behaviour of stocks and shares changes completely when you look at multi-year periods.
Shares Are Solid Over the Very Long Term
Data Source: Chartered Insurance Institute
Take a look at this data, which shows the % probability that shares will outperform savings when both are held for a given number of years:
Held for 2 years: Probability of Shares Outperforming: 66%
Held for 3 years: Probability of Shares Outperforming: 69%
Held for 4 years: Probability of Shares Outperforming: 73%
Held for 5 years: Probability of Shares Outperforming: 75%
Held for 10 years: Probability of Shares Outperforming: 91%
Held for 18 years: Probability of Shares Outperforming: 99%
The evidence speaks for itself. The returns of shares are not only strong but consistent when held for 20 years, which is vastly shorter than the average lifetime of a retirement savings account. A 30 year old saving for their retirement is looking over a time horizon of at least 35 years. The limitations of this data is that it is based on historical evidence. While historical behaviour is all we have to go on, it doesn’t guarantee returns will follow this pattern in the future.
The largest reason for behaviour to change in the future is if the markets experience an extreme disaster to scale never seen before. – but in that worst-case scenario, you probably won’t be able to access your savings either for many months – the Financial Services Compensation Scheme (FSCS) has its limits.
Hypothetical doomsday situations tend to harm all investments except precious metals, so only those investing in commodities would stand a chance. However during stable times, precious metals are historically terrible investments, so this shows that no-one can really win in that worst-case scenario, so historical returns over the past 100 years are probably the best estimate we have of future performance. This bodes well for shares!