Property outpaces shares over 20 years: report

The ASX/Russell 2014 Long Term Investing Report considers what has happened in investment markets over the past 10 and 20 years, in various asset classes.

The headline figure is that over 20 years residential property has just edged out Australian shares as the best-performed asset class – with cash well and truly bringing up the rear with a return after tax at the highest tax rate below inflation. There is a lot more to the report than this one conclusion, and interesting elements of the report this year include:

1. The opportunity for investors to benchmark their portfolio returns against these long-term average returns.

2. Looking at how well gearing has performed as a strategy.

3. Comparing the returns from the popular asset classes of Australian shares, residential property and cash.

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Benchmarking Portfolio Returns

The pre-tax average return from investing in shares for the 20-year period to the end of December 2013 has been 8.7% per year, and for the 10-year period to the end of December 2013 it has been 9.2% per year.

I think an important question for investors is, what does this return mean for a real portfolio, and how does this compare to the return generated from my own portfolio?

An 8.7% per year return over 20 years will turn $100,000 into $530,000 and, in a superannuation fund where franking credits increase the returns from investing in Australian shares to 9.1% per year, it would have turned $100,000 into $571,000. This is an important benchmark return as it is the return that an investor can get from simply ‘owning the market’ – having a well-diversified portfolio with a simple ‘buy and hold’ strategy. It assumes that the income from the shares is reinvested, and that no contributions are made to the original $100,000 over the 20 years. This strategy has proven to be remarkably profitable, even over a period dominated by the global financial crisis. And it is an important measure against other strategies, for example market timing or trying to stock pick outperforming shares, that this strategy provided superior returns.

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Similarly, over 10 years to the end of December 2013 the returns from a simple ‘buy and hold the market’ strategy have been impressive. A $100,000 investment in Australian shares would have increased to $241,000, or $250,000 if taxed at the 15% super fund tax rate.

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Borrowing to Invest

The ASX/Russell report has some interesting data about the returns achieved through borrowing to invest. It found that for Australian share returns invested for 20 years to the end of December 2013, the average annual returns from the investment is 6.9% per year for an investor on the highest marginal tax rate. If that investor had a gearing ratio of 50%, the return increased to 7.3% per year.

For investors in property on the top marginal tax rate, the 20-year return to the end of December 2013 was 7.5% per year, which increased to 8.7% per year if there was a 50% gearing on the initial investment.

The question that is reasonable for investors who did borrow to invest in shares or property over this period of time is, does this extra return compensate for the extra risk of borrowing to invest? Some further figures come from looking at the 10-year period to the end of December 2014. Over 10 years, the return from Australian shares for an investor on the top income tax rate was 7.1% a year, a figure that improved to 9% a year if there was a 50% gearing on the initial investment.

It is worth keeping in mind that during this period there was a fall in share values of almost 50%. If an investor had started a portfolio around the high point of the market in September 2007, with 50% gearing on the initial investment, and if they did not have extra funds to counter an event like a margin fall as the value of their portfolio fell, it is likely that they would have lost the entire value of their investment – as happened to Storm Financial investors with gearing ratios of that order. The potential loss of 100% of a person’s investment capital is a significant risk.

Share vs Property vs Cash

Given that both the 10 and 20-year period of returns studies include the volatility of the GFC, it might be the time for cash as an investment asset class to shine. However cash has lagged Australian shares and residential property by some margin. Over 20 years, the average return from cash was 3.8% a year, just beating the 2.7% per annum rate of inflation before tax.

After tax, at the highest income tax rate, the return falls to 2% per annum. So, over 20 years, the purchasing power of a cash investment for someone on the highest income tax bracket has actually been negative. Both Australian shares and residential property have provided a return comfortably above the rate of inflation, 8.7% and 9.9% respectively. Of these two, residential property has tended to be more attractive, however this attractiveness falls after tax when the benefits of franking credits are factored into Australian share returns.

Over 10 years the story is similar – a 3.7% per year cash return against a 2.8% per year inflation rate has only just increased the purchasing power of a cash deposit over 10 years if tax is ignored. Both Australian shares and residential property have provided better returns, 9.2% per year and 6.1% per year respectively.

Conclusions

It is always interesting to look back at historical returns, and the ASX /Russell Long Term Investing Report is particularly interesting because the GFC falls within the 10 and 20-year timeframes being considered.

Even with this taken into account, a $100,000 investment into Australian shares for the 20 years to the end of December 2013 would have increased in value to over $500,000, provided an investor captured at least the average return from the market.

The report is interesting in its calculation of the return from a borrowing to invest strategy, and leads to the question of whether an investor who did borrow and invest was adequately rewarded for the extra risk that they took on.

And lastly, even during the period of the GFC, over a longer period of time cash struggled as an investment, whereas the growth assets of Australian shares and residential property provided more attractive returns.

Scott Francis is a personal finance commentator, and previously worked as an independent financial adviser. The comments published are not financial product recommendations and may not represent the views of Eureka Report. To the extent that it contains general advice it has been prepared without taking into account your objectives, financial situation or needs. Before acting on it you should consider its appropriateness, having regard to your objectives, financial situation and needs.