Will the stock market always go up in the long term?
01 Jun 2013
By Finn Dorney
With the Global Financial Crisis (GFC) still fresh in investors' minds, I often get asked, "how do you know the stock market will continue to go up?"
Firstly, it is important you remember that the future is uncertain, so you really should look at what you are actually investing in, and see if there are any lessons to be learnt from history.
Buying shares in a company means that you become a part owner in that company. For that share of ownership you expect to receive compensation, which may come in the form of dividends and/or an increase in the share price over time, that is, capital growth. As we all know, stock market prices go up and go down. This volatility means extra risk for investors, thus they expect to receive greater returns than say a term deposit to compensate for this.
The point of this blog is not to focus on the performance of individual companies but the stock market as a whole, that is the stock market index. Some common indexes that are used to measure the performance of the Australian stock market are the S&P/ASX200 and the All Ordinaries Index.
The S&P/ASX200 is a good indication of the stock market performance as it is made up of the top 200 companies on the Australian Stock Exchange by size. Currently BHP is the largest followed closely by Commonwealth Bank.
A main objective of these companies is to grow their profits – and ideally to do so sustainably. If they fail to grow their profits then they are effectively giving up market share to their competitors, hence the need for growth.
It has been well publicised that the stock market has had some big ups and downs in the past six or so years, however when we look at the long term performance, the numbers are extremely positive.
If you had invested $100,000 in the ASX200 back in 1980 and reinvested your dividends back into additional shares, you would have over $4million today, which includes the recent short-term impact of the GFC! This equates to an average annual return of around 12% per annum. And the average annual return of the stock market from 1900 to today has been around 13.50% per annum.
Whilst past performance of the stock market is not necessarily an indication of future performance, we do know that by investing in companies that have a very firm focus on growing profits, should continue to grow over the longer term.
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