When investing in equities, its all about rolling 5-year returns

As investors we are told to look at the long-term when it comes to investing in equity markets. Typically, volatility of investments which are mark-to-market every day are much higher than assets like property, infrastructure, private equity and credit. Hence, investors can make decisions based on short-term price movements which may lead to a poor outcome for their portfolios.

For example, volatility over rolling 1-year periods (MSCI World in AUD) is 11.5% in comparison to 7.7% over rolling 5-year periods. This would imply less variability around expectations over longer-term periods. The chance of loss reduces significantly over 5 years in comparison to shorter term periods.

When analysing 5-year return data across equity regions/markets, it makes sense to look what expectations may be over the longer term. Most PDS documents for equity funds, investing in listed instruments, recommend at least a 5-year investment horizon. Fund objectives generally also focus on 5 year horizons for achievement of success.

The data above uses monthly returns calculated going back to 2000 for MSCI Indices using returns including dividends, net of withholding taxes in AUD. The MSCI Indices are used for consistency of data. The following key points can be made from the data summary:

1. Over rolling 5-year periods equity markets are less volatile (that 1-year periods) and generally provide a positive skew.
2. All regions/countries go through phases of strong and poor performance over rolling 5-year periods. This is highlighted particularly by the performance of World Equities and NZ Equities during the GFC and their subsequent bounce back.
3. Indian equities have produced the highest average return over rolling 5-year periods in the 21st century so far. They also produce a positive skew in returns and have the highest kurtosis (fat-tails in their distribution). This is a positive outcome for long term investors when positive skew and positive kurtosis are aligned.
4. Whilst emerging market countries like India and China can produce larger drawdowns during changes in sentiment towards global equity investing. However, they have the capacity to bounce back strongly due to their underlying fundamentals and the increasing presence of a local investor base.

The Indian equity market has offered long-term equity investors an attractive return profile. This has been driven by the robust GDP growth the country has experienced over the last two decades, economic and market reforms, and by a youthful, vibrant and significant demographic. It is important to remember that past performance is not a great indicator of future return. It can however, provide some insights into the historical return patters of individual regions / markets.

With demographics, economic and political stability intact and real-GDP continuing to grow at above 7%, Indian equity markets appear well poised to deliver decent outcomes over rolling 5-year periods.