by Cherry Reynard, in partnership with AVI Global Trust
It’s a humdrum message, but building long-term wealth through stock market investments is about repeating a few good practices over many years. In reality, regular investing, as early as possible, in order to make the most of compounding dividends and capital growth, is likely to be far more important for the growth of your savings than finding the latest hot stock.
With that in mind, getting started earlier rather than later in each tax year gives you the advantages of dividends and capital growth for longer, while also building good investment habits. This allows compounding to work its magic and may be particularly important when investing when markets are lower, as they are today.
Why it matters
This has been the advice dished out by wealth managers for decades and it’s worth exploring why it works so well in practice. The first consideration is dividends. The FTSE All Share Index currently has an average dividend yield of 3.6%, while a dedicated UK or global equity income strategy may pay 4-5%.
Compounding those dividends over time is a powerful way to grow your wealth. Each dividend is reinvested back into your portfolio, which buys more investments, which generate more dividends. The earlier you invest in each tax year, the earlier you start accumulating these dividends. On a £100,000 portfolio, an investor might get £5000. Over 20 years, that builds up to £13,560. Leave it a year and it’s just £12,900. These small wins add up over time.
The same rules apply for capital growth. The earlier you invest in each tax year, the earlier you benefit from any capital growth. While this doesn’t always work – investors may be scarred by their experiences in 2022 – historically, the stock market has gone up in more years than it has gone down. That includes eight out of the most recent 10 years for the FTSE All Share Index. Again, this growth will compound for longer, creating a larger savings pot over time.
Finding the best days
There are other, less intuitive, reasons that investing early may benefit you. It is a quirk of markets that its strongest moments tend to be concentrated in just a handful of days. The most recent JP Morgan Long Term Capital Markets Assumptions report found that missing the best 10 days in markets over the last 20 years would have reduced an investor’s annualised return from 9.76% to 5.56%. Miss the best 20 days, and the annual return drops to just 2.94%, while losing the best 30 days leaves an investor with an anaemic 0.79% per annum.
It is fiendishly difficult to predict when those days might occur. While it would be logical that the market bounces higher when the economic environment improves, this is seldom the case in practice. After the global financial crisis, the market started to turn in March 2009. At the time, the economy was still in recession and did not recover until the third quarter of that year. Similarly, the strong rally in 2020 came when there was still little clarity on the outcome of the pandemic, and there was no sign of a vaccine.
The JP Morgan report found that seven of the 10 best days in markets occurred within fifteen days of the 10 worst days. You can never be certain when markets are going to recognise mispricing and adjust. When a turn in markets comes, it can be very quick and totally unexpected. Investing early in the tax year gives you the best chance of being invested on those winning days.
This sound investment practice applies whatever the prevailing market conditions, but is particularly important when markets have been through a period of volatility and prices are lower. By investing early and regularly, you can ensure you are positioned for the turn in markets when it arrives.
This phenomenon is not just visible for the stock market are a whole, but also for individual sectors, regions and styles. At the moment, we would highlight the valuation differential between ‘growth’ stocks – those companies with high, long-term, revenue growth – and the rest of the market.
While investors have focused on exciting, fast-growth companies such as the US technology mega-caps such as Amazon and Facebook; other, less fashionable sectors have been left behind. This made some sense in a lower interest rate environment, which favoured companies with long-term revenue growth over the strong cash flows and dividends today. However, it’s meant that a lot of good companies were left behind.
As interest rates rose in 2022, investors have tentatively started to pay attention to these unloved parts of the market again, but the valuation gap between technology and, say, financials or some consumer-facing companies, is still a long way from historic norms. Our experience suggests that having shown little interest in an unfashionable sector, markets will suddenly cotton on to its value and share prices can move very quickly. The importance of not missing a handful of days in the market is more acute with a value approach than with other strategies.
Our conclusion? Investing early in the tax year is always important, giving investors the best possible chance of compounding their income and capital growth. However, it is particularly important today, given the weakness seen in markets over the past 12 months. It is also important in those parts of the market that have been left behind over the past decade and are poised for a recovery.
Why invest with AVI Global Trust?
The AVI Global Trust looks for high-quality companies that are undervalued by the market but hold long-term potential. Over time, these businesses should benefit from improving financial results and a reappraisal by investors, driving share prices higher. It is an approach that takes patience, but has proved successful in a range of market conditions over time.
 FTSE All-Share factsheet; as at 31/03/23