• Investment World
• eWorld
• Catalyst
• Mentor
• Life
• Canvas
• Praxis
• Urban Pulse
• Brand Quest

Suresh Krishnamurthy

The history of sustainable returns from equity in India is heart-warming, with equities notching up, on average, 18 per cent between 1994 and 2004. Expectations of 15 per cent over the long term, thus, seem reasonable. But investors need to be patient.

STOCK prices have risen spectacularly. Buoyed by the influx of liquidity they are now at an all-time high. For some investors, however, this is only partly good news as the all-time high values of Sensex or Nifty also conjure up images of heavy losses. This is because of what has in the past happened to Sensex or Nifty after they have scaled fresh peaks.

Long-term investors need not be too perturbed, though, as between one peak and another, active investors who stayed in the market have accumulated reasonable returns. Also, sustainable returns from equity in India, which accrue mostly to long-term investors, have been unusually high.

Peak to peak: At the height of the investment boom triggered by the first wave of reforms, the Nifty scaled a peak of 1380 in 1994. For many years, that peak remained etched in the minds of investors, not as a moment to cherish but as an indelible scar.

This is because it took Nifty five years to recapture that peak. For this five-year period, investments may not have delivered returns commensurate with risk, and many investors would have earned negative returns in 1995, 1996 and 1997.

Take the halcyon days of February 2000. Close to $1.5 billion of foreign institutional investor purchases were made in just about 30 days, catapulting stock prices to all-time highs.

Again, investors went through agonising times thereafter. Nifty reclaimed those heights only in December 2003. Meanwhile, the years 2000 and 2001 delivered negative returns, while 2002 fared only marginally better.

This time around, the time between one peak and another has been short. The index has broken its all-time high record twice in the space of 12 months within 2004.

Still, consistent with the once-bitten-twice-shy syndrome, investors with long memories may be apprehensive about what remains in store three months hence.

Reasonable returns: Investors need not, however, be concerned. They only need to be patient. This is because returns for active investing between one peak and the other have been reasonably attractive. This has been the case with investments in mutual funds over the past 10 years.

For instance, in 2000-2003, an average mutual fund delivered returns of about 15 per cent per annum even as the indices stayed put. The future is unlikely to be any different.

Sustainable returns — real story: What is more heart-warming is the history of sustainable returns from equity in India.

Total returns from equities can be attributed to dividends, change in profits and the rest. The returns attributable to the `rest' mainly constitute changes in income estimates and changes in risk estimates.

The `rest' can also be described as changes in valuation. Investment literature suggests that the returns attributable to dividends and change in profits constitute sustainable returns from equity over a longer period.

These `sustainable returns' have been extraordinarily high in the case of Indian stocks over the past ten years.

On an average, sustainable returns have been about 18 per cent per annum between 1994 and 2004. Close to 3 per cent of this has come from dividends, and the remaining from growth in profits. The analysis pertains to a universe of about 300 stocks.

In the history of capital markets, ten years constitute an extremely short duration and may be insufficient to gauge the future.

Still, the data is encouraging. The prognosis for likely GDP growth of about 6 per cent over the next few years is also good.

This is because growth in profits of listed companies that outperform the economy may continue to be 15-20 per cent.

In this context, return expectations of 15 per cent from equities for long-term investing appear reasonable and probable. The only condition is that investors need to be patient.

Another factor must be considered. The contribution of changes in valuation has, on an average, been negligible over the 10-year period between 1994 and 2004.

Since sustainable returns from equity are much higher than what debt can offer, the contribution of changes in valuation can become positive in the next 10-year period, boosting returns further.

All these factors strongly suggest that at least a portion of your funds needs to stay invested in equity at all times.

Article E-Mail :: Comment :: Syndication :: Printer Friendly Page

Stories in this Section
Rane (Madras): Reject

Copyright © 2004, The Hindu Business Line. Republication or redissemination of the contents of this screen are expressly prohibited without the written consent of The Hindu Business Line