The FTSE 100 index is the main stock market here in the UK. It comprises the top 100 publicly listed firms, as measured by market capitalization. This is worked out by multiplying the number of shares by the share price. There are other types of index, for example the AIM market. But for the majority, the FTSE 100 index is the one most closely tracked.
I like to review the long-term performance of a £1,000 investment in the index because it encapsulates many of my investing principles. A long enough period smooths out any short-term spikes or slumps. Also, it’s a diversified portfolio, containing 100 companies from a variety of sectors.
FTSE 100 index returns
Let’s get straight down to the numbers. After the turn of the century celebrations, the FTSE 100 index traded at 6,269 points on 3 January 2000. As of yesterday, the index was trading around 5,920 points. This represents a loss of around 5.5% from the index performance itself.
Before you decide that investing in stocks is a terrible idea, you need to look at the full picture. As well as share price movements, you also need to include the dividends paid during this period. If you were holding the index via a tracker, you’d have received the average of all the dividends paid out.
The average dividend yield for the past 20 years is around 3.5%. Assuming the payouts are reinvested (to benefit from compounding), this is a profit of 99%. So your £1,000 would have gained £990 from dividend payouts, and lost £55 from the share price movements, totaling a profit of £940.
Is this better than sitting in cash?
During 2020, when the FTSE 100 index is down about 25% year-to-date, some have come out being critical of investing in the stock market. Yet the returns calculated above take into account the crash this year. It also takes into account the dot com bubble from early 2000s, and the financial crisis from 2008–09.
The bottom line here is that long-term investing can ride out bear markets (falls of greater than 25% over a short period) as the market does eventually recover and make up the lost ground.
The easy comparison to make would be to look at the returns if you’d simply sat in cash during this period. In 2000, the Bank of England interest rate was above 5%. If rates had stayed around this level for the next two decades then there’d be a much stronger argument to make. But since the financial crisis, interest rates have been below 1% for over a decade. Even if you’d managed to secure a 1% rate for 10 years, the compounded return would only be 10.46%.
My Foolish takeaway from this is that despite market crashes, in the long run the stock market will generate a positive return. If you’d initially invested after a crash, the return would be even higher. So really, if you have £1,000 ready to invest for the long term, investing now could be a smart option to consider.
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Jonathan Smith and The Motley Fool UK have no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.