- By Vivek Kaul
One of the half-truths which is often mouthed by those who make a living selling stocks is that investing in Indian stocks gives a return of 16% per year over the long-run. Nobody bothers to define how long the long-run is in this case. Is it ten years? Is it 20 years? Is it 30 years? Or is it more?
You can often hear the 16% per year statement being made on days (or even weeks or months) when the Sensex falls or has been constantly falling. People who make a living selling stocks are heard telling investors to sit tight because in the long-run stocks have given a return of 16% per year and are the best investment to be in. And most such experts ask investors to invest more money in the stock market during this time. They sell every fall as a buying opportunity.
The question is where does this 16% per year return number come from? As I write this I have an excel sheet open which has Sensex numbers from April 1979. Given that I have worked in the media in the past, I am lucky. These Sensex numbers are not available in the public domain. The Sensex numbers are available in the public domain only from 1991 onwards.
It is also worth pointing out here that the Sensex was launched only in 1986 and the Bombay Stock Exchange has calculated the Sensex values going back to 1979. So far so good.
The Sensex value for November 2, 1979 was 123.86 points. On October 30, 2015, 36 years later it closed at 26,656.83 points. This means a return of 16.1% per year, during the period. Hence, over the long-run Indian stocks give 16% per year.
But then why do I call it a half-truth? Allow me to explain. The Securities and Exchange Board of India (Sebi) actually started functioning properly only in mid-1992 (though it was set up in 1988), after the Harshad Mehta scam was exposed. Up until then, the stock brokers ran a heavily rigged stock market.
On April 22, 1992, the Sensex touched a peak of 4,467.31 points. This meant that the Sensex went up nearly 36 times in a period of little over 13 years between 1979 and 1992, a return of close to 32% per year. The economic liberalisation of India started only in July 1991.
The Sensex fell after the scam was discovered only to rise again a couple of years later, once the vanishing companies scam was underway. Many companies raised thousands of crores of money, through the initial public offerings and disappeared.
The Sensex peaked at 4617.61 points in mid-1994. After this, the stock market was more or less a losing proposition up until the dotcom boom and the Ketan Parekh scam happened towards turn of the century.
Further, how trustworthy is the Sensex data before 1986? As Debashis Basu wrote in a recent column in the Business Standard: "From around 100 in 1979, the index moved up to around 500 in 1986 (according to data available with the Securities and Exchange Board of India), when the Sensex was actually launched. This would equate to an annual compounded growth rate of nearly 25 per cent in seven years! Is this credible? That would amount to a massive stock market bubble in the 30 top Indian stocks, almost equivalent to Nasdaq's dot-com bubble. Does anybody remember 1979-86 as the period of a great Indian stock market bubble?"
He further says that: "If you assume that the index value of 500 in 1986 is correct, the data for the reconstituted Sensex of 1979 are suspect. Or the base data are correct and the index value of 500 is possibly wrong."
Over and above this, the Sebi started to get some sense of the stock market and started to rein in the brokers only in the mid-1990s. If this is taken into account then in-order to calculate the real returns of the Sensex, I think it's fair that we consider data only over the last 20 years. Over the last 20 years, the Sensex has given a return of only 10.8% per year. Given this, the fact that Indian stocks give a return of 16% per year over the long-run on average is basically a half truth.
And this difference between a return of 10.8% per year and 16.1% per year, is substantial. If you had invested Rs 1 lakh twenty years back, at a return of 10.8%, it would have grown to Rs 7.77 lakh by now. At a return of 16.1%, it would have grown to Rs 19.79 lakh.
Further, even if you were to ignore the Sebi point, the fact of the matter is that the bulk of the return on the Sensex came between April 1979 and April 1992. How well has the Sensex performed between April 1992 and now, more than twenty three and a half years later? You will be surprised to know the answer. The return between then and now is around 7.9% per year.
So the entire idea of equity doing well in the long-run doesn't always work. It is important to get in at the right time and buy the right stocks at the right price.
The question is why does this half-truth of 16% per year return get stated over and over again? The simple answer is that 16% return per year obviously sounds much better than 10.8% per year or 7.9% per year. This makes it easier to sell stocks. Given that the business of selling stocks attracts many smart people, there is no way that these "experts" don't know that they have been mouthing something, which is essentially a half-truth.
Hence, the next time a stock market expert says that in the long-run Indian stocks give a return of 16% per year, remember that it doesn't.
Vivek Kaul is the Editor of the Diary and The Vivek Kaul Letter. Vivek is a writer who has worked at senior positions with the Daily News and Analysis (DNA) and The Economic Times, in the past. He is the author of the Easy Money trilogy. The latest book in the trilogy Easy Money: The Greatest Ponzi Scheme Ever and How It Is Set to Destroy the Global Financial System was published in March 2015. The books were bestsellers on Amazon. His writing has also appeared in The Times of India, The Hindu, The Hindu Business Line, Business World, Business Today, India Today, Business Standard, Forbes India, Deccan Chronicle, The Asian Age, Mutual Fund Insight, Wealth Insight, Swarajya, Bangalore Mirror among others.