Equities are regarded as one of the best long term investment instruments. Equities represent the ownership in the business. Over the long term, a well managed companies tend to appreciate in value. As the profit of the companies increase, it is reflected in the rising stock prices. Historically, equities have delivered higher returns compared to other asset classes such as bonds or gold.

Look at the below table to understand the returns provided by the equities.

Period	Returns
1991-2024	11.9%
1991-2001	5.4%
2001-2014	17.8%
2014-2024	11.1%

The above table produces the compounded annual return of the BSE Sensex which comprises the top 30 Indian companies according to the market capitalization. This index is chosen as it has one of the longest historical data of Indian Stock Market.

The average long term return from Indian top 30 companies has been around 12% for the last 33 years. Looking at the shorter terms, we can see that the performances are quite volatile. The average return for period 1991 - 2001 i.e., for the decade post liberalization has been just 5.4%, a lot lower than the long term average. Then for the period of next thirteen years which comprise 2008 financial crisis, the average return has been 17.8%, which is much higher than the long term average. Finally, for the period 2014 - 2024, the average return is around 11.1%, which is similar to the long term average return.

Stock Market is volatile

The above data shows that the market is volatile, even in the medium to long term period (the period “medium term” or “long term” depends on the perspective, some can think of long term as high as 30, 40 years; while others can think of 5 years as long term).

Indian economy started liberalizing in the year 1991. It was opening up as a global economy. The decadal average return of the stocks was around 5.4%. This is much in-line with the GDP growth rate which was also around 5.6% for the decade.

After the year 2000, the economy started to grow at the higher rate as compared to the previous decade. For the next thirteen years, stock market entered the period of continuous increase. The average return during this period was around 17.8%. The stock market capitalization to GDP ratio also started rising up (it was merely around 0.5x during the year 2000).

The decade after the year 2014 has given the average return of around 11% i.e., from 2014 - 2024.

Notice, even in the period of decent long term (10,15 years), the market is quite volatile. The argument of Benjamin Graham to not to forecast the future in the stock market exclusively by extrapolating the past seems to be valid. The high returns of period from 2001-2014 doesn’t guarantee the high performance in the later year. And so was true.

Once the stock is overpriced, how can the future returns possibly mimic the past returns? It is just not worthwhile to buy a stock at any price. Since the profits that a company can earn is limited, the return that it can generate should be limited.

Volatility is an inherent aspect of the stock market. Thus, Graham suggests “the rule of opposites” i.e., fear when others are greedy, and be greedy when others are fearful.

Measuring investment performance

Individual’s return can be specific to the specific time period. Someone starting investing in the year 2000 may feel like a Rockstar earning 17% annual return, without making any extra efforts, compounded for thirteen years. If one has missed 2000 and started in 2014, ten year growth might be just producing average return around 11%. Performance should be seen with the context of the external environment.

So, how should we measure the performance of Individual? What time period should we look at to measure the performance?

Warren Buffett writes in his 1961 Letter of Buffet Partnership Ltd, “I feel the most objective test as to just how conservative our manner of investing is arises through evaluation of performance in down markets.” If individual’s performance is superior to the broader market during the low return period then it might be due to the skill of the investor.

Individual’s return of 17% or 18% during 2001-2014 can be skill or luck, it can be anything. But, return of 17% during 2014-2024, when the broader market was giving just 11%, can be due to skill. So, it is the down market that we should look at to judge the investor’s performance.

Investing involves the combination of skill and luck, but skill plays an important role over the long term. Skill is important for long term performance. It is through continuous learning and intelligence that an investor can generate superior performance over the long term period.

Disclaimer: The above are our learnings. We try to apply these learnings to our investment operation. We can be wrong in our thinking or that our thinking can change in the future as we learn more. So, let's move forward with a sense of skepticism.