Investing in the FTSE 100 has been a popular choice for a wide range of people over the years. Its performance since inception in 1984 has been strong, with it delivering an annualised total return of around 9% since then.
However, its performance over the past 20 years has been relatively disappointing. In fact, a £1,000 investment at the turn of the century would now be worth around £2,300. That works out as an annualised return of just over 4%, which is less than half of the index’s annual returns since inception.
Here’s why that figure is so low, and why investors in the FTSE 100 could enjoy significantly higher gains in the coming years.
Twenty years ago, the FTSE 100 was experiencing a strong bull market which was being fuelled by investor interest in the technology sector. Companies that did not even have revenue were in high demand due to the potential for the internet to fundamentally change the way that business, and the world, operated.
As such, the FTSE 100 and the wider stock market were grossly overvalued. This meant that buying shares 20 years ago would equate to investors entering the market at an unfavourable time. As a result, subsequent returns have been disappointing.
A challenging period
Additionally, the FTSE 100 has experienced a major financial crisis in the past two decades alongside the unravelling of the tech bubble. The global financial crisis caused fear among investors, consumers and businesses that produced a halving of the index’s price level.
Although the FTSE 100 has subsequently recovered, it has been an uncertain period for the index that has left it trading on a favourable valuation despite experiencing a decade-long bull market. For example, the FTSE 100 currently has a dividend yield of around 4.3%, while many of its members trade on valuations that are significantly below their long-term averages.
This could mean that investing in FTSE 100 shares today yields higher returns than it has done over the past 20 years. Certainly, there are risks facing the world economy that could cause the index to experience a volatile 2020. However, in many cases, those risks have been priced-in by investors so that the risk/reward opportunity from the index is relatively favourable.
Therefore, while a 130% total return over the past two decades is a disappointment, history shows that the FTSE 100 can deliver superior returns. It surged from 1,000 points to almost 7,000 points in just over 15 years following its inception in 1984. While a similar rate of growth may not necessarily be achievable in the next two decades, the wide margin of safety offered by the index suggests that now could be the right time to buy a range of large-cap shares to boost your long-term financial prospects.
Peter Stephens has no position in any of the shares mentioned. The Motley Fool UK has 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.
Motley Fool UK 2020