Deciding you should invest outside [1] of the UK but then electing to put all your money in China is a case of out of the frying pan and into the wok.
It doesn’t spread your risk [2], and it exposes you to the biggest fear that most of us have when we make an investment, which is the potential for an all-out loss.
Studies have shown that as a species we prefer two birds in the hand to a potential five in the bush – if they come at the risk of a dead parrot.
In other words, we’re more averse to loss than we’re greedy for gains.
And that’s important in the context of overseas investing, because some countries have done far better or (more scarily) far worse over the long-term.
Long-term returns from different countries’ stock markets
| Annualised real return: GBP (UK pounds) | Growth of £1 since 1900 | |
| Australia | 6.4% | 2,134 |
| Belgium | 3% | 38 |
| Canada | 5.2% | 520 |
| Denmark | 6.8% | 3,388 |
| Finland | 4.9% | 375 |
| France | -0.1% | 0.87 |
| Germany | 3.5% | 74 |
| Italy | 1.7% | 8 |
| Japan | 3.6% | 80 |
| Netherlands | 5.5% | 742 |
| Norway | 3.9% | 118 |
| Portugal | -0.2% | 0.81 |
| Spain | 3.8% | 101 |
| Sweden | 5.8% | 1,069 |
| Switzerland | 5.7% | 968 |
| U.K. | 4.8% | 341 |
| U.S.A. | 6.9% | 3,703 |
| World | 6% | 1,344 |
Data from JST Macrohistory [3]1 [4], The Big Bang [5]2 [6], MSCI [7], Russell/Nomura Japan Index [8], Aswath Damodaran [9] and FTSE Russell [10]. August 2024.
Small differences in returns matter
This cumulative real return data for each country was a real eye-opener for me the first time I saw it.
It’s a reminder that seemingly small differences have a major impact when it comes to compound interest [11].
In terms of annual return, the difference between investing in shares in the U.K. versus the U.S. doesn’t look like that much:
- Averaged over the past 124 years, the annualised real return from equities3 [12] for a British investor is 4.8%.
- Over the same period, U.S. investors enjoyed a slightly higher annualised return of 6.9%.
What’s 2.1% between two countries divided by a common language, you say?
Well, over the long-term such small differences really do add up:
- A U.K. investor who reinvested all her dividends since 1900 would have multiplied her portfolio 341 times over.
- A similar US portfolio would have multiplied 3,703 times!
And these are two countries where returns have historically been in the same ballpark.
World stock markets’ cautionary tales
In contrast to those happy Brits and Yanks, an extremely proud French investor who put all their money in France’s lower-returning equities would actually have lost money.
The magic of compound interest [13] turned out to be a cheap party trick in their case. Instead of our French Rip Van Winkle (and a bit) waking up to a snowball of money, they would discover their original stake had shrank 13% (even with dividends reinvested!)
And it’s not as if France is Russia. There was no Communist Revolution to explain away the failure of ‘stocks for the long run’ here.
It wasn’t even due to the devastation inflicted by two World Wars.
Rather, a post-war bear market [14] fed by industrial nationalisation, high inflation, and currency depreciation did the real damage.
The recovery began in 1983 and since then France has enjoyed excellent stock market returns. So there’s no reason to believe the French market is intrinsically radioactive.
The key lesson is that when old hands warn [15] that investing is risky, they mean it.
Sometimes, in some places, those risks can overwhelm every comforting shibboleth we investors like to cling to: mean reversion, compound interest, and investing for the long-term. All of it.
Countrycide
No one lives to 124 (yet) and none of our most elderly were wizened old investors [16]. So some people might say that looking at returns over such a very long period is misleading.
I disagree – provided you’re not using the data for more than what’s reasonable.
As a way of seeing how different countries have produced very different long-term returns, it’s perfectly useful.
But the data shouldn’t be used as a basis for cherry-picking one country over another when deciding how to allocate [17] your money for the future.
Rather, it reinforces the case for diversifying very widely using global tracker funds [18] – because every tale of success and woe is different.
Not one world stock market (yet)
Why has Denmark pulled away from Sweden and Norway?
For that matter, why are its returns only a hair’s breadth behind superpower USA – winner of the 20th Century?
It’s not like Denmark qualified as an Anglophone, New World, emerging market in 1900.
Yet those are the explanations used to explain the success of the US and Australia – even though Canada’s performance is only fair to middling.
What’s more, Denmark’s stock market has been on fire the past 20 years whereas the UK’s has been moribund. Consequently Britain has slipped into the bottom half of the table, after decades as one of the leading lights.
And while it’s true that losing a World War is bad news, Japan and Germany got to much the same result by quite different routes.
For example, German society was devastated twice in the 20th Century, while Japan’s spectacular stock market recovery was famously derailed by a contemporary bursting asset bubble [19] and three decades of secular stagnation.
Correlation is not destination
Some would argue that world stock markets are now too closely correlated for this historic data to be of much interest.
I say: not so fast!
We are still seeing some highly divergent outcomes. Take Denmark versus the UK over the past decade:
- Denmark = 13.9% real annualised return (GBP)
- UK = 2.3% real annualised return
Those are two highly correlated markets but, even though they normally head in the same direction, correlation tells us nothing about the amplitude of their individual performances.
Correlation is useful in helping us to identify complementary asset classes, but it doesn’t tell us that all equities are interchangeable.
Lessons from history
In Fooled by Randomness [20], author and Black Swan [21]-spotter Nassim Taleb points out that an investor in Russian or Chinese companies at the start of the 20th Century who suffered a complete wipeout would tell a rather different tale about ‘investing for the long term’ than the Americans who write all the investing books.
Who is to say that the 21st Century won’t hold similar surprises?
It’s easy to believe the fate of Imperial Russia or China has little application for modern citizens of the rich world.
But just look at France again. That was a society as advanced as any on the planet, yet deliberate government policy choices ruined its stock market. The same could happen anywhere, even in the US.
Spreading your money across world stock markets remains a good idea to reduce the risk [1] of being 100% in an all-out lemon for 40 years, as well as for the more general diversification benefits [22].
Note: This article on world stock markets has been updated. Comments may refer to previous data, but in most cases they are still relevant and interesting. Especially mine.
- Òscar Jordà, Katharina Knoll, Dmitry Kuvshinov, Moritz Schularick, and Alan M. Taylor. 2019. “The Rate of Return on Everything, 1870–2015.” Quarterly Journal of Economics, 134(3), 1225-1298. [↩ [27]]
- Dmitry Kuvshinov and Kaspar Zimmermann. 2021. The
Big Bang: Stock Market Capitalization in the Long Run. Journal of Financial Economics,
Forthcoming. [↩ [28]] - The real return is the return after inflation has been taken into account. [↩ [29]]