What residential property can teach us about investing in equities

Most South Africans have a story about residential property. It could be the first flat that somehow paid for the second property, or the family home that was bought decades ago for what now sounds like pocket change. These stories are being told with a certain level of excitement, yet the single biggest growth engine in our retirement funds or other long-term investments – equities – seldom feature in those conversations.

Take a very simple example we shared at an industry event earlier this year. Someone buys a house in August 2000 for R1 million and pays another R70 000 in transfer duty. Over the next 17 years, they spend R300 000 in total on renovations (a bathroom, a kitchen and eventually solar panels), and in 2026 they sell that house for R6.7 million. For most, this may sound like a fantastic return on their investment. Yet, when you account for agent’s commission and all the friction costs (i.e., the transactional fees, taxes, and legal expenses required to buy or sell a property), your annualised return amounts to 6.7% a year – a return on investment that is only in line with keeping your money in cash over this period.

If we then apply the same cash flows (for the same period) to Coronation Balanced Plus, our flagship fund for pre-retirement savers with high equity exposure, you end up with roughly R25.8 million, which is about four times the residential property outcome, at an actual return of 12.9% a year after fees.

What makes the comparison interesting is the behaviour around it. We don't check what our homes are worth every quarter, and we typically don't sell them when financial markets go through periods of increased volatility or a sharp dip. We keep the asset because it is where we live with our family, and because of that, it benefits from the one thing most investment portfolios never get - time.

WHY ARE EQUITIES HARDER TO HOLD ON TO?

Part of the answer is that equities come with a visible market price that updates every day, throughout the day. Over the long run, equities have shown to provide higher expected returns, but along the way it means sitting through brutal drawdowns and stretches of disappointing returns that can last several years. Investors get to watch every bit of it in real time and can sell in an instant. Owning a house spares you much of that agony. There is no screen showing what your home is worth this morning or index flashing red when your suburb has had a slow quarter. And critically, there isn’t a quick way to act on a moment of doubt.

Look at South African equities over 25 years, using the FTSE/JSE All Share Index (ALSI), and you'd think staying invested would have been easy. The index returned >13% a year, and only four of those 25 calendar years were negative. What those calendar-year bars don’t show is that investors had to sit through an average intra-year drawdown of about 15% along the way, in a typical year, to collect the return at the end.

We however understand the human behaviour underpinning this. Loss aversion means a dip in market returns feels worse than an equivalent gain feels good, and recency bias leads us to assume the latest trend (up or down) will continue indefinitely. Together, they can lead investors to buy when the news is good and prices are high, and to sell when the news is bad and prices are low. This is the opposite of sound long-term investing.

Data we've shared before and cover in our latest Corolab Investment Guide shows how short our horizons have become, with the average holding period for US shares falling from roughly five to eight years in the 1960s and 1970s to less than half a year today. And if we look at this from a South African fund perspective, historical industry cash flow patterns show that local investors, on average, tend to hold growth funds for less than a decade. 

The cost of giving up shows up clearly in the best-days analysis. Since Coronation Balanced Plus launched in April 1996, across 7 879 trading days, an investor who stayed invested the whole time ended up with about 45.2 times their capital in the Fund, 44.7 times in the ALSI and about 28.6 times in global equities (MSCI All Country World Index, in rand). Had you missed the best 25 days, and the Balanced Plus outcome drops to about 20.1 times. Miss the best 50 days, which is under 1% of all trading days, and the Fund’s 45.2 times shrinks to 11.6 times and the ALSI's 44 times shrinks to roughly 4 times.

The analysis shows that if you sell at the bottom of a major crisis, you could end up missing the rebounds that follow, and the timing of those is close to impossible to get right. And as our chief investment officer Karl Leinberger often says, "It's time in the markets, not timing the markets, that will give you those outsized returns that exponential growth delivers over decades."

EQUITIES HAVE NOT BEEN AN EASY RIDE

Over very long periods, equities have done most of the work in growing investors' wealth, and the mechanism is compounding, which starts slowly and then accelerates exponentially. On the chart we use to illustrate this, a 6% return and a 12% return look surprisingly similar for the first decade or two. Give them 30 years and 6% grows your money about six times, while 12% grows it about 30 times. A gap in annual return that looks minor early on can become a very different retirement, which is why the final years of an investment often matter more than the first 20.

STAYING INVESTED FOR COMPOUNDING TO DO ITS WORK

Warren Buffett’s wealth illustrates how exponential growth tends to show up late in the journey (as shown in Figure 5). According to Forbes, his net worth was roughly US$0.4 billion when he was 52, and by his mid-90s it had grown to around US$150 billion, which means well over 99% of it arrived after that point (see Figure 6).

The engine behind this was where the majority of his net worth was invested - Berkshire Hathaway shares, which compounded at 19.7% a year over six decades, compared with roughly 10.5% a year for the S&P 500 Index. Over 60 years, that gap of 9.2 percentage points turned US$1 into about US$61 000 in Berkshire Hathaway, versus US$462 in the Index. The lead is so large that Buffett could lose 99% of his fortune in Berkshire Hathaway, leaving roughly US$610, and still be ahead of the market’s result.

The figures are approximate, and his net worth is stated after lifetime charitable giving, but the shape is the one every compounding chart has: a long, fairly flat stretch that’s easy to mistake for nothing much happening, followed by a climb that gets steeper the longer it runs. That steep part is open to every investor, though only those still invested when it arrives get to enjoy it.

CONCLUSION

In the property example we shared at the start, the owner enjoyed 26 years of compounding with very little effort, largely because selling the home was never really on the table. With equities, investors have to build that patience and discipline themselves, or with the help of their adviser.

At Coronation, we firmly believe investors need sufficient equity exposure at every stage of their savings journey. We offer a range of funds that match the amount of equity exposure to your needs and the time you have to invest. Each fund uses the same tried and tested philosophy to select and allocate to domestic and global equities (you can read our latest fund commentaries for more detail about this selection and allocation). We focus on the fundamentals of each stock we research and own, and regularly reassess these views and re-underwrite our investment cases, given how fast the world is moving today.

Our most important job is to help clients avoid running out of money in their 90s, and that comes back to our core message: giving compounding enough time, and keeping the discipline to let growth assets work for as long as the money is needed.

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