New insights into long-term financial return

We know a great deal about monthly and annual returns on stocks, but there has been little research into the characteristics of really long-term financial returns. Erik Hjalmarsson and his colleagues intend to improve our knowledge in this field.

Recent research shows that over long investment horizons of 10–30 years cumulative returns can display odd features. In the case of stocks, the effect of compound interest is that just a few “winners take it all”. This is because most stocks give very poor long-term returns, while just a few generate extremely high returns.

The researchers intend to put forward a theoretical framework for analysis in order to gain a fundamental understanding of the cumulative effects of compound interest.

They will also be analyzing long-horizon returns on both stock and fund investments. Preliminary findings underline the importance of diversifying long-term investments, of spreading capital between many stocks. According to the researchers, this indicates an interaction between accumulation and diversification that has not previously attracted attention.

They will also be studying the effects of transaction costs and taxes on long-term returns. One approach they will be using is to compare the tax effects on investments using traditional stock accounts, where realized capital gains are taxed, with “investment savings accounts”, which are subject to tax on notional returns.

The research is of relevance for long-horizon investment decisions in pension saving and other saving in funds. It will also contribute to the debate on taxation of individual savings accounts, and the formulation of guidelines on the funds that should be available as an option in the Swedish “premium pension” system, where long-term returns are of primary importance.