Not All Market Indices Are Equal

One of the most popular and time-tested investment strategies is to invest passively in an index fund. I too have adopted this strategy for my Supplementary Retirement Scheme (SRS) account. However, not all markets are equal. If you pick a market index that is performing well, you are well on your way to financial independence. Conversely, if you pick a market index that is underperforming, you will take a longer time to reach there. The chart below shows the performance of 5 more familar stock market indices, namely, Singapore's Straits Times Index (STI), US' Dow Jones Industrial Average (DJIA), UK's FTSE 100, Hong Kong's Hang Seng Index (HSI) and Japan's Nikkei 225.

Performance of Different Market Indices

From the chart above, if you had invested $10,000 in each of the 5 market indices at the start of 1988, the investment would have grown to $95,169 for HSI, $87,033 for DJIA, $36,982 for FTSE100, $36,052 for STI and only $6,847 for Nikkei 225 as at end Sep 2014. These figures represent a compounded annual growth rate of 8.8%, 8.5%, 5.0%, 4.9% and -1.4% respectively, excluding dividends. Thus, not all market indices are the same and it is important to select the right market index for your passive investment strategy.

For unit trust investments, there are 3 indices to choose from, namely, LionGlobal's Infinity Global Stock Index, US 500 Stock Index and European Stock Index. Their performance for the past 10 years are shown in the table below.

Performance of LionGlobal Global/ US/ European Stock Index Funds

For all the holding periods, the best performer is the US Stock Index, followed by the Global Stock Index and the European Stock Index. This is not surprising, given that the US economy has shown signs of recovery while the European economies are still mired in recession.

As mentioned in my previous blog posts, I will be switching from an underperforming unit trust to an index fund in my SRS account. Since I already have the Global Stock Index fund, the target of my switch will be the US Stock Index fund, notwithstanding the fact that DJIA might have peaked and could be going downhill from now on. You may wish to read Possibly The Worst Time to Invest on why I am not worried about a bear market for my SRS investments.

Will I be committing the mistake of chasing the hottest index only to see it underperform its peers in the foreseeable future? It's probable, but 26 years of market history could not be wrong. I still remember around 1995 when DJIA was about 4,200 points, I thought it was dangerously high and might crash like it did in 1987. In late 1996, when DJIA was around 6,500 points, the former Federal Reserves Chairman Alan Greenspan first used the words "irrational exuberance" to describe the US stock market. Yet today, the DJIA is around 16,400 points! And despite the rise of China in the past decade, it has been the US companies that have been the most innovative, introducing us to smartphones and tablets, social media, e-commerce, etc. If there is the next game-changing innovation, it will probably be coming from US. Even Warren Buffett has kept faith with the US "Old Economy" when he bought a railroad in late 2009 for US$44 billion including debt. He personally described the transaction as "an all-in wager on the economic future of the United States". You can read this article on whether the acquisition has been a good one after 4 years. Despite all the talk about the China economy replacing the US economy as the largest one in the world in the next few years, there is something resilient about the US economy that I have missed. So, while the switch to the LionGlobal US 500 Stock Index fund is not an all-in wager on the US economy, I too would not want to miss the train.

See related blog posts:

• Review of My SRS Investments
• Globalisation, Technology and the Home Bias
• Possibly The Worst Time to Invest