It is important to note that the low volatility, high-yield characteristics of the underlying real estate have remained largely unchanged. Recent problems with, and disappointing performance within, the A-REIT sector relates mainly to excessive financial engineering – in particular, high debt/asset ratios and unsustainable distribution policies.
Subsequent re-engineering (and de-leveraging) in the sector has gone some way to re-establishing the characteristics which made REITs attractive in the first place. However, securitised listed real estate will continue to be affected by equity-market volatility. Therefore, investment in the sector should generally be considered at least a five-year proposition.
Equities require a long-term investment horizon
There are a number of sub-sectors in the equities asset class, including domestic equities (large- and small-cap), international equities, and emerging-market equities. Equities generally provide the greatest potential for strong capital returns over the long term. However, given their sensitivity to changes in economic and industry conditions, they also carry the highest volatility and risk of capital loss. It is for this reason that most wealth managers prescribe a timeframe of five to seven years for equities investing.
More than any other asset class, equities have experienced periods of significant 12-month drawdown over the past 30 years. The frequency and extent of drawdown clearly supports conventional wisdom that equities, and sub-sectors within equities, are a long-term investment proposition.
According to our historical analysis on this asset class, we would generally recommend the following as suitable minimum investment timeframes:
• Five years for large-cap Australian equities, but seven for small-caps;
• Five to seven years for international equities; and
• Seven years for emerging-market equities.
Again, it is important to note that products will vary significantly and positive returns are not guaranteed even over these timeframes.
Conventional investment horizons generally appropriate
Our analysis largely supports conventional investment horizon theory. An appropriate holding period for cash is typically less than one year; for fixed interest, between two and five years; and for equities, no less than five to seven years. However, holding an investment for the suggested investment period does not guarantee a positive return. What it does do is give investors an increased likelihood of generating a positive return.
In addition, products offered in each sector may vary significantly in terms of liquidity profile, risk appetite, et cetera. Therefore, it is crucial that investors understand these differences when determining a suitable investment horizon.
Nathan Bode is an associate of S&P Fund services.
