We have always been told that stocks always outperform fixed deposits in the long run.
But is this always true?
Lets do some analysis.
Below is the graph showing annual returns for Sensex and Fixed Deposits (for 1-3 years tenure) from year 1991 to 2011.
- As you can see in 21 years period Sensex has given negative returns in 7 years. So a 33% probability of negative returns if you are invested for just 1 year in stocks.
- The second thing to note is the returns from fixed deposits can also fluctuate a lot. In 21 years it has varied from 4% to 12%.
Stocks Vs Fixed Deposit – Which is better?
Case 1: Twenty one year’s period
Below is the chart showing how much your money would have grown had you invested Rs. 1 Lakh each in Sensex and Fixed Deposits in January 1991 and rolled it every year till December 2011.
As you can see there are only two years (2001 & 2002) where your returns from fixed deposits beat returns from Sensex. This was time of Dot com bubble burst and Sensex had continuously given negative returns in last two years.
So this proves that in the long run of 21 years – there is only 10% chance of fixed deposit outperforming stock market returns.
Case 2: 17 Year Period
Now I have picked a year (1995) where the first year returns from Sensex is negative. If we see how Fixed Deposit compares with Stock markets in this period of 17 years – there are only 4 instances where Sensex returns have outperformed fixed deposits. So, there is 76% chance that Fixed Deposits are better than Sensex even for long term investment.
This post is not to discourage you from investing in stock markets but just to let you know that numbers and statistics can be manipulated and is manipulated to make a fool out of common man.
If I am selling you fixed deposit I would show you a 17 years chart while if I am selling stocks I would show you 21 years chart. Both are long term and both are true!
A few things to remember:
Fixed Deposits are not totally risk free. There is reinvestment risk. As you can see the fixed deposit rates have gone down to the extent of 4% in 2002. So you should lock your investment in fixed deposits when you are getting good returns. Right now its good time to lock in long term fixed deposits.
The other thing to note is the extent of out-performance by stocks is much higher than the extent of out-performance by FDs. So leaving the above numbers apart, stocks though risky have higher chances of giving you higher returns.
Last but not the least asset balancing – i.e. the right mix of debt and equity instruments is the key to wealth creation.