What Really Drives Equity Performance?

Research* shows that there are three factors that determine the returns from Shares in the long term, and two factors that determine returns from fixed interest, as follows:-

Shares

Market  - Shares generally have higher expected returns than fixed interest.
Size  - Small company shares generally have higher expected returns than large company shares.
Price - Lower-priced "value" shares have higher expected returns than higher-priced "growth" shares.

Fixed Interest Securities

Maturity Longer-term instruments are riskier than shorter-term instruments.
Default Instruments of lower credit quality are riskier than instruments
of higher credit quality.

* Source “The Cross Section of Expected Stock Returns,” Journal of Finance 47, no.2 (June 1992):427-65.

So what does this mean and why is it relevant?

According to the Dimensional 2006 Matrix book of returns, £1 invested
between 1956 and 2006 would have grown to:-

£416 if it was invested in the FTSE All-Share

£2,428 if it was invested in Smaller Companies

(Small Index data simulated by Dimensional before 1981 data provided by London Business School)

Over a different time period, due to data unavailability, £1 invested from 1975 to 2006 would have grown to:-

£94 if it was invested in Growth Companies.

£220 if it were invested in Value Companies.

BPH Wealth Management's  Passive Approach recognises these different asset classes and identifies which have historically outperformed and weights the portfolio accordingly.