plonkee money

February 13, 2009

historic returns: looking back more than a century

Filed under: banking and economics — Tags: , , — plonkee @ 12:46 pm

JD @ Get Rich Slowly highlighted a municipal bond issued in the mid-Victorian era in New York state that is just now coming to completion. It was paying out annually at 7% per year, which is a very respectable rate of return, even though inflation has seriously ravaged away the purchasing power of the original sum of $1000.

a good book teaches a lot

It reminded me that nearly everything I know about pre-20th century finance, I know from reading literature. In Jane Austen’s Pride and Prejudice, Mr Bingley and Mr Darcy are extremely wealthy men – with incomes of several thousand pounds a year. Of course, nowadays several thousand pounds will go nowhere. I have also surmised that trade (business) was looked down upon, and that investors were fairly cautious in the early nineteenth century – investing in joint stock companies was considered speculative.

A bit more of my knowledge comes from Jayne Eyre (the wealth of Mr. Rochester was built on the work of freed slaves) and North and South (which covers the cotton mill recession of the mid nineteenth century).

inflation is omnipresent?

When I read about incomes and prices from one or two centuries ago, the long term effects of inflation become very clear. If Miss Darcy’s £20,000 had been solely used to generate an income for her to live on, and none of it reinvested that money would still be providing around say £1,000 a year, but that’s not enough to live on, let alone enough to be considered a catch by a fortune hunter.

It’s interesting to read, then, that inflation was not a major factor during the nineteenth century. A report by the House of Commons into the value of the pound since the beginning of the Georgian era in 1750 (pre-dating the American Revolution) shows that although during the Napoleonic Wars, inflation was high, and this was then followed by a period of deflation, for much of the nineteenth century when Britain was the most industrialised nation (and certainly the major superpower) inflation didn’t really exist. Prices in 1870 were not very much different from prices in 1830, compare that to the twentieth century where inflation is an important influence and prices have tended upwards throughout as a result.

stocks and shares

Although inflation wasn’t of great importance to the Victorians, they did still invest in equity, but they generally looked for preservation of capital and provision of an income, rather than capital growth. Stocks and shares didn’t experience all that much capital growth in this period – this table of historic FTSE index returns from 1800 onwards doesn’t show much in the way of share price increases during the nineteenth century. However, dividend income was much more important – making up around twice as much of returns as they have done in the twentieth century (more than 60% down to around 30%). Returns in the UK were higher than the US at this time.

An article from Vox (an economic thinktank) suggests that the reasons that returns were higher in the UK were the relative hegemony that the British Empire possessed during the first phase of the industrial revolution, and barriers to entry for companies at this time – particularly illiquidity (much money was tied up in land, and financial institutions were more local).

Sometimes it’s interesting to take the very long term view, and see what can be learned from the lessons of history. It’s definitely true that past performance is no indicator of future performance, but also I think that some things don’t change so much. Innovation drives business and wealth, and humans being what they are, I’m fairly certain that ingenuity will continue long into the distant future. It’s hard to tell what’s likely to be the dominant factor in twenty-first century financially, but sensible investing probably isn’t going to hurt.

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