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Hewison Insights

Volatility – an investor’s friend?

Chris Morcom
Partner/Private Client Adviser
17 Sep 2010

With much talk of late being about share market volatility, it is timely to review just what that means for long term investors.

Shares provide returns to share holders in two ways; payment of dividends (being a share of profits) and an increase in share price over the longer term (reflecting growth in the value of the business).

Dividends provide share investors with an attractive income stream.  Over the longer term, quality Australian companies tend to increase their dividends, which provide shareholders with an ever increasing income stream.

For example, consider the case of Commonwealth Bank of Australia (CBA) shares.  An investor purchasing CBA shares ten years ago would receive a dividend of $1.30 per share.  Now, CBA shares pay a current annual dividend of $2.35 per share.  The average growth in dividend over that ten year period has been 8% per annum – much higher than inflation and through a particularly turbulent time for banks.

The share price of a company changes based on the price at which people are willing to buy and sell those shares.  Generally the share price should reflect the underlying value of the company.  However there are times when market sentiment (read greed or panic) can result in people either paying more than they should for a particular share, or indeed selling shares at a price that is too low.

Trying to work out when is the best time to purchase a share is sometimes akin to finding a keyhole in the dark.  Long term investors should focus on the underlying value of a company and if the share price is below the current underlying value for that company, then it would be a reasonably attractive time to purchase.

Once purchased, the subsequent movement in the share price is almost irrelevant.  Share investment is a long term investment, by which I mean a ten year proposition.  Over that time, a quality company should provide the investor with a healthy share of profits via dividends.  It should also provide the share investor with growth in the value of their investment via growth in the company value.

Going back to the CBA example.  Ten years ago the share price was $23.50, while today it is $52.64 per share.  This represents growth of 12.4% per annum.  Coupled with the growth in dividend over that time, CBA has proved to be a very attractive investment for share holders.

But the long term picture does not show the volatility that has occurred in the CBA share price over the ten year period.  The graph below provides an illustration of the movements over this time period.

As you can see, the share price in CBA has not grown steadily over the 10 year period. 

However, a long term investor who has held the stock for the 10 year period has seen their dividends grow by 8% per annum, and has seen the value of their investment grow by 12% per annum.

The conclusion – volatility can be unsettling, and it can be challenging to continue to hold quality share investments as their share prices falls.  But, on the basis that the company is of high quality, profitable, continues to pay dividends and has a positive long term outlook, volatility simply provides long term investors with the opportunity to purchase more shares.

Hewison Private Wealth is a Melbourne based independent financial planning firm. Our financial advisers are highly qualified wealth managers and specialise in self managed super funds (SMSF), financial planning, retirement planning advice and investment portfolio management. If you would like to speak to a financial adviser on how you can secure your financial future please contact us 03 8548 4800, email info@hewison.com.au or visit www.hewison.com.auPlease note: The advice provided above is general information only and individuals should seek specialised advice from a qualified financial advisor. The views in this blog are those of the individual and may not represent the general opinion of the firm. Please contact Hewison Private Wealth for more information.