DIY Investor: Beating the stock market

Paul Lewis, the presenter of BBC Radio 4’s MoneyBox, published a fascinating and provocative blog a few weeks ago that will have irritated most people in the financial services industry and pleased many of their customers. Lewis simply worked out how a saver would have done if they’d put their money in the “best buy” one-year deposit account every January since 1995. He then compared that to the performance of a fund that tracked the FTSE-100 over the same 21-year period.

Rather embarrassingly for the financial professionals, cash beat the FTSE 100 most of the time. Of the 192 five-year periods starting on the first of a month between January 1995 and the end of 2015, it came out ahead in 57 per cent of them. Of the 84 possible 14-year periods between 1995 and 2015, Lewis found cash triumphed in 96 per cent of cases.

This is not what is supposed to happen but it does help to explain why so many people deeply mistrust the stock market and prefer to keep their savings as cash on deposit instead of investing it. Provided they’re happy to shop around regularly for the best rates, it seems to work.

I found Lewis’s conclusions interesting, but not for the reason highlighted in most of the coverage: that returns from cash beat shares. This is bound to be the case at least some of the time because share prices can rise and fall so violently—arguably, Lewis’s finding is just another way of saying that cash is a much less volatile investment that equities.

What struck me about Lewis’s article was its call to manage your cash as if it were an investment rather than just leaving it alone. “Active cash,” as Lewis calls it, makes a lot of sense, especially now that deposit rates are so low, and I’m sure this instinct to hunt for higher returns on their cash is responsible for pushing thousands of retail savers into new areas such as peer-to-peer lending (P2P).

P2P loans offer much higher returns than deposit accounts (albeit with more risk) and have become an important part of my portfolio. But they’ve always had one major drawback: if I want real diversification I need to lend money through several P2P sites so that I’m not risking it all one pool of borrowers and depending therefore on just one team of credit analysts to pick those who will pay me back. It makes much more sense to spread the money and the risk across several P2P websites, but it’s a laborious task.

That’s why I’ve been experimenting recently with a service called BondMason, which invests the money I put in each month across more than a dozen P2P websites whose risk controls have been thoroughly vetted. Taking this route gives me the really wide diversification I can’t be bothered to achieve for myself and also saves me the work of reinvesting my money as the loans pay back.

It’s an obvious answer to one of the big problems with using P2P lending as a way to manage your cash savings actively and to date I’ve been very pleased and impressed with the results. I don’t like paying others to manage my money, but given the amount of work this service saves me, 1 per cent a year for high-yielding “active cash management” seems fair.