Can you earn 8% a year by investing in the stock market?

Historically, investing in the stock market has been one of the best ways of building wealth over time. And it isn’t really showing any signs of slowing down at the moment. 

Over the last 12 months, the FTSE 100 has generated a return of over 20%. The long-term average is more like 8% – so could you earn this by investing in the stock market?

No guarantees

The stock market’s record of outperforming cash and bonds over long periods of time is outstanding. It has been extremely consistent in generating better returns for investors.

There are, however, some issues to keep in mind. Unlike government bonds, shares don’t come with fixed returns and there are no official guarantees of what they might be.

Unlike cash, the market value of stocks can go up and down. And there are no guarantees about what prices they will be selling at when someone wants to sell them. 

These are the disadvantages of equities. But the reward for being able to deal with uncertainty and volatility has – in the past – been consistently higher returns over the long term.

Investing in stocks

The easiest way of investing in stocks and shares is probably by buying an exchange-traded fund (ETF). There are lots of these available and they have different aims and strategies.

The most straightforward ETFs aim to match the return of an index – like the FTSE 100. They do this by owning all of the stocks in the index, weighted according to their market value. 

Taking this approach gives investors exposure to everything and some companies will inevitably do better than others. The alternative involves trying to make choices. 

Since not all stocks perform the same, it’s theoretically possible to get a better return by owning the ones that do better than average. And this is an underrated strategy. 

Durable strength

One stock I own in my portfolio is Amazon (NASDAQ:AMZN). It’s a US-listed company, but I think it clearly has some outstanding long-term prospects.

The firm’s cloud computing gets a lot of attention – rightly so – as artificial intelligence (AI) is on the rise. But I think there’s far more to it than this. 

Amazon has built an e-commerce platform that offers lower costs and faster delivery than its rivals. And one of the best demonstrations of its popularity is its Prime subscription revenue.

An economic downturn is a risk to think seriously about. But I think the company’s focus on speed, convenience, and value means it’s going to be ahead of the competition for a long time.

A mistake to avoid

A common view is that ordinary investors should just buy a fund that tracks an index, rather than making their own decisions. But I think there’s a big mistake with this line of thought.

Put simply, deciding to invest in an index is making a decision. It’s deciding to involve a specific set of stocks – maybe all of them – with a specific weighting.

In that sense, I don’t think it’s any different to choosing to build a diversified portfolio by investing in specific stocks – such as Amazon. And that’s the approach I’ve taken.

Time will tell whether or not it’s the right one. But I think anyone getting started with investing can justifiably hope for an 8% return over the long term.

The post Can you earn 8% a year by investing in the stock market? appeared first on The Motley Fool UK.

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Stephen Wright has positions in Amazon. The Motley Fool UK has recommended Amazon. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.

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