They said shares were for the long term - not for long-term losses

Those who bought shares last year won't be surprised, amid the economic turmoil, to find they have lost money on paper. But now even people who invested in the stock market a decade ago are looking at a loss. The investment optimists insist equities always come right in the long run, but when shares are below water after 10 years, how long does long have to be?

Most people who bought an individual savings account, contributed to their pension fund or purchased shares directly in 1998 have made no money at all on their investment. And the pain will continue into the next decade unless the bear market turns sharply into a new bull run – and no one is forecasting that. Even if share prices were to fall no further, they would still not be showing any capital gain by the time the Olympics open in London in 2012.

Bob Yerbury, chief executive of fund manager Invesco Perpetual, concedes: "We think about long-term normally being three to five years. Ten years is a long time not to make a profit."

The last time the stock market failed to show any gain over a decade was when the 1974 crash left shares below 1960s levels and prompted small shareholders to abandon direct equity investment.

The privatisations and demutualisations of the 1980s and 1990s brought private investors back to the market, but even now many of those stocks are below their issue price – including British Energy and the former building societies Bradford & Bingley and the Halifax, now HBOS.

The recent steep fall in the blue-chip FTSE 100 has taken it beneath its level a decade ago. Bank shares have dragged down the index, with Royal Bank of Scotland losing nearly 40 per cent of its 1998 value and Barclays almost 50 per cent. But many companies less directly affected by the credit crisis have lost money for their investors too. United Utilities shares are down nearly 20 per cent and GlaxoSmithKline has fallen by 35 per cent. Marks & Spencer has lost 60 per cent of its value and Kingfisher 75 per cent. BT shares have halved.

The Wolseley builders' merchant has just moved into negative territory; it once provided a 250 per cent profit for people who bought in 1998.

There have been gainers during the period too, with drinks group Diageo up 12 per cent, Cadbury Schweppes nearly 30 per cent higher and a profit of almost 25 per cent on Associated British Foods. But shares need to have increased by 20 per cent just to have kept pace with inflation over 10 years.

Shares in the household products giant Reckitt Benckiser have doubled, British American Tobacco has put on 150 per cent and mining groups have soared, with Rio Tinto up 600 per cent. But oil companies have not provided high profits despite the rising crude price: Shell shares are almost back at 1998's level.

In fact, investors holding a range of blue-chip stocks for the past decade have lost even more than the fall in the FTSE 100. Dixons, Telewest and GEC were in the index in 1998, for instance, but were ejected as their market value fell.

A decade ago, though, the market was rising rapidly on the back of the dot-com boom, with the FTSE peaking at 6,930 at the end of 1999. With shares now falling, that means the 10-year deficit will increase steeply for at least the next 18 months.

Mike Lenhoff, chief strategist at stockbroker Brewin Dolphin, still thinks shares are a good long-term investment, but admits: "It depends how distant your long-term really is. Ten years ought to be long-term."

He also concedes the negative performance over such a long period is likely to make investors look for alternatives to shares. "We are in a phase when it is right to insure against the volatility of portfolios by having a few more gilts – which have done better than hedge funds anyway. It makes sense to have more bonds and defensive assets – but don't turf out equities entirely."

A poll by Merrill Lynch last week showed fund managers switching from shares as the market falls. The equity element of pension funds has dropped from 80 to 60 per cent.

Reza Vishkai, head of alternatives at fund manager Insight, says: "From an investor's standpoint, equities are the long-term asset – that's where you get the higher rates of return. But you can hit periods like now that wipe out the returns".

He adds: "Diversification makes a huge amount of sense. The single best recession hedge of the next 10 or 15 years is an investment in farmland," he says. "Demand is going up very strongly on a global basis."

However, Mr Yerbury at Invesco is adamant that shares have not had their day: "I am astonished pension funds are selling equities and sterilising themselves against volatility by buying bonds – though from the finance directors' point of view I understand it: they are running companies not pension funds.

"Equities are seen as a hedge against inflation: bonds are not. The rating of equities is almost an inverse of the inflation rate."

So as inflation has risen from 1998 levels, share ratings have fallen. Even though company profits are higher than a decade ago, equities are now priced at just over 10 times earnings – half the ratio of the late 1990s.

Mr Yerbury argues that shares were expensive then rather than cheap now: "The 1990s was a huge peak in terms of valuation. Equities have generally derated since then and we see it most in the performance of the blue chips."

He does not see price-earnings ratios falling much further but does worry that declining profits will continue to hit share prices. "One part of the equation is out of the way, but when I look into 2009, I think earnings are still far too high for much of the developed world." Shares will re-cover as corporate profits and economic growth resume, he suggests.

Mr Lenhoff at Brewin Dolphin is an optimist too, though he has cut his year-end FTSE forecast from 7,200 to 6,200 – a level still 1,000 points above the current market. "Things will come right but I feel the biggest risk is not inflation but deflation – like Japan."

Tokyo's Nikkei index reached 38,957 in 1989 but share prices have never seen that level again. The index is currently 12,887. "The Japanese market has been in a bearish phase for 18 years but I do not think it is going to be anything like that here," adds Mr Lenhoff.

However, UK investors sitting on losses after holding shares for a decade may well be deterred from speculating again, even when the market bottoms out. "Over the long term – 20 or 30 years – we have to believe equities ultimately outperform," says Mr Yerbury, lengthening his horizon. "But what's happened over the last 10 years will make people question that."

Fund manager recommendations

Nicola Horlick, chief executive, Bramdean Asset Management

I would not put a large lump sum into the stock markets at the moment, as I fear that the credit crunch will take a while to filter through the economy and business results will be hit for the next year or more. However, I am not a pessimist and I do think there are good ideas and good opportunities in the wider markets.

Alternative investments are coming into their own. I still like private equity and venture capital, and my own company also has money in a short-only equity fund. Farmland is rising fast in value and will continue to do so, particularly outside Western Europe, while aspects of green technology look very promising. We have also been looking at very specialist investments in the film industry.

To gain access to this sort of range of investments with £50,000, it will be necessary to invest through a fund of alternative funds. This is no bad thing in any case, as it offers professional analysis, access to good funds and a decent spread of risk. These are particularly attractive attributes in uncertain markets.

Felicity Perry, head of fixed income, Barclays Wealth

We do believe equities offer value, particularly after recent falls. Although they are likely to remain volatile in the near term, they still tend to offer higher returns than gilts or cash over a longer period.

Gilts have outperformed the UK equity markets over the past 10 years, in part due to low, well-contained inflation expectations. But similar outperformance is unlikely in the future, given that the inflation picture has changed.

Risks of an inflation spike have now risen significantly, and although we expect price pressures to moderate in the medium term, inflation expectations are likely to be volatile.

We would therefore favour a bias towards equities (both UK and overseas) on a 10-year horizon, although a diversified portfolio would also include a significant presence of gilts and corporate bonds, as well as alternatives. Most investors under-populate their portfolios with alternatives, given their limited knowledge of commodities and hedge funds.

Inflation-linked gilts could also have their place but are expensive in our view as underlying real yields are very low, So we would recommend just a small allocation to these.

Georgina Mitchell, head of investment services, Redmayne-Bentley

The evaporation of investor confidence in the face of collapsing credit facilities and sharply rising global inflation has taken a heavy toll on equity valuations, most savagely in the banking and financial sectors. The liquidity crisis has moved on to one of solvency.

Until the attendant anxieties are substantially diminished, we expect no material improvement in sentiment. Indeed, post Olympics, we envisage a more obvious slowdown in the "Bric" economies (Brazil, Russia, India and China), implying a correction in the commodities and emerging markets sectors.

Central banks now walk a perilous path between stagflation, recession and possible Japanese-style deflation. We are seeing all the symptoms, but their actions will probably determine the seriousness and duration of the illness.

Our current advice is to protect profits, preserve spending power, stay close to cash and not to underestimate the market's ability to surprise on the downside. Patience will be rewarded, impetuousness punished. Our favoured sectors are precision engineers, infrastructure, oil services, gas, agriculture/fertilisers, nuclear decommissioning and specialist support services.

Consumer-facing companies look hamstrung but will have their day in time, so warrant tentative exposure. Gold has attractions but for now, cash is king. "Bottom fishers" may need to be very patient.

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