Friday, August 5, 2011

What stock market environment do you think we’re in?

I down loaded the Dow Jones monthly closing prices from 1928 until today. We are all familiar with the chart as it looked over the last decade or so. But just to set a bench mark, here it is again:

Now let's compare it to another traumatic event, the crash of 1987:

Looks somewhat familiar doesn't it? Well we had this great bull market starting in 1982 which really didn't stop until 2000. Prior to that we had the 'dreaded 1970s market' which looked like below:

From 1967 until 1979 culminating in Jimmy Carter's diminished U.S. and the Iran debacle. The U.S. was severely weakened due to high oil prices and intense competition from Japan, this was a pretty black period for most of the developed world, with the exception maybe of resource rich Canada whose dollar was on par with the debt laden U.S. From 1955 until 1967, the industrialized world led by wunderkind U.S.A. experienced one of history's largest bull markets – just like 1982 until 2000. Here is the chart:

It took the new world nearly 30 years from 1929 until 1955 to recover from the 1929-1933 crash, where the stock market fell from a high of 380 to a low of 44.84. But if you started buying anywhere after 1933 you would have done well. The years between 1933 until the end of the Second World War may have been somewhat similar to the 1970's. It was though a period of great economic uncertainty where several countries experienced sky high inflation; in particular Germany.

Today may be a period of great uncertainty, but I don't think it comes even close to being comparable to the 'Dirty Thirties'. It is more like an economy kept in check by energy prices similar to the 70s. The 1970s were a period of inflation, ever higher government debt and a bear market every 2 to 4 years. Overall it was a period characterized by no real market appreciation other than the cyclical highs and lows within a trading range. Yet even the 1970s are not the perfect model for today. Currently, we are having little inflation although government debt is very high; inflation and debt culminated around 1984 during the Mulroney years (and Ronald Reagan) near the end of the commodity bull market. Today, we're acting against high government debts much earlier in the commodity cycle than in the 1970s and… rather than a young population; we're dealing with the retirement of the baby boomers. Although 'history may repeat itself, the 'details' vary.

Between 1928 and today we divided the Dow Jones Index history into 6 epochs (1928-1933; 1933-1955; 1955-1967; 1967-1982; 1982-1987; 1987-2000). Now we live in the seventh epoch which started around 2000 and includes the Great Recession. Of the 6 previous epochs, 4 were bull markets, one a prolonged period of decline (The Great Depression) and one a period of stagnation (1970s). The seventh epoch seems to be one of rebalancing: rebalancing of current accounts between developed and emerging markets; rebalancing of government debt loads and rebalancing of the use of resources. Will it compare in length with the 15 years between 1967 and 1982 or will it be shorter? If we start counting in 2000; we're now more than 10 years at it.

There are other differences with the 1970s that are significant. Nobody bailed the Western world out during the oil-crises years. There were no emerging economies that could pull the world economy forwards and during the 1970s it was an era of political turmoil were oil was used as a political weapon by OPEC. Today, we're living in an era of explosive technology development. If you think you're cool with your Blue Ray DVD player, well that is already passé; we're on to Netflix and Social Networking. Heck, even Google is becoming stale. And Microsoft? What is that a subsidiary of IBM or U.S. Steel? Just kidding! But it all goes to show that we're not necessarily mired in stagnation like in the 70s. Although, The Beatles, the Rolling Stones, Status Quo, Jimmy Hendrix, Bob Dylan and Janis Joplin. Neil Young, do I go on? That is something we're definitely missing in today's Gaga world with deep thinking artists such as Paris Hilton… Oops that one is also passé.

All this to say that although we can draw some parallels with the markets of the 70s we should not think that it will be exactly the same. If we learned anything from the seventies, it must be that dividends are critical as long as they don't succumb to inflation and that buying during lows at the right price is more important than ever before. And… although many were ready to write off the U.S. as superpower in the late seventies, look what followed, including the collapse of the Soviet Union and the Japanese economic collapse. So don't count out the U.S. There is more that we can learn from the past. Yesterday's 'crash' was not unique that we'll discuss in the next post.

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