Many investors have suppressed the reality of the stock market crash of March 9, 2009. In March 2014, five years after the crash, investors have been pouring their money back into stocks. $172 billion has been added to U.S. stock mutual funds and exchange-traded funds- more than had been withdrawn from 2008 to 2012 combined. Another $24 billion has been added in 2014.
According to this Wall Street Journal article, it has taken an average of 3.3 years for stocks to surpass their high set before the typical bear market began. “Unless you think the next bear market and subsequent recovery will be worse than average, sticking with stocks is the best response to the certainty that, sooner or later, the current bull market will come to an end”. This being said, it is necessary to look at the entire picture. After the 1929 stock market crash, the Dow didn’t surpass its 1929 pre crash peak until 1954- 25 years later. Therefore, the Dow paints a distorted picture of recovery. Firstly, it only represents 30 stocks (the stock must be a leading, widely held stock in its industry). Second, it doesn’t include dividends- this was a big portion of stocks’ total return in the 30s. Third, a big portion of declines in the Dow disappears after adjusting for deflation.
Even though the average has taken 3.3 years, it is understandable as an investor to be complacent. This WSJ article suggests that investors need to reflect on how a bear market affected their behavior in the past and factor that into how it should affect their thinking now. What is a bear market? WSJ defines it as when stocks fall 20% from a peak. A bull market is defined as when stocks rise 20% off a low point. In sum, this article cites stock market events that have happened in the past and suggests how these past actions may affect investors decisions in the future. Advice is suggested regarding being skeptical of experts, remembering what the recession felt like, limiting risk-taking, being wary of the labels “bull market” and “bear market”, and questioning performance figures.
To sum up these arguments, in terms of being skeptical of experts- pick the ones who seem aware of the uncertainty of their predictions and are willing to change their minds. An “expert” who once had a correct prediction won’t necessarily be right the next time around. In terms of remembering what the recession felt like- if an investor stayed put during the crisis, then he or she should stay put now. If an investor sold during the crisis, then this investor will almost certainly sell again if the market takes another steep fall. Limiting risk taking- investors are better off keeping a smaller amount in stocks and sticking with this allocation in good times and bad. Being wary of labels- as implied earlier, an average is not a very good measure of performance. It’s better just to look at whether or not stocks are valued more highly than in the past. Now, stocks are trading at about 25 times average earnings. The historical average is 16.5. Lastly, questioning performance figures- “Research by finance professor Raghavendra Rau of the University of Cambridge and his colleagues has shown that investors flock to funds whose five-year returns improve when a bad month drops out of the beginning of the sequence.” Fund companies often raise fees and take advantage of “improved” performance by dropping the month of February 2009 and starting at March 2009. Clearly, skipping this pivotal month makes returns seem much more appealing.
In recent news, there have been comparisons of the current stock market to that of the 1990s– especially the mid nineties. The mid-nineties showed big gains in stock despite slow growth in the economy. Compared to the stock market right now, we can see that the economy has been sluggishly making its way back to pre-crisis levels. Job creation has been picking back up slowly, but steadily. Also, Janet Yellen projects short-term interest rates to increase in mid 2015. The Nasdaq and Dow Jones haven’t faired as well as the S&P 500 this year, but losses in these indices haven’t been extreme. Some say the bull market is showing signs of fatigue, but the S&P 500 has rose nearly 30% and is up .89%. Back in ’94, stocks fell but then quickly recovered when the Federal Reserve rose interest rates. We can see the same similarity today as stocks were down shortly after the recession but are now starting to pick back up. It is not unreasonable to claim that these gains will also extend to the future even as the Fed expects to raise interest rates in the middle of next year.
On the other hand, there are still differences between the current stock market and the stock market of the 90s. The most notable difference is the magnitude of the damage from the recent financial crisis. This may very well cause a more uncertain outcome. Although stocks may pick up when the Fed raises rates, the Fed itself is not completely certain of whether or not it will have the ability to raise them from near-zero levels in just about a year from now. A couple more big similarities between now and the 90s is that there weren’t many pullbacks (until the tech bubble) and we are also in a post-financial-crisis period with a ‘jobless’ disinflationary recovery. From ’95 to ’98, the S&P 500 rose an average of 28% per year. Now that we’re seeing 30% gains, the situation is somewhat similar.
I feel that the situation is definitely similar, but we cannot forget the difference in crisis that led to this bull market. The crisis of the late 80s was much less of a shock than the recent great recession. This makes it harder to predict how stocks will perform in the future because stocks tend to move in line with economic improvement. However, safer comparisons that we can make between now and the 90s are the condition of the job market and the relatively slow growth- I wrote a post about the current slow economy growth earlier this week (click here). Connecting these two posts, I believe that we should still anticipate stock gains in the future. Even though the job market is not doing as well as expected, I think the economy will recover further and further away from recessionary levels as long as the Fed guides inflation back up to 2% and stays course with the bond-buying program. As I mentioned in the other post, business profits are up and businesses have been investing. This is a good sign for consumers because it indicates that businesses and consumers are both more confident that each will do their part to benefit the other. Therefore, along with business profits we can project stock market gains.