Mark Twain said, “History does not repeat itself, but it does
rhyme a lot.” In our business, it is standard practice to find
that “rhyme” by studying financial market trends, hoping to
achieve future investment returns with past investment history.
One trusted study is a table of stock market returns over
rolling ten-year periods using the S&P 500 Index as an equity
benchmark and an accurate measure of stock market performance.
Some economic analysts predict a sideways, or flat return in
stocks for the rest of the decade while others believe that we
are in a Bear Market correctionâ??with a downward slide in prices
on the horizon. Using the research featured in this report, we
justify our endorsement of an all-equity position for investment
portfolios, explaining why we subscribe to neither of the
aforementioned forecasting positions.
The table shows calculations for the rolling ten-year
compounded annual returns of the S&P 500 Index from 1926 through
2004. The worst ten year compounded annual return occurred the
period ending in 1938 (-0.90%). The best annual returns occurred
the period ending in 1958 (20.06%). The average annual return
for all 79 years studied was 10.4%-consistent with the
oft-quoted long-term return for the stock market. Through close
study of the data, we see a strong argument against today’s
pessimistic forecasts for the remainder of this decade.
Assuming stock prices generate the sideways movement some
predicted for the remainder of the decade, the rolling ten year
compound rate of return through 2010 must show an 2.5% loss
annually for the next six yearsâ??making this decade the worst
decade of stock ownership in the 79 year period of our study,
worse than the ten year period encompassing the Great
Depression. Whatever risks confront us today, there is no reason
to anticipate the kind of economic extremes the investment
markets experienced in the 1930’s.
Corporate earnings are at record highs, and corporate balance
sheets are in the best shape they have been in for over 40
years. Economic growth is at about 3.5% annually, with inflation
tracking at only 2-2.5%. Corporate investment spending is up,
while jobs are being added every quarter since early 2004,
brining the unemployment rate back to 5%. This is all in a stark
contrast to the dour economic circumstances of the 1930s. All
these factors gives us reason to believe that stocks are cheap
and should perform much better in the latter half of the decade.
Based on our table of returns, interesting observations that
can be made:
1. For stocks to produce their average ten-year performance of
10.4% for the decade ending 2010, we will need an average rise
in prices of 23% per year for each of the next six years.
2. Viewing stock market returns from a “worst case scenario,” a
duplication of the worst ten-year performance on record (-0.90%
annual loss through the ten year period ending in 1938) would
still require a rise of 3% annually for each of the next six
years.
3. Modern investment theory often quotes only post-WWII time
periods. Looking at this “modern,” more topical timeframe, we
would need a 4% annual return to duplicate the worst performing
period (1965-1974). To equal the best period (1949-1958), we
would need to see a rise of 28% annually for each of the next
six years.
This data does not in any way constitute a forecast, but serves
to put today’s pessimism into perspective. If the S&P 500 Index
does remain flat until the end of this decade as some predict,
we would have to experience a much worse performance over the
next six years than experienced by investors during the Great
Depression. If we roll back into a continuation of the 2000-2002
Bear Market, as some believe we are destined to do, would find
us experiencing outsized negative returns for the remainder of
this decade. Anything is possible, but we assign a very low
probability to either of these events occurring.
Due to our current economic and political climate, we cannot
simply draw parallels to investment environments that existed
during the Great Depression, or any other period. We believe
these statistics suggest that prospects for the stock market
over the next five years are quite favorable. Even if history
does not repeat itself, these statistics certainly suggest that
history could “rhyme” with the past. Judging by past results
over rolling ten-year periods, we feel that history is certainly
on the side of a continued Bull Market, and on the side of firms
taking an all-equity posture in the investment portfolios they
manage.
Michael Jackson - History [Remix]