Cometh the Bear for Stocks?

Reddit

We began last Saturday’s Reckoning with the thought that there are plenty of better opportunities to make money in the world than US stocks. That might sound strange. The S&P 500 was up 30% last year. It was a ‘Very Good Year’. And, for the record books, 2013 is just outside the top ten returns for US stocks in a calendar year since 1900. But the odds seem to suggest 2014 will prove a disappointment if you’re expecting a Very Good Year to happen again, in the US at least.

We say that because we have a book in our hand called It Was a Very Good Year: Extraordinary Moments in Stock Market History. The book goes back and profiles the best years of the last century looking for clues on what causes a Very Good Year. For the record, here’s the list:

1933: 53.97%

1954: 52.62%

1915: 50.54%

1935: 47.66%

1908: 45.78%

1928: 43.61%

1958: 43.37%

1927: 37.48%

1975: 37.21%

1995: 36.89%

We should point out the book was published in 1998. But the years above still stand as the best today, including the 16 years since It Was a Very Good Year came out. When reading older stock market books, it’s always fascinating to see how much changes, but also how much stays the same.

The way investors view stocks sure has not stayed the same. Take the way author Martin Fridson describes investor attitude to shares in 1915:

A contemporary reader of the early-twentieth-century financial press forms a distinct impression that in those days responsible investors regarded common stock as an inferior sort of bond. Expected growth in earnings wasn’t a primary focus of valuation, because price appreciation loomed small in people’s thinking…Journalists commonly equated the established dividend payout with the return on the stock, giving little thought to possible price appreciation. They compared the payout rate directly with bond yields.

Of course, we live in a very different monetary system today. But it did make us think twice when Diggers & Drillers resource analyst Jason Stevenson pointed out this week that his analysis shows the US stock market gained 30% on the back of less than 3% earnings and revenue growth last year. Or, to put it another way, the stock market went up 10x the earnings growth rate.

Actually, anyone who’s read It Was a Very Good Year might have expected something like this over the last few years. Fridson’s conclusion on the winning combination to look for when hunting for a Very Good Year looks interesting in the light of events since 2008. Here’s what he calls the ‘winning formula’: Depressed Prices + Sudden Credit Easing. Fridson:

Stock prices begin at a depressed level, reflecting fears that inflation-conscious central bankers will inflict more pain. Suddenly, a financial crisis reduces the price level to a secondary public policy consideration. As the Fed liquefies the system, the stock market quickly and radically adjusts to the changed circumstances. In their eagerness to prevent a meltdown, the monetary authorities unavoidably give stock investors a windfall.

Of course, from an investing perspective it’s all very well to say you should buy up big when prices are depressed, but oh so difficult when the world is screaming crisis and collapse every day. Being cynical about who politicians take care of when it comes to crunch might make the decision a bit easier next time. Fridson admits that the Fed merely poses as an independent body but is in reality hostage to the politics of the day. Basically, when it’s called upon to print money, it’ll print, consequences for the rest of us be damned. And this was in 1998. Think of the astonishing amounts of money pumped into the system since.

Suffice to say, if we take Fridson’s ‘winning formula’, it looks played out for now. The US has had five positive years. Mind you, there’s always the chance of a wildcard. The 1920’s saw consecutive Very Good Years in 1927-1928. Of course, if we tapped editor Vern Gowdie for an opinion at this point, he’d probably rightly point out investors also got 1929. In fact, he’s expecting a drop like that as we speak. You can see why here.

One reason is the level of margin debt in the US. That’s the money investors borrow to buy shares. It’s at record levels. You can see the numbers in Vern’s report. With interest rates in the US on the floor, there’s plenty of easy money floating around.

But the sixty four million dollar question is what will stop US shares in their tracks? We don’t know. But you won’t find suggestions for what to look for in the bull markets covered in It Was A Very Good Year. For that, we need to study the great bear markets. Stay tuned.

Regards,

Callum Newman+
for The Daily Reckoning Australia

ALSO THIS WEEK in The Daily Reckoning Australia

George Soros Bets Against China’s Economy
By Dan Denning

Lending by China’s shadow banking system has doubled since 2010. Most of that money has gone to local governments. Even the old wily speculator George Soros has recently pointed out something is rotten in the State-backed model.

The ‘Trade of the Decade’ Continues…
By Bill Bonner

The first time we announced a ‘Trade of the Decade’ was in 2000. US stocks were expensive. Gold was cheap. ‘Buy gold. Sell US stocks,’ was our advice. That worked out well. No major asset class beat gold. US stocks, meanwhile, went up, down and up again…ending the decade about where they started it (not taking into account losses due to inflation). In 2010, we looked around again for another trade.

Why Gold Will Drop to $1,000 Per Ounce
By Greg Guenther

It’s important to remember that the herd is usually wrong – at market turning points. Following the herd for the meat of a big move like the surge in stocks in the 1980s and 1990s or gold’s roaring bull market in the 2000s was the correct move. But knowing when to jump on board (and when to head for the hills) is the tricky part.

Back to Abnormal Markets
By Dan Denning

Property had a great year last year, at least in the capital cities. After a 15.2% rise in 2013, the median house price in Sydney is now $775,000. Melbourne prices rose by 8.5% for a median price of $625,000. In fact, prices were up in all eight cities for an average gain of 9.9%. Another couple of years like that and the median Sydney house price will be a million dollars.

Callum Newman

Callum Newman

Callum Newman is the editor of The Daily Reckoning and Associate Editor of Cycles, Trends and Forecasts. He also hosts The Daily Reckoning Podcast. Originally graduating with a degree in Communications, Callum decided financial markets were far more fascinating than anything Marshall McLuhan (the ‘medium is the message’) ever came up with. Today Callum spends his day reading and researching why currencies, commodities and stocks move like they do. So far he’s discovered it’s often in a way you least expect. To have Callum’s thoughts and insights on the current state of the currency, commodities and stock markets delivered straight to your inbox, take out a free subscription to The Daily Reckoning here.
Reddit

Leave a Reply

1 Comment on "Cometh the Bear for Stocks?"

Notify of
avatar
Sort by:   newest | oldest | most voted
slewie the pi-rat
Guest
good choice of date, imo: 1915. the liquidations of 1907 had been ‘fixed’ by JP Morgan’s systemic stick-save, and the FED Creature was learning to walk in 1915. a decade later and the FED and the bucket shops and brokers were teaching people how to make their money fly! and money means money in that sentence, as it did for JP: gold. now, money means IOUs… with new bankstering LAWS, some paper IS safer than others. you know, just in case… here’s the slewienomics analysis, just as superficial as i can make it: because of the Dodd/Frank set-ups and the… Read more »
wpDiscuz
Letters will be edited for clarity, punctuation, spelling and length. Abusive or off-topic comments will not be posted. We will not post all comments.
If you would prefer to email the editor, you can do so by sending an email to letters@dailyreckoning.com.au