History Rhymes With A Bull Market In Stocks by:John Allison
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 correctionwith 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 yearsmaking 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.
Rolling 10 Year Average Annual Return for the S&P 500 Index (1926-2004)
1926-35 5.85% 1954-63 15.90% 1980-89 17.55%
1927-36 7.80% 1955-64 12.80% 1981-90 13.90%
1928-37 0.05% 1956-65 11.05% 1982-91 17.60%
1929-38 -0.90% 1957-66 9.20% 1983-92 16.20%
1930-39 -0.05% 1958-67 12.85% 1984-93 14.95%
1931-40 1.80% 1959-68 10.00% 1985-94 14.40%
1932-41 6.45% 1960-69 7.80% 1986-95 14.84%
1933-42 9.35% 1961-70 8.18% 1987-96 15.25%
1934-43 7.20% 1962-71 7.06% 1988-97 18.05%
1935-44 9.30% 1963-72 9.93% 1989-98 19.19%
1936-45 8.40% 1964-73 6.00% 1990-99 18.28%
1937-46 4.40% 1965-74 1.24% 1991-00 17.45%
1938-47 9.60% 1966-75 3.27% 1992-01 12.90%
1939-48 7.25% 1967-76 6.65% 1993-02 9.20%
1940-49 9.15% 1968-77 3.60% 1994-03 10.95%
1941-50 13.35% 1969-78 3.16% 1995-04 11.10%
1942-51 17.30% 1970-79 5.85%
1943-52 17.10% 1971-80 8.45%
1944-53 14.30% 1972-81 6.45%
1945-54 17.10% 1973-82 6.65%
1946-55 16.70% 1974-83 10.60%
1947-56 18.40% 1975-84 14.75%
1948-57 16.45% 1976-85 14.30%
1949-58 20.05% 1977-86 13.82%
1950-59 19.35% 1954-63 15.90%
1951-60 16.15% 1955-64 12.80%
1952-61 16.40% 1978-87 15.25%
1953-62 13.45% 1979-88 16.33%
This chart represents historical data and is for illustration purposes only. It does not suggest or predict future performance.
About the author
John Allison is the president and chief investment officer of Allison Investment Management, a firm he founded with his son, David, in the beginning of 2003. John began his career in the investment industry in 1982, when he joined the Columbia, SC office of Smith Barney. A graduate of Wofford College and one of Money magazine's 1988 "Outstanding Stock Brokers," he served as branch manager of Smith Barney's Winston Salem, NC and Greensboro, NC offices from 1992 through 1998. John left Smith Barney as vice president and senior portfolio manager in 2000 and joined Fisher Investments as a regional vice president in the Private Client Group before founding his firm. John currently holds the following registrations: Series 7, Series 8, Series 63, series 65. In addition, he is an arbitrator with the NASD.
allinvmgt.comjohn@allinvmgt.com
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