Recently it has become popular to compare today’s market to the 1930’s. It is of course impossible to predict market patterns, but it seems more likely that we are in a period that will play out like the seventies than the thirties. Governments (particularly central banks) are much more interventionist today than they were in the thirties, and this I think will help to make this generation’s correction more like the seventies than the thirties.
the period from January 1966 to August 1982 included six separate bear markets that ranged in severity from 21% to 50%. The average for these corrections was 28%. These bear markets lasted from 1 month to 22 months with an average duration of 15 months.
The economic problem that the country faced in the seventies was uncontrollable inflation. It was not an easily problem to solve. There was a lot of cost-push as unions and a tight labor market helped to keep labor costs escalating rapidly, and in the 1960s and early 1970s a Federal Reserve Board eager to keep the politicians happy with lots of easy money.
The seventies the rollercoaster stock market was largely the result of the FED’s attempts to control inflation. The inflation would start to get nasty and the FED would tighten. The tightening would cause a recession and the FED would have to expand the money supply to fight unemployment. As soon as the economy started to recover the inflation would reappear the FED would tighten again; and so on.
The inflation problem would not go away because prices had been steadily increasing since the beginning of WWII (26 Years) it took sixteen years and six bear markets to before prices finally began to stabilize. The worst of these cyclical bears was the 1973 – 1974 market which very neatly cut the S&P in half. This particular correction came about half way through the secular correction or about eight years in. There were three more bear markets to come but in each case the low in the market was higher than the previous low, and each high was above the previous one. This was in spite of the fact that inflation kept getting worse that there were two recessions and an oil shock during the late seventies and early eighties.
The problem we face today is too much debt, and I can think of no particular reason that we should expect that it will be easier to solve or that the solution will take less time than the problem we faced in the seventies. Although the market bottomed in 1974, it took ten years more years for inflation to finally cool off, and it was not until 1982 that the bull was really back in charge.
It may be that we have seen the market lows, and it is almost certain that stocks purchased at today’s levels will yield decent long term returns, but that my take a lot of patience and this particular window of opportunity may be short. Massive stimulation by governments around the world will likely soon lead to a reemergence of inflation and the kind political reaction that will produce cycles like those that we experienced in the late seventies.
It will take more than a couple of years to de-lever the world. That does not mean the market will continue lower from here, but I do not see a return to a long term (secular) bull market any time soon. This means you have to be very careful to find margins of safety when you invest, and be willing to sell at any sign of over-valuation. It means that if you got burnt in the bear market, and wait to get back in till you feel comfortable it will probably be too late.
The good news is that we may have survived the derivative explosion, and a lot of stupidity will be removed from the world’s financial markets. This is never a painless process but it always is beneficial in the long run.
[Losch, Tabakov Capital Management LLC Client Letter November 2008 via brknews]
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