When I started in this business back in 1984, I thought I had signed on for the easiest job in the world.
My only experience with the markets prior to becoming a financial advisor was the spectacular run-up that followed the recession of 1982. During that time, the North American markets posted some great results, with the S&P 500 returning 21.4% from 1982 to 1983, 22.5% the next year, 6.3% the year after and then 32.2% the year after that.
Non-North American markets had an even headier time. International large cap stocks, for example, returned 31.1% between 1983 and 1984, 15.8% between 1984 and 1985, 64.2% from 1985 to 1986, and 63.3% between 1986 and 1987.
In other words, I – like pretty much everyone else at the time – assumed that stock markets existed for one thing, and one thing only: to offer investors a constant and uninterrupted guarantee of high annual returns. My job was just to convince people to pile their money into stocks, and then sit back and watch them get rich.
My wake-up call came on October 19, 1987. I still vividly remember watching, awestruck, as the Dow Jones Industrial Average plunged 508 points in a single day.
Now, veterans of recent market events might think that a 508-point drop is nothing to shout about. But in 1987, the Dow stood at around 2,000 points. A 508-point drop represented a loss of 25% of the value of the entire index. In today’s terms, with the Dow currently at around 13,000 points, this would be the equivalent of a one-day drop of nearly 3,000 points.
In other words, it was a very big deal.
Yet despite this seemingly catastrophic event, if you’d had the good fortune to be living on a desert island between 1987 and 1988, you might be forgiven for wondering what all the fuss was about.
It took less than a year after that unthinkable drop for the markets to not only recover all the value they lost that day, but to set new records that were even higher than their pre-1987 peak.
In fact, except for a few hiccups, the 1990s were by and large years of uninterrupted growth for both the stock and bond markets. Fuelled by this success, the doctrine of “buy and hold” took root. Financial planners started routinely generating retirement income projections that assumed a 10%, 12% or even 15% annual rate of return.
Then the year 2000 showed up. And like 1987, it was determined to spoil the party.
Most investors at the dawn of the new millennium were over-exposed to high-flying technology stocks. When those stocks came crashing back to earth, investors suffered huge setbacks. A few held on, and watched as their lost value slowly crawled its way back, posting modest but decent gains for several years.
Their reward for all that patience? The credit bubble of 2008, which almost overnight sent world stock markets back to levels not seen since a decade before. In 1999, the S&P 500 stood at 1,500. Today, it is hovering around 1,348.
A zero-percent 10-year return is enough to put a damper on even the most determined optimist, not to mention throwing a very large wrench into the gears of the most well-intentioned retirement projection. But before we throw up our hands and throw the whole idea of investing in equity markets out the window, let’s take a moment to expand our horizon just a touch, and consider where the 20-year rate of return stands today.
Over the 20 years from 1990 to 2010 – a period that includes all the bad news of the past 11 years – the average annual compound rate of return for the S&P 500 was a solid 8.8%. The TSX composite index, compounded over the same timeframe, grew by an average of 8.5% a year.
This is not intended in any way to discount the pain that investors have been going through lately. But it’s important to remember that there have been other long periods that registered a zero-percent return in the stock market, or worse.
The years between 1930 and 1942 produced no net gains for the S&P 500. Ditto for the years from 1966 to 1975. Yet, in both cases, those years of consecutive drought were followed by decades that racked up some significant gains. Today’s S&P 500 ceiling of 1,340 may seem pretty depressing. But when you think that, in 1966, it stood at 80 points, suddenly 1,340 doesn’t seem so bad.
The true tragedy of the recent turmoil is that it is causing more and more investors to become discouraged enough to sell all their stocks, and get out of the markets entirely. Currently, stock-based mutual funds are facing the highest rate of redemptions at the bottom of a nasty bear market. People are just getting tired of bad news and no returns.
But if history is any guide at all, selling now – when stocks have taken a severe beating – is almost certainly the most risky thing you can do. Investors have been through the worst over the past decade. That is precisely why things are bound to get better.
This isn’t just pie in the sky optimism. Consider the facts.
Stocks are trading at inexpensive valuations. Many are paying dividends that are higher than bond yields. And the largest companies in the U.S. have the most cash on hand right now than at any other time since the Second World War.
The value is there. We just have to hold on until the shell-shocked markets see it.
*Source for all figures: Dimensional Matrix Book 2011.
Alan MacDonald an investment advisor with Richardson GMP Limited, helps investors with over $500,000 of assets make smart decisions about money. Alan is the co-author of “The Copperjar System, Your Blueprint for Financial Fitness” available on Amazon.
All material by Alan MacDonald, Investment Advisor at Richardson GMP Limited. The opinions expressed in this article are the opinions of the author and readers should not assume they reflect the opinions or recommendations of Richardson GMP or its affiliates.
Richardson GMP Limited, Member Canadian Investor Protection Fund. Richardson is a trade-mark of James Richardson & Sons, Limited. GMP is a registered trade-mark of GMP Securities L.P. Both used under license by Richardson GMP Limited.