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“I wish a buck was still silver. It was, back when the country was strong . . . When a man could still work, and still would. Is the best of the free life behind us now? Are the good times really over for good? Are we rolling down hill like a snowball headed for Hell?” – Merle Haggard (1981, Dow Jones Industrial Average: 870)
We have just endured six straight weeks of stock market losses, the longest such streak since the fall of 2002. Since reaching a recent high on April 29, 2011, the S&P 500 has fallen 6.8%.
In the spring of last year, the market underwent a similarly frightening slide amidst below-consensus economic data and heightened European debt concerns. Over roughly 10 weeks, the market dropped 17% and stocks were not for the faint of heart. In the words of Yogi Berra, it’s déjà vu all over again.
A Washington Post-ABC News poll released on June 7, 2011 shows that 9 in 10 Americans continue to rate the economy in negative terms, while 6 in 10 say the economy has not started to recover. According to a CBS News survey released June 8, 2011, 31% of Americans believe the economy is actually getting worse and 79% say the economy is downright bad. The American Association of Individual Investors weekly survey of investor sentiment finds only 24.4% of participants bullish.
The litany of economic problems is no less than intimidating. The Conference Board’s Index of Leading Economic Indicators is slowing; the Standard and Poor’s Case-Shiller Home Price Index has reached a new low; high gasoline prices are constraining the consumer; the tragedy of the Japanese earthquake and tsunami have left the economy in even greater shambles; the European debt crisis is getting worse with Greece looking increasingly imperiled; the Middle East is in revolt; U.S. unemployment is moribund; Congress is playing Russian Roulette with the debt ceiling; and the Federal Reserve plans to end its second round of quantitative easing this month.
In Warren Buffett’s 2004 letter to shareholders, he wrote that “Investors should remember that excitement . . . [is] their [enemy]. And if they insist on trying to time their participation in equities, they should try to be fearful when others are greedy and greedy when others are fearful.”
If the stock market is a barometer of general sentiment in the country over long periods of time, then it is instructive to look at historic rolling 10-year performance of the Standard and Poor’s 500 Stock Index.
As the chart illustrates, the Great Depression made negative rolling ten-year performance a reality. By the late 1930s, stock investors had experienced 10-year average annual losses of 5% per year. Due to the force of compounding, this equates to a cumulative loss of nearly 40% over this period. But as it turns out, buying equities in the late 1930s would have been a highly profitable endeavor both ten and twenty years later.
Buying stocks would have required nerves of steel as 1939 was a horrible time. World War II was breaking out in Europe with the beginnings of unchecked Nazi aggression, including the invasion of Poland and the bombing of Great Britain. Meanwhile, the Soviet Union was invading Finland. Back in the United States, the Northeast was facing its worst ever drought and the unemployment rate was 17.2% (it stands at 9.1% today).
Conversely, everyone and their brother wanted to buy stocks in 1929. The famous financier Bernard Baruch later described the scene before the Great Crash: “Taxi drivers told you what to buy. The shoeshine boy could give you a summary of the day’s financial news . . . An old beggar who regularly patrolled the street in front of my office now gave me tips . . . My cook had a brokerage account and followed the ticker closely. Her paper profits were quickly blown away in the gale of 1929.”
Similarly, a stock market craze permeated in 1999. James K. Glassman and Kevin A. Hassett published the best-selling book Dow 36,000: The New Strategy for Profiting from the Coming Rise in the Stock Market. They wrote, “the single most important fact about stocks at the dawn of the twenty-first century: They are cheap….If you are worried about missing the market’s big move upward, you will discover that it is not too late. Stocks are now in the midst of a one-time-only rise to much higher ground – to the neighborhood of 36,000 on the Dow Jones Industrial Average.” Twelve years later, the Dow now stands at 11,952.
In March of 2000, Cisco Systems (CSCO), the manufacturer of the Internet’s guts, its routers and switches, sold for over $77 per share. Today it sells for about $15 per share. Perversely, it was more tempting for the average investor to buy CSCO for $77 than it is for $15 – such is the fabric of human emotion.
In 2006, David Bach, the personal finance personality and New York Times best-selling author, published The Automatic Millionaire Homeowner: A Powerful Plan to Finish Rich in Real Estate. In the introduction, he wrote, “What if I told you the smartest investment you would ever make during your lifetime would be a home?”. Interestingly, this proved to be about the worst time in American history to purchase a home.
So, as we write this, what is the best-selling business and investment book on Amazon.com? Reckless Endangerment: How Outsized Ambition, Greed and Corruption Led to Economic Armageddon by New York Times reporter Gretchen Morgenson. Couple this with the most hyped investment paradigm, the “new normal,” an environment of slow economic growth and meager investment returns promoted by Pacific Investment Management Company, and you get the sense that not only is the general public pessimistic, but so are most experts.
Historically, when rampant pessimism pervades, it is a good time to make long-term investments in equities. The next few weeks and months could be rough, and we will surely face cyclical bear markets along the way. But as the earlier-referenced chart would indicate, today’s defeatism should result in long-term opportunity.