Driving home today I happened to hear some stock market
guru on the radio (there are countless numbers nowadays, and I didn't get his
name during my brief time in the car) predicting that the "bull
market" will steadily march onwards and upwards and he compared it to 1982
(when the S&P 500 Index was around 140 vs. today's 1,500 plus), pointing out
that bull market move began when unemployment rate was more than 9% vs. a
little under 8% today. I didn't quite
get the connection to the S&P other than the inference that things looked
gloomy then on Main Street as they do today.
He sounded like a youngish man, probably either unborn in
1982 or in diapers. He's right about the
gloomy part, but he failed to cite other relevant data points in the comparison,
such as the Price Earnings Ratio (P/E) that was about 7.5 then vs. today's
17.5. Also, adjusting the 1982 140
S&P for the CPI, it was really about 340 not 140. So, half the growth of the S&P since then
is explained by the expansion of the P/E multiple.
Here are some other interesting data point comparisons (these
are approximates -- not exact averages for the years cited):
1982 2013
3 month T Bill Rate 12.49% 0.11%
10 year T Note Rate 13.86% 1.88%
S&P Dividend Yield
4.93% 2.13%
S&P Earnings Yield 9.83% 7.18%
Classic asset allocation models dictate that if the
earnings yield is less than the yield on a 10 year Treasury Note, stocks
are overvalued and conversely, if the earnings yield is more than the 10 year T
Note, they are undervalued. By that
measure, stock markets should indeed continue to rise now, but they should have
been flatlining in 1982.
The reason the usual asset allocation rules may not apply
to either scenario is that both 1982 and 2012 represent extraordinary economic
times, almost the mirror images of one another, but with one thing in common: the
Federal Reserve is in the pilot's seat.
Remember during the Ford administration we were brandishing
"WIN" (Whip Inflation Now) buttons?
The oil embargo of 1973 had ratcheted up crude prices from 1972's $3.60 to
more than $30.00 by 1982. Consumer prices
followed and wage demands took off. Paul
Volker's Federal Reserve slammed the breaks on the economy raising interest
rates to unheard of levels.
Today, we have the flip side of the coin. The economy nearly collapsed five years ago into
a depression and the Fed became the purchaser of last resort of mortgage-backed
securities and is still buying 90% of new US Treasury securities, creating a scarcity of Treasury debt and ratcheting down rates to unheard of levels, this time to "Whip Deflation Now."
What does it all mean for investing? I can't imagine it means a "new bull
market," but who knows as we've never been in this situation before (and throw a calcified government into the mix). One thing I do know, in
extraordinary times markets can behave illogically -- unremittingly postponing
a normal reversion to the mean -- or as John
Maynard Keynes said, “the market can stay irrational longer than you can stay
solvent.”
