In its 1969 song "Spinning Wheel," the rock group Blood, Sweat & Tears immortalized the phrase "what goes up, must come down."
I cite this bit of music trivia in an investment story for two reasons: First, the name of the band fairly well describes the conditions attached to the stock market's historically sad performance over the just-completed decade. Specifically, a lot of blood, sweat and tears – thankfully followed by a tiny bit of healing in the final eight months of 2009.
Second, for those more attuned to mathematical theory than music, the market results for the 10 years from 2000 to 2009 provide the basis for a prediction for the coming decade – one essentially the inverse of the band's famous phrase. To be more precise, "what went down, must now come up."
That forecast is based on a fairly simple principle: Things that move in wave patterns – such as the stock market – have an overwhelming tendency to "revert to the mean." In other words, when stocks perform well above their long-term historical norm (known as the "arithmetic mean") for an extended stretch, they usually have to underperform for an extended period to get back in line with that long-term mean.
Conversely, when stock-market performance is well below the norm for a long stretch, it theoretically should enjoy an extended run well above the historical mean in order to bring the market's performance back in line with the long-term norm.
And the decade we've just completed was definitely far below that norm.
The prediction is also based on historical precedent, as demonstrated by past per-decade performances of the major stock market indexes.
Rags to Riches …
Take the Standard & Poor's 500 Index ($SPX). In its two worst calendar decades of the 20th century – the 1930s and the 1970s – the broad-based market index posted respective price changes of -5.26% and +1.60% per year. Total annual returns for those decades averaged just +0.97% and +5.88%, respectively.
Those are pretty poor wages for 10 years of toil in Wall Street's concrete canyons. In each instance, however, investors who kept their faith in the markets reaped substantial rewards.
Though the S&P 500 didn't set the world on fire in the 1940s, it did post an annual average gain of 2.98% in price and provide an average annual total return of 8.73%.
Investors who continued to hold through the 1950s enjoyed major success, with the S&P index generating an annual average increase of 13.58%, and an average annual return of 19.21% – well above the index's long-term average of around 9.1%.
Even more impressive, the bleak results in the stagflation-tinged 1970s led to average annual price gains of 12.59% in the 1980s – in spite of sharp short-term setbacks in 1987 and 1989. That was good enough for average annual total return of 17.55%. And those gains were nicely compounded in the 1990s, when the S&P rose an average of 15.31% per year, producing an average annual total return of 18.21%.
… And Back to Rags
Now we sit at the start of the 20-teens decade, looking back on the S&P's second-worst-price performance ever. It was down an average of 2.72% per year and recorded the only decade-long negative total return in history of the index (performing at minus 0.95% per year). And that's despite a 2009 gain of 23.5%, the best one-year performance since 2003.
So what can we expect now?
Admittedly, direct comparisons are difficult to make because the market systems are so much more complex now than in the '40s and '50s. And the government, led by the U.S. Federal Reserve, has taken a much more direct role in stimulating the markets than it did in the past.
Still, Standard & Poor's (NYSE: MHP) notes that the S&P 500 has never suffered losses in back-to-back calendar decades, so it seems unlikely it will do so this time around given the long-term growth record of stocks.
Letting History Be Our Guide
How does that project forward in numerical terms? Most analysts have been predicting average annual gains of 6.0% to 8.0% for the 2010 decade.
But, just for fun, let's be a bit more optimistic.
If we merely assume the market this time around will match the performance of the post-Depression decades, we can expect an average annual price advance of 8.48% and an average total return of 14.81% over the next 20 years.
That would put the S&P 500, which closed at 1,115.10 on Dec. 31, at 2,516.58 on Dec. 31, 2019 – and somewhere in the neighborhood of 5,679.46 on Dec. 31, 2029. With respect to total return, if you invested $1,000 in an S&P 500 index fund at the 2009 closing price of 1,115.10 (I know, it's too late for that now, but…), your money would grow to about $3,980 at the end of 10 years, and $15,834 at the start of 2030.
Ratchet up the performance numbers to the levels achieved in the two decades following the sullen '70s, and the average annual price gain would be 14.91%, while the average annual total return would be 19.47%. That would put the S&P 500 at 4,476 at the start of 2020, and at 17,966 by Jan. 1, 2030. Over the same time frame, that $1,000 you invested would turn into $5,923 after 10 years and $35,089 after 20.
Of course, as you well know, neither those return rates nor the projected investment gains come with any guarantees. In fact, though "reversion to the mean" is a tried-and-true principle, no one can be sure about the time frame over which it might occur – or if it will even occur at all.
Japan's experience is a real-life example. The term "Lost Decade" that's used to describe the collapse of the Japanese miracle is something of a misnomer: Japan's stock market has failed to recover even 40% of the losses suffered in the stock-and-real-estate collapses of early 1990, launching an economic and financial malaise that's lasted fully two decades, and that isn't over yet.
There's also a significant risk that, even if U.S. stocks do achieve the long-run "average" market results that we've detailed above over the course of the next couple of decades, there's still a reason to be cautious. Why? The Dow Jones Industrial Average posted a modest overall gain for the entire decade of the 1930s. But it eked out that gain with the wildest of rides: It capped off 1929's "Great Crash" plunge by stringing together consecutive annual losses of 33.8%, 52.7% and 22.6% in 1930-32 – before rebounding to post a 63.7% gain in 1933, which put it into positive territory for the 1930s.
To put that in perspective, consider this: The all-time-record high (for that time) that the Dow achieved in September 1929 wasn't eclipsed again until 1954.
A New Norm?
A number of well-known bears also discount both the historical precedent and the math theory, noting that the causes of the 2000-2009 disappointments were different from past downturns.
Tony Crescenzi, strategist and portfolio manager at PIMCO Mutual Funds, told USA Today that both profitability and risk-taking will be pressured this decade by "long-term negative influences caused by the bursting of the credit bubble."
Warns Crescnzi: "The days of growing the economy and profits with the help of cheap, borrowed money are over."
Axel Merk, president and chief investment officer of Merk Mutual Funds, agrees, predicting that the unprecedented government intervention undertaken to help jump-start the economy will eventually spell trouble for the financial markets.
"We created a launching pad into an era of instability," Merk said.
Investment newsletter monitor Mark Hulbert adds that many individual investors may also have doubts about the prospects for the coming decade, based on the fact that there has been a net cash outflow from equity and exchange-traded mutual funds for five straight months – something that hasn't happened since 1974. Hulbert says this withdrawal of funds during a rally contradicts market tradition since fund investors usually don't begin pulling money out of the market until after it has already started to decline.
While Money Morning Chief Investment Strategist Keith Fitz-Gerald agrees with Merk Mutual Funds' Merk that government intervention in the financial markets was a bad idea and that the 2009 rally was sustained by artificial interest-rate manipulation on the part of the Fed, he remains optimistic about stocks.
According to Fitz-Gerald, the strongest argument in favor of the weaknesses of the "aught decade" leading to a prolonged period of strong returns in the years ahead is that the losses of 2007-2009 bear move more than erased the market's earlier excesses, creating highly favorable price-to-value readings for many stocks. That value persists in spite of the late-2009 rebound – and should actually even increase as the recession wanes and worldwide business, economic and market fundamentals continue to improve, he contends.
"The calendar really has very little to do with it," Fitz-Gerald notes. "It's the global economic recovery, led by the strong advances in China and the rest of Asia, that should ultimately keep the financial markets in an upward cycle over much of the coming decade."
News and Related Story Links:
Stocks Will Revert to the Mean
- Standard & Poor's:
Official Web Site
The Great Crash of 1929
Will stocks' 'Lost Decade' usher in another bull market?
Silver Lining in a Dark Cloud
Official Web Site
- Merk Mutual Funds:
Official Web Site
Golden slope of hope; Commentary: Some gold timers are eager to declare correction is over