Tuesday, February 7, 2017

Stock Market: All-Time Highs - Get Used To It

(Drivebycuriosity) - The US stock markets climbed to new records again. I think that all-time highs are normal and part of the nature of stock markets. In the long run stock prices HAVE to go up - there is no limit.

Since its inauguration in the year 1896 the Dow Jones, a gauge for the US stock market, has been rising annually at least 7% on average - in spite of all the recessions and crashes that investors have suffered in this period. Considering the interest compound effect an annual 7% gain means that stock prices double every 10 years or so (calculator).

In the long run stock prices are just reflecting the rise of the global wealth that has started in Europe & US during the industrial revolution in the late 18th and early 19th century. In the recent decades Asia & Latin America joined the party. Stock prices are rising faster than GDPs (incomes of nations) because they areglued to the company profits. Company earnings are climbing faster than the GDPs because corporation are gaining efficiency - thanks to learning processes and technological progress - and are getting more productive over time. 

In the recent days the stock markets have been getting a lot headwinds from the earnings season. The majority of the SP 500 countries who have reported so far disclosed more earnings than the analysts had expected (bloomberg). So the profit growth is fueling the rally. The skeptics underestimate how good leading companies are at squeezing out climbing profits even in a sluggish economy. They are learning organisms because they are managed by humans who are getting better and better over time by continuously improving themselves and their companies. This is part of the evolution process described by Charles Darwin. As a result, companies also are getting leaner and more efficient over the time - the survival of the fittest (the term was coined by Herbert Spencer wikipedia).

I don´t fear that the Fed will spoil the expected stock market gains, even if Yellen & Co. will hike their interest rates three times as they had already projected. History shows that stock prices & interest rates can happily rise together: The Bank of America Merrill Lynch (finance) notices that “the 1950s was a period of higher stock prices and higher US interest rates. The US 10-year yield bottomed near 1.5% in late 1945 and the S&P 500 remained firmly within its secular bull market until yields moved to 5-6% in the mid 1960s. The S&P 500 rallied 460% over this period.”
Yes, there will be new corrections, crashes and sometimes recessions. But all those events are temporary and are followed by new highs as history shows (driveby). In October 1993 for instance, the Dow Jones stood at 3,600 points, and it past recently the 20,000 mark - even with two sharp recessions since then.

I claim that we are in a secular bull market that could be comparable to the stock market rally from 1982 till 2000 when the Dow Jones jumped from just 800 points to around 10,000 points. My claim is mainly based on three arguments:

1. Company profits will continue their solid growth. During the recessions of the years 2001/02 and in 2008 companies restructured and reduced costs significantly in order to survive. Now they are much fitter and more efficient than before. I believe that this learning process will continue and will translate into a long term trend of rising company profits.

2. We are experiencing a new industrial revolution.  Advances in Internet, mobile computing, 3-d-printing, robotics, nano- & biotechnology and other technologies are reducing costs, raising efficiency and creating new markets.

3. We also are having solid tailwinds from the emerging markets which are even getting stronger. The catching-up process in China, India, Indonesia and a lot of other countries translates into high growth in large parts of the global economy that creates continuously rising revenues & profits for global companies like Starbucks, IBM, Caterpillar, Apple and other members of the S&P 500 (world).


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