Letter to Our Clients - January 2011
Dear Clients and Friends:
As I write this, the stock market is showing clear signs of strength, and “investors,” whoever they might be, are gaining confidence in world stock markets. One reason for this confidence may be the optimistic projections of many financial “experts.”
I agree that there are many reasons why the stock market could continue upward, perhaps reach new record highs.; Two obvious reasons are that world economies seem to be improving and there are still enormous amounts of money in bonds or cash which can be put to work in the stock market.
As we know, the market does not behave logically. It might go up from here, yet it might drop 10%, 20% or more from here – with or without what appear to be good reasons. Keep in mind that this bull market is old, both from a timing standpoint (almost 2 years) and from a percentage gain standpoint (up approximately 100% from the market lows of March, 2009).
At this time I want to talk about the difference between “cyclical” bull and bear markets, and “secular” bull and bear markets.
A “cyclical” bull or bear market is generally considered one of a few years duration. Think of 2000 to 2003, and 2007 to 2009, as “cyclical” bear markets, and 2003 to 2007, and 2009 to the present, as “cyclical” bull markets.
The term “secular” in this context has nothing to do with religion. It comes from the use of the word “secular” as referring to “an age,” or a very long-term. Sometimes the term “structural” is used instead of “secular,” but I am going to use only the word “secular.”
Here are the long-term, “secular” market cycles of the last 130 years (approximately):
1881 to 1896 – Bear Market lasting 15 years.
1896 to 1906 – Bull Market lasting 10 years.
1906 to 1921 – Bear Market lasting 15 years.
1921 to 1929 – Bull Market lasting 8 years.
1929 to 1949 – Bear Market lasting 20 years.
1949 to 1966 – Bull Market lasting 17 years.
1966 to 1982 – Bear Market lasting 16 years.
1982 to 2000 – Bull Market lasting 18 years.
2000 to ??? – Bear Market lasting ?? years.
Within any secular market there are usually many cyclical bull and bear markets. For example, the Dow Jones Industrial Average* hit 1000 for the first time in 1966, and touched that level several times again until, in the Fall of 1982, it was languishing about 770. At that time many leading experts were convinced the market would drop further in 1982 and were urging all-cash positions or even “shorting” the market.
From 1982 to 2000 there were many down cycles, most impressively the Black Monday of 1987 when the Dow Jones Industrial Average* dropped over 22% in one day!(Interestingly, it was a 508 point drop. Today that would be less than a 5% decline in the Dow.)
It is clear that since 2000 we have been in a “secular” bear market, as all of the major indexes are below the levels they reached in March, 2000. Since that time the Dow did set a new high in 2007, yet is now below both that high and its level of 2000. Of course, adjusted for inflation, all the major US markets are still significantly below their record highs. The NASDAQ Index (which consists of a large percentage of technology, internet and biotechnology companies) is still about 45% below the high it reached in 2000.
What causes stock markets to go from bull to bear back to bull? A simple answer is excessive optimism to excessive pessimism and back again. Historically a secular bull market does not begin until an entire generation of investors is convinced that stocks are too risky to be used as long-term investment vehicles. Have we reached that point yet? It does not seem like it, as “investor sentiment” (which I have discussed in previous letters) is quite optimistic at this time.
The shortest secular bear market over the last 130 years has lasted 15 years. However, past performance is an imperfect guide to the future. While we are in the 11th year of this bear market, we could be at the beginning of a new secular bull market. My sense is that we are not.
Nevertheless, I believe this remains an excellent time to be investing in the stock market – in the ratios that are appropriate for you and your family. The end of every secular bull market has had a higher valuation than the end of the previous bull market. Patience, prudence and discipline give you the opportunity to profit from your investment choices. In addition, I believe it is always “the right time” to invest on an on-going basis, such as 401k participants do, or as do individuals who use their portfolio dividends or interest to add to their stock market holdings, or for those who commit a certain amount of dollars on a consistent and periodic basis.
An investment strategy should be designed to allow you to grow in up markets with acceptable drop in value in down markets. This strategy should be changed only when your life circumstances have changed. These last few years have vividly illustrated that it is impossible to tell when the market has peaked, which many people think is the time to sell, or when the market is at a low, which would be an excellent time to buy.
As always, we ask that you contact us if you have any concerns about your financial plan or your investment strategy. We remain grateful for the opportunity to work with you.
Best wishes for 2011 and beyond.
Robert K. Haley, JD, CFP®, AIF®
* The Dow Jones Industrial Average is an unmanaged index composed of 30 stocks, and one cannot invest in it directly.