"It' easy to see -- hard to foresee." ~ Benjamin Franklin
Now that we are "officially" in a Recession, what does that mean for stocks going forward?
Of course, no one really knows the answer to that question, and I certainly will not attempt to do so here. What some of you may not know, however, is that, once the "recession call" is made, stocks have historically been quite close to a significant march upward.
The reason for this is that economists look backward and investors look forward.
The stock market is often referred to as a "discount mechanism." Discounting, in reference to stocks, is essentially a means of pricing the value of stocks today based upon their expected value in the future, typically six to nine months in time -- a "crystal ball," if you will, reflecting forward expectations of economic health.
In other words, much like a barometer that measures the general business and consumer confidence of our economy, stock prices today reflect our nation's general economic health six months from now. For this reason, the stock market, as measured by the S&P 500, is a component of the economic Index of Leading Indicators.
"You cannot see the mountain near." ~ Ralph Waldo Emerson
Now for some perspective: From the high mark on October 9, 2007, to the recent low mark put in on November 20, 2008, the price movement of the S&P 500 is a 51.93% decline. Of course, we will not attempt to "call a bottom" or make any predictions here, but let's make a few observations with specific reference to data (and following table) taken from Fidelity's Market Analysis, Research & Education (MARE):
Here are the prime points, in reference to the table above, from the November 26, 2008, MARE article, "US Stocks Often Rebound During Recessions:"
The average U.S. economic recession -- defined as a period of significant decline in economic activity -- has lasted about 11 months.
Investors historically have begun anticipating a recovery in the economy and in corporate earnings prior to the end of a recession.
On average, the stock market has begun to recover about halfway through a recession, with the typical rebound being about 25% in magnitude (from market low point to end of recession).
Bear markets that have occurred during past recessions also have tended to end during those recessions (73% of the time, 8 out of 11 instances).
"Faced with the choice between changing one's mind and proving there is no need to do so, almost everyone gets busy on the proof." ~ John Kenneth Galbraithe
While it is true, as Keynes said, that "the market can remain irrational longer than you can remain solvent," it is also true that irrational investors eventually grow tired from their exhaustive behavior; the excesses of the market are diminished or removed; and the pendulum finally begins to swing in the opposite direction -- the direction of the rational investor...
Rationality & Prediction: One Year Later
Extending upon the recent discussion here on rationality, let's revisit one year ago today, October 6, 2008. The stock market was in free fall, declining nearly 10 percent in just five days, and the herd reaction was panic. As I think back to my own emotional state, I believe mine was also panic... but not for the same reason as the herd!
My panic was that others were panicking! My attempt to remain rational and orderly amidst irrationality and chaos may just have been, well, irrational! This hindsight observation begs the question, "When is it best to follow the herd and when is it not?" This may be the most common question on the minds of almost every investor, trader or asset manager when making investment decisions or giving recommendations, especially during extreme volatility.
If you are interested, feel free to read my blog post from exactly one year ago, Reasons Not to Sell Stocks Now. If you don't care to read it, here's the synopsis: As the herd was running for the exits, I was hyper-intentionally resolved to maintain my cool-headed contrarian stance. I can now admit that, in frustration, disgust and a bit of haste, I made the one and only "prediction" on this blog, which was that stock prices, as measured by the S&P 500 would close higher one year later and would even outpace the average money market fund!
What are the results of this prognostication? The S&P 500 closed one year ago, October 6, 2008, at 1056; yesterday (technically one-year later) it closed at 1040; and today, October 6, 2009, the S&P peaked intra-day at 1061 and finally settled at 1055, just a one point below its year-ago mark!
Of course, at the time, I didn't imagine how bold this prediction would appear, especially as the S&P 500 fell another 40 percent lower by March 9, 2009!
"There are no facts, only interpretations." ~ Friedrich Nietzsche
Those of you who have read this blog for long, know that I do not believe in making (or acting upon) predictions.
Without getting deep into a semantic analysis, one may argue that any action taken based upon an expected future result is a form of prediction. While this may be true, I should qualify my previous statement against prediction by saying that, in general, I believe it to be foolish to forecast an outcome that may be significantly influenced by the whims of human emotion.
On a lighter note, I can't help but think of some advice someone gave me with regard to emotions and personal relationships: "Would you rather be right or happy?"
This advice seems to work well with investing and financial markets, wouldn't you agree?
|
|