Market Musings - February 16, 2018
We continue our blog series: Market Musings, Volume 2, Edition 10, giving our (hopefully not too random) thoughts on recent goings-on in the markets. Today, we present "Echoes of Bull Markets Past".
"It was an era of peace and prosperity. A pro-business, pro-tariff (one might label him "America first") Republican President was in charge in Washington, DC. The last economic downturn, which had been extremely painful but fortunately fairly brief, was over eight years in the rearview mirror, basically forgotten. It was indeed a new era for America and its economy, with low unemployment, high economic growth, a massive bull market and exciting new technologies titillating the public."
On the surface, it might appear that we talking about how the current era will be remembered years hence. After all, the 2008-09 financial crisis is long gone and faintly remembered today. Other than a blip in 2011 when the U.S. lost its "AAA" credit rating, the stock market has been in an almost continuous uptrend since March 2009. Market darlings Amazon (AMZN), Facebook (FB), Netflix (NFLX) and Tesla (TSLA), as well as A.I., virtual reality, self-driving cars, etc., have seemingly heralded a new era of amazing technologies which promise to revolutionize people's lives. Happy days are indeed here again.
In fact, though, what we have described in the quotation above was the state of affairs in America as of early 1929. Republican President Hoover had been elected at the end of 1928, replacing laissez-faire Republican Calvin Coolidge. Hoover, a former businessman and ex-Commerce Secretary, generally favored tariffs to protect American industry from deleterious competition. Below is a Hoover campaign brochure linking his policies with prosperity:
In early 1929 the economy was roaring along in a sustained upturn since the business depression of 1920-21. GDP increased over 40% during the period from 1922-1929, representing a strong ~5% CAGR (source). The stock market was likewise roaring. Below is a chart of the Dow's relentless progress from the trough represented by the 1920-21 depression to March 1929, showing a virtually uninterrupted climb from around 70 in mid-1921 to over 300, an aggregate rise of 325% (not dissimilar to our recent bull market, where we have seen the S&P 500 increase from 666 in March 2009 to 2,745 today, a total rise of 312%) (source):
As for technology, it truly seemed as if nirvana had arrived for Americans, promising unlimited future prosperity. Automobiles, radio and motion pictures had been invented and were taking the country by storm. Not to mention airplanes, refrigerators and washing machines, as well as (ho hum) mass electrification of large cities. In 1920, just 35 percent of American households had electricity; by 1929, nearly 68 percent of American homes were electrified. Unemployment was to bottom out in December 1929 at just 3.2% (source). To Americans alive at the end of Roaring Twenties, the future looked intensely bright.
Yet in early 1929 the first cracks appeared, presaging the massive market and economic downturn that was to hit beginning in late 1929 and continuing into the early 1930s. The market started 1929 strongly, up over 6% in January (sound familiar?). However, in early February stocks began to sell off sharply following the Federal Reserve's tightening of credit (sound familiar?). Below is an excerpt from an AP story that appeared on February 8th (source):
A week later, on February 15, 1929, another steep market selloff occurred, which was also attributed to Fed tightening (source):
The following day traders continued to liquidate their holdings and market news reports spoke of "sharp confusion of opinion on Wall Street" and "Favorites [Being] Dumped" (for example, shares of Radio Corporation of America, or RCA, which might be labelled the Tesla or Netflix of its era, was specifically mentioned) (source):
At the time these market stumbles seemed temporary and a general "buy the dip" mentality held firm. And why not? This philosophy had always worked during the previous eight-year bull market. Indeed, despite its February gyrations the Dow would rocket much higher during the summer of 1929, eventually reaching a maximum of 381 in early September. We all know what happened next (spoiler alert: it's very bad).
It is interesting to look a bit more closely at RCA, since its fate could hold clues as to how things may play out for the likes of FB, AMZN, NFLX and TSLA. Below is a synopsis of RCA's run up to the great market crash of October 1929, written back in the 1990s when Microsoft (MSFT) was dominant in personal computing (source):
Dominant leading-edge "monopoly" tech player--check. No serious competition in sight--check. Skyrocketing stock price--check. No dividends paid, ever--check. Millionaire longs swooning at the mere sight of the ticker symbol--check. No doubt any idiot who tried to tell a holder of RCA in 1928 or 1929 that it could be fool's gold would have been met with a quick "You just don't get it" and/or "This time it's different" retort.
So...let's see how RCA stock fared after the massive run to $114/share ($570/share pre-split) from 1924 to September 1929 (source):
So we know how this particular story ends--not well for RCA longs, who saw their investment crash 95% during the 2+ years from late 1929 until early 1932 (RCA shares closed at just $5.63 on January 2, 1932--source). [Note that the Depression did not spell the permanent demise for RCA or its vanguard technology; the company eventually became the National Broadcasting Company, more familiarly known as NBC, and is now part of the conglomerate Comcast (CMCSA)].
Now it's highly unlikely that we are on the precipice of another Great Depression. However, history will inevitably rhyme with the past. Importantly, just as with the conditions prevailing in early 1929, today's economy seems to be firing on all cylinders--thus, what 1929 proves is that the future is never clear. While economic conditions might not (and hopefully won't) become as bad as 1929-1932, the economy will inevitably slow (and perhaps even go into reverse for a time), simply because the economy always operates in cycles. And when it does the high flyers of today's market will be remorselessly cut to shreds by investors.
One last thought on FB, NFLX, AMZN and TSLA. Before turning out the lights, would somebody please fill this gentleman in on the ending too (hint: this time it's NOT different)? Thanks.
DISCLOSURE: Short TSLA and NFLX.