Two researchers from the U.S. Federal Reserve said that the demographics will push Wall Street to a long journey across the desert. Doug Short, meanwhile, stresses that the stock market correction that began in 2000 is still insignificant, when compared to the historical trend
The volatility of world stock markets in August brought to the debate the question of the prevailing mood among investors.
Analysts position themselves as rival cheerleading squads confronting in the stands. The scenarios are opposites: the optimistic ‘bulls’ visualize growth and excitement, as the pessimistic “bears” await further readjustment of valuations.
Between August 8th and 19th, world stock markets had five sessions in the red, wiping nearly 14% of capitalization as measured by the MSCI AC World Index. Analysts pointed two mini-crash events, on August 8th (down 5.08%) and August 18 (down 4.16%). However, five positive sessions minimized the collapse, which was little over 5%. This week, the recovery on Tuesday (almost 3%) left the “bulls” more confident. But on Thursday, a rumour on the possibility of a downgrade of Germany (losing the triple A) was enough to send European indices and Wall Street into the red.
Modest correction in an historical trend perspective
Doug Short, vice president for research of Advisor Perspectives, in an interview with Expresso, emphasizes the need to have a long-term perspective. He considers himself an “addicted” to the secular trend charts, since he became fascinated by the behaviour of the markets, 25 years ago.
Daily, on his blog dshort.com, Doug Short (former professor at the University of North Carolina, and former executive at IBM and GlaxoSmithKline, until his retirement in 2006), updates the evolution of the S&P 500. He questions whether the secular bear period, which began after the peak in 2000, stopped in March 2009 (after the violent financial crisis where the S&P has lost 59%), or whether it will extend itself.
Doug Short notes that from the standpoint of a long-term trend (since the year 1870 for the S&P composite), the correction that occurred between 2000 and March 2009 was only 9% below the historical trend (exponential regression trend line), which compares modestly to 54% below the historical trend of the bear period between 1968 and 1982. Which raises the uncomfortable question: or “this time is different”, or there will be a long road of market capitalization readjustment/devaluation.
Stocks still overvalued
Comparing the current scenario to the 2008 meltdown, Doug Short refers: “While I think it’s unlikely, it’s still quite possible. The same cards are on the table in 2011 as were on the table in 2008. But now more of them are face up – known risks. That knowledge will, I think, lessen the odds of retesting 2009 market lows – at least in 2011 near term. Over the longer-term, my sense of market valuations, focused on US markets, is that equities are still overvalued, despite the recent correction.” And he remains “very sceptical of responses to the crisis by the United States and Europe.”
And notes that: “Based on the latest data from S&P 500, the market is still overvalued between 38 and 53%, depending on the market valuation indicator used.”
This week, two researchers from the Federal Reserve Bank of San Francisco, Zheng Liu and Mark Spiegel released a paper Boomer Retirement: headwinds for U.S. Equity Markets? where it is suggested that this bear period will last at least another decade, which caused an angry reaction from a large number of financial analysts.
“Real stock prices follow a downward trend until 2021, cumulatively declining about 13% relative to 2010. The subsequent recovery is quite slow. Indeed, real stock prices are not expected to return to their 2010 level until 2027.” refer the authors. The reason is demographics: “Although many theoretical ambiguities, stock prices in the U.S. have been closely related to demographic trends over the past 50 years.” The two authors point out that, with the retirement in the next two decades of the “baby boomers”, the stock market will suffer.
The researchers from the Federal Reserve admit that some international factors can counteract this trend, if, for example, sovereign wealth funds and foreign investors (mostly Chinese, if the control of capital outflow from China is relieved) move from U.S. Treasuries to Wall Street equities.
Doug Short tells us that this demographic trend could make the current “bear” period, that started in 2000, longer than the one between 1929 and 1949 or between 1968 and 1982, but expects the recovery to take place before 2021.
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