There is a lot of discussion regarding the possibility that the stock market is in a bubble. We have been steadfast in saying that the market is behaving normal.
In two prior articles, we have outlined the long term cycles averaging 16-17 years. The first article “Dow 130,000” dated January 3, 2018, quotes Warren Buffett’s 1999 comment stating:
“I think it's very hard to come up with a persuasive case that equities will over the next 17 years perform anything like--anything like--they've performed in the past 17.”
The second article titled “The Nasdaq Will Surprise Everyone” dated September 6, 2020, we make the following observation:
“Looking at the Nasdaq Composite from 2000 to 2016, we see a period of 16 years which the index did not exceed the prior peak.”
The points made by Buffett in 1999 and in our 2020 article is not based on hopes, in fact, these claims are derived from the history of market data.
The data from 1802 to 1999, as cited in Richard Russell’s Dow Theory Letters dated January 31, 2001, makes it clear that markets are not acting especially unusual.
In addition to markets acting as they should, so too are the critics of the market’s rise. They are claiming that we are in a bubble that will result in a Great Depression. These critics are also claiming that the market rise is fueled by the Federal Reserve and other central banks.
Unfortunately, this claim of central bank intervention has little merit when viewed from the table of data above, in the period from 1836-1914, when there was no central bank in the United States. Our own work titled “Is the Fed Responsible for the Stock Market Rise Since 2009?” dated February 17, 2014 on the period from 1836-1914 highlights how much central banks had little to no impact on the direction of the stock market.
Recently there has been concern about the over-extended nature of tech stocks, since they have increases substantially in spite of the pandemic. To our mind, it is especially tech stocks that should benefit during the pandemic, since they now are in the best position to sell their software without the need for an actual brick-and-mortar outlet.
The increase in tech stocks has pushed the Nasdaq well above the year 2000 peak. However, as we’ve indicated in our September 6, 2020 article, a rangebound market like the Nasdaq from 2000-2016 should be expected to increase exceptionally.
One way to look at the outcome of rangebound market is to compare one of the top stocks in 2000 to a top stock in the similar stage in the previous cycle peak (1966). Below we have compared the price of IBM from 1967 to the S&P 500 to the performance of Microsoft from 2000 to 2021.
I967-1987: IBM v. S&P 500
Although we could not get the price data from the 1966 peak, the truncated view still represents the 21-year performance needed. Why did we choose IBM to compare to the S&P 500? Because the stock is noted as a “Go-Go” in the 1966-1973 period. This mean that IBM would get unwarranted investor attention in spite of being fundamentally overvalued. Worth pointing out is the fact that at the end of the 21-year (1966-1987) period was met with the stock market crash of 1987.
2000-2021: MSFT v. S&P 500
Microsoft (MSFT) has managed to replicate the “action” of the IBM example against the S&P 500 from 1967-1987. Microsoft didn’t achieve a breakeven in price until 2016 and did not accomplish parity with the S&P 500 until 2018. This is a significant period to go without exceeding the market, suggesting that a level of exceptional outperformance is expected. To top off the 21-year period, the crash in the market in 2020 matches the 1987 crash experienced by IBM after 20 to 21 years after peaking.
Thoughts
Eerily, the market returns for both periods under review are quite similar for both the stocks and the index. A good market analyst would say, “if you compare total return then the returns aren’t the same.” This is accurate. However, as with nominal rates, market participants respond to what they can readily see and not the factual changes seen relating to real rates and total returns.
When viewed from this perspective, it should be clear that what we are currently watching in the market is very much a repeat market cycles and does NOT YET reflect a bubble market.
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