Stocks: The Next Decade

[EvrClrx311]

Posted this research to another board I frequent and thought some here might get some use out of it since stocks/equities are a part of everyone's investments on some level (at least I would hope)...


So I found the following link which displays the yearly dividend adjusted S&P500 returns for the last 140 years.:
CAGR of the Stock Market: Annualized Returns of the S&P 500

The link at the bottom shows where the data came from: http://www.econ.yale.edu/~shiller/data.htm

Maybe someone can chime in on the reliability of this data... I know some here like Zee do similar studies and I've often wondered where they get their data.

So anyways, I was bored today and threw together a program to play around with these numbers. I also added to them the inflation index that runs back to 1914.

My first idea was to look at the best/worst rolling returns from all 1 to 30 year periods. Not many surprises there:
5-Year:
Best was 1924-1928 CAGR 29.3%
Worst was 1928-1932 CAGR -11.5%

10-Year:
Best was 1949-1958 CAGR 20.1%
Worst was 1999-2008 CAGR -1.5

20-Year:
Best was 1980-1999 CAGR 18.0%
Worst was 1929-1948 CAGR 3.1%

Others:
No 15 year period in history had a negative return (the 14 years following 1929 were just barely under 0%)

Then I tried the same thing with the Inflation Adjusted data (1914-2011):
5-Year Inflation Adj:
Best was 1924-1928 CAGR 29.1%
Worst was 1916-1920 CAGR -13.8%

10-Year Inflation Adj:
Best was 1949-1958 CAGR 18.1%
Worst was 1999-2008 CAGR -4.4

20-Year Inflation Adj:
Best was 1980-1999 CAGR 13.6%
Worst was 1962-1981 CAGR 0.8%

Others:
No 18 year period had a negative return (the 17 years following 1965 were just barely under 0% after adjusting for inflation)


Clearly the last decade has been on the low side as far as returns. So next I decided to look up if any other periods in history were as bad or worse than our last decade and if so how did the decade that followed do:

First, ignoring inflation (1871-2011)...
Our last 10-years (2002-20011) had a CAGR of 1.4%. My program only found 4 (out of 130) rolling 10 year periods that did as bad or worse then that (1929,1930,1931,1966) prior to 2000. The next 10 years following those 4 points had an average CAGR of 10.1%... obviously with a lot of overlap from the 1931-1938 time frame

expanding this a little to get more data points I just looked for rolling 10 year periods at 4% or worse and got a lot more hits (years ending in: 1891, 1894, 1896, 1897, 1898, 1915, 1921, 1933, 1938, 1939, 1940, 1941, 1975, 1976, 1978, 1979)

The 10 years following all of those periods averaged a CAGR of 11.6%

I also ran the same test accounting for inflation but since this is getting a little long I'll leave out the boring data. It found 7 rolling 10 year periods that did as bad as the inflation adjusted one we just ended. Those other 7 all had a 10.1% CAGR (after inflation) in the next 10 years.

Conclusions:
There are a lot of reasons to think that the next 10 years are going to be gloomy... with all that is going on in this country right now. However, historically speaking... the next 10 years 'should' average a 9-13% CAGR above inflation (12-17% actual return) if history really repeats itself... History also shows that the longer this near 0% market return continues (currently we're at about 12 years) the larger the pop on the other side will be. I'm guessing the late teens and early 20's are going to have some very bullish years similar to what we saw in the mid 90s.

I'll look closer at the 5, 7, 15, 20 periods that look similar to the one we're currently in and see if they tell the same kind of story.

-Eric

 

[Gatordoc50]

If stock returns are random then the future returns are unknown. I wouldn't bet on stocks going forward. Im not selling but I'm not buying stocks until the S and P drops below 1250ish. Without QE 3, I believe we will go below that before the end of summer.

 

[frayne]

My crystal ball says in the future the S&P will go up and down, over and over again.

 

[GrayHare]

Eric - interesting analysis, thanks for sharing your findings.

 

[urn2bfree]

Very interesting and agrees with my sense that the demographic trends of the economic boom likely to come from serving the usual needs of the Echo Boom generation should mean nice returns and growth until their kids start to graduate college.

 

[Animorph]

That should be the standard Shiller data that nearly everyone seems to use. Should be very reliable since it is widely used and has been around many years now.

 

[Midpack]

Nice post, thanks for the link to data, I'll be using that for my own projections.

 

[ChiliPepr]

If stock returns are random then the future returns are unknown. I wouldn't bet on stocks going forward. Im not selling but I'm not buying stocks until the S and P drops below 1250ish. Without QE 3, I believe we will go below that before the end of summer.

I tend to agree with a bit, stock returns are random, but with an upward bias.

If stock returns were totally random, firecalc would be be fairly useless. (and completely useless if we though bond returns were random also)

 

[brewer12345]

If stock returns are random then the future returns are unknown. I wouldn't bet on stocks going forward. Im not selling but I'm not buying stocks until the S and P drops below 1250ish. Without QE 3, I believe we will go below that before the end of summer.

Of course returns are unknown. But are they mean reverting? OP implied as much.

 

[EvrClrx311]

Here was a very good response to this data that runs contrary to the conclusions I drew from my original post. Good to have an alternate view... he is a very intelligent poster and one who I'll admit knows a lot more than me about this stuff...

Having looked at the same sort of data a lot, one thought:
It's probably not the recent performance that determines the central
estimate for the next decade, but the initial valuation level.

If something gets up to 50% overvalued, it's reasonably to expect a 33%
drop before getting the average return again. A drop of 50% in valuation
level (from 1.5x to .75x normal) would mean that expecting outperformance is sensible.
This explains why the data suggest that a really bad decade is
followed on average by a really good decade: most of the time
valuations stay within a somewhat sane range.

But if something gets up to 2.5 times fair value, ("party like it's 1999")
it's reasonable to expect a drop of 60% before even the long run average
return should be expected, and it would have to drop even further
before an above-average return should be expected.
The 2.5 figure is chosen for illustrative purposes, but it's probably not that far off.

We have had a pretty dismal 12 years, it's true.
But the value proposition hasn't improved enough to work off all the
millenial exuberance if past valuation is any guide at all to the future.
Real E10 (CAPE) has risen 41% in 12 years: lots.
Real prices have dropped 31%: lots.
So, the real P/E10 valuation has dropped 51%, which is great progress:
the broad US market is half as fully valued as it was in spring 2000.
But...the real P/E10 is still 52% above its very long run average,
and 40% above its average multiple in the "modern era" since 1940.
Real P/E10 isn't a perfect metric, but it's not nearly bad enough to be wrong about that conclusion.

My own view:
The best central expectation for the next decade is probably not
what's typical following a decade as bad as what we've just seen, but
rather what's typical starting at a valuation level near today's level.
P/E10 is about 21.1x, or a "real E10 earnings yield" of 4.7%.
[The very long run average is 13.9x and the average since 1940 is 15.1x].
The average ten year forward real total return since 1940 starting from
dates with real E10 earnings yield between 4.2% and 5.2% (half a
percentage point either way from today) has been 2.9%/year.
This is probably a recipe for another pretty dismal decade.
That number is certainly wrong, but just as certainly not ENTIRELY wrong.

Look on the bright side.
Values are 7% better than they were a couple of months ago!

Jim

 

[ejman]

Here was a very good response to this data that runs contrary to the conclusions I drew from my original post. Good to have an alternate view... he is a very intelligent poster and one who I'll admit knows a lot more than me about this stuff...

That response really makes sense. Look at Japan's case. The stock market there hit an all time high in 1989 and despite many times where it looked that a rebound was about to happen, today 23 years after it's still at less than a third of that level reflecting the fact that valuations were so out of kilter in 1989. I think that as another poster mentioned it looks like we'll collectively mostly have those Firecalc lines that bounce along the bottom of the chart for the foreseeable future. Oh well...

 

[brewer12345]

Here was a very good response to this data that runs contrary to the conclusions I drew from my original post. Good to have an alternate view... he is a very intelligent poster and one who I'll admit knows a lot more than me about this stuff...

Sounds like h0cu5...

 

[packrat44]

The only thing for certain is uncertainty.

 

[Nords]

That should be the standard Shiller data that nearly everyone seems to use. Should be very reliable since it is widely used and has been around many years now.

Why do we assume that the S&P500 of 140 years ago has any bearing on the S&P500 of 100 years ago, let alone the S&P500 of last year?

As an analogy, the Consumer Price Index of 1914 was based on a basket of goods which included whalebone corsets. And IIRC, even in the 1990s the S&P500 had a pretty significant turnover from the beginning of the decade to the end.

I agree the analysis is good technique and properly applied. The only problem is that you're working with crap.

 

[ejman]

Why do we assume that the S&P500 of 140 years ago has any bearing on the S&P500 of 100 years ago, let alone the S&P500 of last year?

As an analogy, the Consumer Price Index of 1914 was based on a basket of goods which included whalebone corsets. And IIRC, even in the 1990s the S&P500 had a pretty significant turnover from the beginning of the decade to the end.

I agree the analysis is good technique and properly applied. The only problem is that you're working with crap.

It's certainly a good point that the stock market market from 100 years ago bears little resemblance to today's. Ditto for the basket of goods from 1914 as opposed to today's basket of goods. I take it then that historical data should not be used? What do you propose to use instead?

 

[sheldon cornped]

Never make predictions, especially about the future.........Casey Stengal

 

[Zero]

Count me in on the questioning of historical data.

Things were different. They will likely be different in the future.

I'm trying to recall what happened to make the 1990s so good. Ignorance??

Can we expect that same level of ignorance in the 2000 teens?

 

[haha]

Sounds like h0cu5...

Only thing wrong with ***** is that he is socially strange. His market ideas IMO make more sense than standard brand personal finance with its idea that markets are some kind of machines that magically churn out "returns".

Ha

 

[urn2bfree]

Count me in on the questioning of historical data.

Things were different. They will likely be different in the future.

I'm trying to recall what happened to make the 1990s so good. Ignorance??

Can we expect that same level of ignorance in the 2000 teens?

What made the 1990's good is that a large proportion of the population, known as the Baby Boomers spent. A lot of dough on kids, cars, houses,etc. Economies hum on demand and those boomers were very demanding because they were in the phase of life when they needed and wanted a lot of stuff.

In the next ten years the effect of the Echo boomers will be exerted. It won't be as strong because proportionately they are a smaller,part of the economy, BUT The new global economy ,ay allow the demanding parts of emerging markets to drive that hum of demand. That is my theory anyway.

 

[Nords]

What do you propose to use instead?

Diversification and variable withdrawals?

I don't have a solution, and I don't want this thread to be confused with a solution either.

But it'll be a lot of fun to come back here in 10 years to read about it.

 

[foxfirev5]

When a major financial publication announces the death of equities in a cover story I'll immediately increase my exposure to stocks

 

[Redbugdave]

Thank you for posting your data. It is comforting to see something positive now and again. Now the hard part is figuring what solid sectors/companies will be booming in the future to make it all happen. FaceBook and their like may not be around by then, either.

 

[M Paquette]

When a major financial publication announces the death of equities in a cover story I'll immediately increase my exposure to stocks

See "The Economist" this week? They come pretty close, declaring public companies a vanishing breed.

 

[EvrClrx311]

Why do we assume that the S&P500 of 140 years ago has any bearing on the S&P500 of 100 years ago, let alone the S&P500 of last year

It's certainly a good point that the stock market market from 100 years ago bears little resemblance to today's.

Never make predictions, especially about the future.........Casey Stengal

Things were different. They will likely be different in the future.

It is a fun game to try and predict the future based on the past... and often people are wrong, very wrong, when getting too specific. On that note, my prediction of how the next 10-20 years will go is speculation... and should be treated as such.

However, I'd like to add that time and time again in history people have said "this time its different" only to see the same kinds of patterns repeat themselves under completely different economies, markets, generations.

This is more about probabilities than certainties... the odds of a significant bull market (50% growth over 3-4 years) popping up within the next 20 years is statistically large. The likelihood of it beginning within the following 12 months grows the more people start to believe "its really different this time... it isn't coming back"

The one certainty is that the vast majority of people will have that very mindset at the bottom, just when it is the absolute best time to invest.

As foxfirev8 alluded to... often it is best to just do the opposite of what everyone else is. Buy when everyone is selling... sell when everyone is buying. Makes perfect sense looking at history... but is one of the most difficult things to do in real time.

So that's why we keep staring at the numbers... trying to make sense of them.

 

[almost there]

"Stocks: The Next Decade"

Easy, just follow the chart from the past 6 decades......

Posted this research to another board I frequent and thought some here might get some use out of it since stocks/equities are a part of everyone's investments on some level (at least I would hope)...


So I found the following link which displays the yearly dividend adjusted S&P500 returns for the last 140 years.:
CAGR of the Stock Market: Annualized Returns of the S&P 500

The link at the bottom shows where the data came from: http://www.econ.yale.edu/~shiller/data.htm

Maybe someone can chime in on the reliability of this data... I know some here like Zee do similar studies and I've often wondered where they get their data.

So anyways, I was bored today and threw together a program to play around with these numbers. I also added to them the inflation index that runs back to 1914.

My first idea was to look at the best/worst rolling returns from all 1 to 30 year periods. Not many surprises there:
5-Year:
Best was 1924-1928 CAGR 29.3%
Worst was 1928-1932 CAGR -11.5%

10-Year:
Best was 1949-1958 CAGR 20.1%
Worst was 1999-2008 CAGR -1.5

20-Year:
Best was 1980-1999 CAGR 18.0%
Worst was 1929-1948 CAGR 3.1%

Others:
No 15 year period in history had a negative return (the 14 years following 1929 were just barely under 0%)

Then I tried the same thing with the Inflation Adjusted data (1914-2011):
5-Year Inflation Adj:
Best was 1924-1928 CAGR 29.1%
Worst was 1916-1920 CAGR -13.8%

10-Year Inflation Adj:
Best was 1949-1958 CAGR 18.1%
Worst was 1999-2008 CAGR -4.4

20-Year Inflation Adj:
Best was 1980-1999 CAGR 13.6%
Worst was 1962-1981 CAGR 0.8%

Others:
No 18 year period had a negative return (the 17 years following 1965 were just barely under 0% after adjusting for inflation)


Clearly the last decade has been on the low side as far as returns. So next I decided to look up if any other periods in history were as bad or worse than our last decade and if so how did the decade that followed do:

First, ignoring inflation (1871-2011)...
Our last 10-years (2002-20011) had a CAGR of 1.4%. My program only found 4 (out of 130) rolling 10 year periods that did as bad or worse then that (1929,1930,1931,1966) prior to 2000. The next 10 years following those 4 points had an average CAGR of 10.1%... obviously with a lot of overlap from the 1931-1938 time frame

expanding this a little to get more data points I just looked for rolling 10 year periods at 4% or worse and got a lot more hits (years ending in: 1891, 1894, 1896, 1897, 1898, 1915, 1921, 1933, 1938, 1939, 1940, 1941, 1975, 1976, 1978, 1979)

The 10 years following all of those periods averaged a CAGR of 11.6%

I also ran the same test accounting for inflation but since this is getting a little long I'll leave out the boring data. It found 7 rolling 10 year periods that did as bad as the inflation adjusted one we just ended. Those other 7 all had a 10.1% CAGR (after inflation) in the next 10 years.

Conclusions:
There are a lot of reasons to think that the next 10 years are going to be gloomy... with all that is going on in this country right now. However, historically speaking... the next 10 years 'should' average a 9-13% CAGR above inflation (12-17% actual return) if history really repeats itself... History also shows that the longer this near 0% market return continues (currently we're at about 12 years) the larger the pop on the other side will be. I'm guessing the late teens and early 20's are going to have some very bullish years similar to what we saw in the mid 90s.

I'll look closer at the 5, 7, 15, 20 periods that look similar to the one we're currently in and see if they tell the same kind of story.

-Eric