In a low volume week, the S&P500 lost almost half a percentage point. Volatility, already near record lows, dipped only slightly. An interesting pattern emerged last week where every session in the US stock market opened positively, and often very strongly, only to close the day either in the red or with most of the gains being given up. So did this pattern in the supposedly “efficient” equity markets have anything to do with fundamental information (as it should, if these markets were really efficient)? Not at all. Almost all of this daily yo-yo movement was the result of major currency movements….mostly the Japanese Yen and the Australian dollar. Go figure.
In the US economy, away from Wall Street, the data was mixed. Flash PMI was weaker than predicted. Durable goods orders beat expectations, but when the volatile transportation component is stripped out, durable goods orders missed badly. Fourth quarter 2013 GDP was revised to 2.6% growth, missing the expected 2.7% growth. But initial jobless claims were better than expected, as was the Kansas City Fed manufacturing index and personal income. The pending home sales index disappointed. The Richmond Fed manufacturing survey missed badly, and consumer sentiment also missed.
Technically, the uptrend in US stocks continues to hold. While last week’s loss was a setback, it was nothing other than a mild scratch. No serious damage was actually inflicted. On both the daily and weekly resolutions, stocks are comfortably above their respective 50 day moving averages their 200 day moving averages.
So the music is still playing at the stock market party. And most investment managers will keep dancing because they do not want to lose assets to other managers who stay at the party and continue to record quarterly gains, even if they’re not realized gains.
But one legendary investment manager, Jeremy Grantham of Grantham Mayo van Otterloo, recalls (in a recent interview) how back in 1999—near the height of the internet and tech bubbles—he refused to keep dancing at a party that he was convinced was going to end badly. And because he scaled back his clients’ equity exposure, he suffered a 60% loss in total assets under management before the bubble finally burst in 2000-2002.
In this interview, he recalled how difficult it was for anyone to listen to, much less follow, his warnings that US equities were extremely overpriced and were priced to deliver negative returns over the next 10 years.
So what happened?
Well, as already mentioned, he lost more than half his client money. But what about the subsequent returns? From 1999 to 2009, equity markets did exactly as he predicted—they delivered losses (actually big losses) for everyone who simply “held on” during that 10 year period.
More importantly, what is Grantham projecting today….for the next 7-10 year period?
Losses. In other words, his analysis—the same analysis that was totally accurate in 1999—is projecting that most buy and hold investors in the general stock market indices will incur losses over the next seven hear holding period, and that doesn’t take into account intervening short-term drops that could be extremely severe.
So what do you thing most folks who hear this projection do? That’s right—completely ignore it. Human nature will overwhelm most people’s desire to avoid long-term pain (larger losses tomorrow) by satisfying people’s desire for short-term pleasure (smaller paper gains today).
History rhymes because people, being people, do not change.