Does Anybody Really Know What Time It Is?
by Zach Marsh on Sep 24, 2021
Many commodities are in short supply these days. Car manufacturers can produce enough cars due to chip shortages. Ask any contractor and they’ll tell you how dear lumber was, earlier this year. I even read somewhere that the price of window coverings went up over 17% in just the month of August. But if you ask me, the one thing that we are in very short supply of these days is context. Thanks to social media video clips, photos, and sound bites can go viral and attract those ever-important clicks all because context has been completely stripped away. It seems like not only is context lacking from social discourse, but rather it is deliberately removed. If it “bleeds it leads” has morphed into if it “irates it baits.”
Call me old-fashioned, I still think context has value. If you don’t know where you came from you neither have any idea how far you’ve traveled, nor in which direction you’re heading. One problem with context, though, is deciding how wide of a lens is wide enough. For example, we know that the earths temperatures have been rising over the last 100 years. But considering that the last Ice Age ended about 11,500 years ago, haven’t the temperatures been rising for the last 11,500 years? In fact, the last Ice Age lasted about 100,000 years, so assuming the Earth’s climate periods are extremely long, should we expect the temperatures to rise for the next, oh say, 88,000 years?
The same contextual problems exist with the stock market. The long-term compounded annual growth rate for the S&P 500 over the last 100 years has been about 6.6% before accounting for dividends. If we exclude the pre-WWII period, the compounded annual growth rate rises to 8.05%. So, depending upon when we start to measure, we can assume that the market’s average annual return is somewhere around 7% plus dividends, which average about 3% per year. For simplicity, we will say with dividends the S&P 500 averages about 10% average annual growth. We know that averages don’t always give a full picture of how rocky the path may be. As Keynes says, “Don’t try and walk across a river with an average depth of four feet.” Typically, when periodic returns are substantially greater than or less than the longer-term average, we should expect a regression to the mean sometime in the future.
But this gets back to my problem of how wide of a lens is necessary to determine whether we are above or below the long-term average.
Lens 1.0: 5-year annual return 15.83%
Lens 2.0: 10-year annual return 17.56%
Lens 3.0: 15-year annual return 10.51%
Lens 4.0: 20-year annual return 9.58%
Depending upon which lens you look through the market is either returning dramatically greater average returns than the long-term average or returns right in-line with the long-term average. The last 10-15 years have either been an irrationally exuberant period, or a mean regressing catch-up period. It all depends on where you start to measure. I wish I had the answer to this problem of perspective, but I don’t. Ronald Reagan once said he wished he had a one-armed economist, because on the one hand the market can look fairly priced but on the other hand completely overvalued.
The pace of returns over the last 18 months feels anything but fair and orderly pricing. Certainly, the massive drop in February and March of 2020 had something to do with the size of the recovery, but even still, we are currently 41% above January 2020 pre-pandemic levels. This feels far from normal. But knowing is a different matter. Maybe context can just be another messy quagmire.
Thanks for reading,
Zach and Dave
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