Posts tagged ‘Nifty Fifty’
With the Dow Jones Industrial Average approaching and now breaking the 16,000 level, there has been a lot of discussion about whether the stock market is an inflating bubble about to burst due to excessive price appreciation? The reality is a fear bubble exists…not a valuation bubble. This fear phenomenon became abundantly clear from 2008 – 2012 when $100s of billions flowed out of stocks into bonds and trillions in cash got stuffed under the mattress earning near 0% (see Take Me Out to the Stock Game). The tide has modestly turned in 2013 but as I’ve written over the last six months, investor skepticism has reigned supreme (see Most Hated Bull Market Ever & Investors Snore).
Volatility in stocks will always exist, but standard ups-and-downs don’t equate to a bubble. The fact of the matter is if you are reading about bubble headlines in prominent newspapers and magazines, or listening to bubble talk on the TV or radio, then those particular bubbles likely do not exist. Or as strategist and investor Jim Stack has stated, “Bubbles, for the most part, are invisible to those trapped inside the bubble.”
All the recent bubble talk scattered over all the media outlets only bolsters my fear case more. If we actually were in a stock bubble, you wouldn’t be reading headlines like these:
From 1,300 Bubble to 5,000
If you think identifying financial bubbles is easy, then you should buy former Federal Reserve Chairman Alan Greenspan a drink and ask him how easy it is? During his chairmanship in late-1996, he successfully managed to identify the existence of an expanding technology bubble when he delivered his infamous “irrational exuberance” speech. The only problem was he failed miserably on his timing. From the timing of his alarming speech to the ultimate pricking of the bubble in 2000, the NASDAQ index proceeded to more than triple in value (from about 1,300 to over 5,000).
Current Fed Chairman Ben Bernanke was no better in identifying the housing bubble. In his remarks made before the Federal Reserve Board of Chicago in May 2007, Bernanke had this to say:
“…We believe the effect of the troubles in the subprime sector on the broader housing market will likely be limited, and we do not expect significant spillovers from the subprime market to the rest of the economy or to the financial system. The vast majority of mortgages, including even subprime mortgages, continue to perform well.”
If the most powerful people in finance are horrible at timing financial market bubbles, then perhaps you shouldn’t stake your life’s savings on that endeavor either.
Bubbles History 101
Each bubble is unique in its own way, but analyzing previous historic bubbles can help understand future ones (see Sleeping Through Bubbles):
• Dutch Tulip-Mania: About 400 years ago in the 1630s, rather than buying a new house, Dutch natives were paying over $60,000 for tulip bulbs.
• British Railroad Mania: The overbuilding of railways in Britain during the 1840s.
• Roaring 20s: Preceding the Wall Street Crash of 1929 (-90% plunge in the Dow Jones Industrial average) and Great Depression, the U.S. economy experienced an extraordinary boom during the 1920s.
• Nifty Fifty: During the early 1970s, investors and traders piled into a set of glamour stocks or “Blue Chips” that eventually came crashing down about -90%.
• Japan’s Nikkei: The value of the Nikkei index increased over 450% in the eight years leading up to the peak of 38,957 in December 1989. Today, almost 25 years later, the index stands at about 15,382.
• Tech Bubble: Near the peak of the technology bubble in 2000, stocks like JDS Uniphase Corp (JDSU) and Yahoo! Inc (YHOO) traded for over 600x’s earnings. Needless to say, things ended pretty badly once the bubble burst.
As long as humans breathe, and fear and greed exist (i.e., forever), then we will continue to encounter bubbles. Unfortunately, we are unlikely to be notified of future bubbles in mainstream headlines. The objective way to unearth true economic bubbles is by focusing on excessive valuations. While stock prices are nowhere near the towering valuations of the technology and Japanese bubbles of the late 20th century, the bubble of fear originating from the 2008-2009 financial crisis has pushed many long-term bond prices to ridiculously high levels. As a result, these and other bonds are particularly vulnerable to spikes in interest rates (see Confessions of a Bond Hater).
Rather than chasing bubbles and nervously fretting over sensationalistic headlines, you will be better served by devoting your attention to the creation of a globally diversified investment portfolio. Own a portfolio that integrates a wide range of asset classes, and steers clear of popularly overpriced investments that the masses are talking about. When fear disappears and everyone is clamoring to buy stocks, you can be confident the stock bubble is ready to burst.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs), but at the time of publishing SCM had no direct position in TWTR, JDSU, YHOO or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
We have lived through many investment bubbles in our history, and unfortunately most investors sleep through the early wealth-creating inflation stages. Typically, the average investor wakes up later to a hot idea once every man, woman, and child has identified the clear trend…right as the bubble is about burst. Sadly, the masses do a great job of identifying financial bubbles at the end of a cycle, but have a tougher time realizing the catastrophic consequences of exiting a tired winner. Or as strategist Jim Stack states, “Bubbles, for the most part, are invisible to those trapped inside the bubble.” The challenge of recognizing bubbles explains why they are more easily classified as bubbles after a colossal collapse occurs. For those speculators chasing a precise exit point on a bubblicious investment, they may be better served by waiting for the prick of the bubble, then take a decade long nap before revisiting the fallen angel investment idea.
Even for the minority of pundits and investors who are able to accurately identify these financial bubbles in advance, a much smaller number of these professionals are actually able to pinpoint when the bubble will burst. Take for example Alan Greenspan, the ex-Federal Reserve Chairman from 1987 to 2006. He managed to correctly identify the technology bubble in late-1996 when he delivered his infamous “irrational exuberance” speech, which questioned the high valuation of the frothy, tech-driven stock market. The only problem with Greenspan’s speech was his timing was massively off. Stated differently, Greenspan was three years premature in calling out the pricking of the bubble, as the NASDAQ index subsequently proceeded to more than triple from early 1997 to early 2000 (the index exploded from about 1,300 to over 5,000).
One of the reasons bubbles are so difficult to time during their later stages is because the deflation period occurs so quickly. As renowned value investor Howard Marks fittingly notes, “The air always goes out a lot faster than it went in.”
Bubbles, Bubbles, Everywhere
Financial bubbles do not occur every day, but thanks to the psychological forces of investor greed and fear, bubbles do occur more often than one might think. As a matter of fact, famed investor Jeremy Grantham claims to have identified 28 bubbles in various global markets since 1920. Definitions vary, but Webster’s Dictionary defines a financial bubble as the following:
A state of booming economic activity (as in a stock market) that often ends in a sudden collapse.
Although there is no numerical definition of what defines a bubble or collapse, the financial crisis of 2008 – 2009, which was fueled by a housing and real estate bubble, is the freshest example in most people minds. However, bubbles go back much further in time – here are a few memorable ones:
Dutch Tulip-Mania: Fear and greed have been ubiquitous since the dawn of mankind, and those emotions even translate over to the buying and selling of tulips. Believe it or not, some 400 years ago in the 1630s, individual Dutch tulip bulbs were selling for the same prices as homes ($61,700 on an inflation adjusted basis). This bubble ended like all bubbles, as you can see from the chart below.
British Railroad Mania: In the mid-1840s, hundreds of companies applied to build railways in Britain. Like all bubbles, speculators entered the arena, and the majority of companies went under or got gobbled up by larger railway companies.
Roaring 20s: Here in the U.S., the Roaring 1920s eventually led to the great Wall Street Crash of 1929, which finally led to a nearly -90% plunge in the Dow Jones Industrial stock index over a relatively short timeframe. Leverage and speculation were contributors to this bust, which resulted in the Great Depression.
Nifty Fifty: The so-called Nifty Fifty stocks were a concentrated set of glamour stocks or “Blue Chips” that investors and traders piled into. The group of stocks included household names like Avon (AVP), McDonald’s (MCD), Polaroid, Xerox (XRX), IBM and Disney (DIS). At the time, the Nifty Fifty were considered “one-decision” stocks that investors could buy and hold forever. Regrettably, numerous of these hefty priced stocks (many above a 50 P/E) came crashing down about 90% during the1973-74 period.
Japan’s Nikkei: The Japanese Nikkei 225 index traded at an eye popping Price-Earnings (P/E) ratio of about 60x right before the eventual collapse. The value of the Nikkei index increased over 450% in the eight years leading up to the peak in 1989 (from 6,850 in October 1982 to a peak of 38,957 in December 1989).
The Tech Bubble: We all know how the technology bubble of the late 1990s ended, and it wasn’t pretty. PE ratios above 100 for tech stocks was the norm (see table below), as compared to an overall PE of the S&P 500 index today of about 14x.
The Next Bubble
What is/are the next investment bubble(s)? Nobody knows for sure, but readers of Investing Caffeine know that long-term bonds are one fertile area. Given the generational low in yields and rates, and the near doubling of long-term Treasury prices over the last twelve years, it can be difficult to justify heavy allocations of inflation losing bonds for long time-horizon investors. Gold, another asset class that has increased massively in price (over 6-fold rise since about 2000) and attracted swaths of speculators, is another target area. However, as we discussed earlier, timing bubble bursts is extremely challenging. Nevertheless, the great thing about long-term investing is that probabilities and valuations ultimately do matter, and therefore a diversified portfolio skewed away from extreme valuations and speculative sectors will pay handsome dividends over the long-run.
Many traders continue to daydream as they chase performance through speculative investment bubbles, looking to squeeze the last ounce of an easily identifiable trend. As the lead investment manager at Sidoxia Capital Management, I spend less time sucking the last puff out of a cigarette, and spend more time opportunistically devoting resources to less popular growth trends. As demonstrated with historical examples, following the trend du jour eventually leads to financial ruin and nightmares. Avoiding bubbles and pursuing fairly priced growth prospects is the way to achieve investment prosperity…and provide sweet dreams.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) and some of its clients hold positions in certain exchange traded funds (ETFs) and are short TLT, but at the time of publishing SCM had no direct positions in AVP, MCD, XRX, IBM, DIS, or any other security referenced in this article. No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC Contact page.
I’m not referring to the movie, Back to the Future, about a plutonium-powered DeLorean time machine that finds Marty McFly (played by Michael J. Fox) traveling back in time. Rather, I am shining the light on the uncanny ability of media outlets (specifically magazines) to mark key turning points in financial markets – both market bottoms and market tops. This will be the first in a three part series, providing a few examples of how magazines have captured critical periods of maximum fear (buying opportunities) and greed (selling signals).
People tend to have short memories, especially when it comes to the emotional rollercoaster ride we call the stock market. Thanks to globalization, the internet, and the 24/7 news cycle, we are bombarded with some fear factor to worry about every day. Although I might forget what I had for breakfast, I have been a student of financial market history and have experienced enough cycles to realize as Mark Twain famously stated, “History never repeats itself, but it often rhymes” (read previous market history article). In that vein, let us take a look at a few covers from the 1970s:
Newsweek’s “The Big Bad Bear” issue came out on September 9, 1974 when the collapse of the so-called “Nifty Fifty” (the concentrated set of glamour stocks or “Blue Chips”) was in full swing. This group of stocks, like Avon, McDonalds, Polaroid, Xerox, IBM and Disney, were considered “one-decision” stocks investors could buy and hold forever. Unfortunately, numerous of these hefty priced stocks (many above a 50 P/E) came crashing down about 90% during the1973-74 period.
Why the glum sentiment? Here are a few reasons:
- Exiting Vietnam War
- Undergoing a Recession
- 9% Unemployment
- Arab Oil Embargo
- Watergate: Presidential Resignation
- Franklin National Failure
Not a rosy backdrop, but was this scary and horrific phase the ideal time to sell, as the magazine cover may imply? No, actually this was a shockingly excellent time to purchase equities. The Dow Jones Industrial Average, priced at 627 when the magazine was released, is now trading around 10,247…not too shabby a return considering the situation looked pretty darn bleak at the time.
Reports of the Market’s Death Greatly Exaggerated
Sticking with the Mark Twain theme, the reports of the market’s demise was greatly exaggerated too – much the same way we experienced the overstated reaction to the financial crisis early in 2009. BusinessWeek’s August 13, 1979 magazine captured the essence of the bearish mood in the article titled, “The Death of Equities.” This article came out, of course, about 18 months before a multi-decade upward explosion in prices that ended in the “Dot-com” crash of 2000. In the late 1970s, inflation reached double digit levels; gold and oil had more than doubled in price; Paul Volcker became the Federal Reserve Chairman and put on the economic brakes via a tough, anti-inflationary interest rate program; and President Jimmy Carter was dealing with an Iranian Revolution that led to the capture of 63 U.S. hostages. Like other bear market crashes in our history, this period also served as a tremendous time to buy stocks. As you can see from the chart above, the Dow was at 833 at the time of the magazine printing – in the year 2000, the Dow peaked at over 14,000.
The walk down memory lane is not over yet. Conveniently, the Back to the Future story was designed as a trilogy (just like my three-part magazine review), so stay tuned for “Part II” – coming soon to your future.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
DISCLOSURE: Sidoxia Capital Management (SCM) has a short position in MCD at the time this article was originally posted. SCM owns certain exchange traded funds, but currently has no direct position in Avon (AVP), Polaroid, Xerox (XRX), IBM or Disney (DIS). No information accessed through the Investing Caffeine (IC) website constitutes investment, financial, legal, tax or other advice nor is to be relied on in making an investment or other decision. Please read disclosure language on IC “Contact” page.
As Mark Twain said, “History never repeats itself, but it often rhymes.” There are many bear markets with which to compare the current financial crisis we are working through. By studying the past we can understand the repeated mistakes of others (caused by fear and greed), and avoid making similar emotional errors.
Do you want an example? Here you go:
“Today there are thoughtful, experienced, respected economists, bankers, investors and businessmen who can give you well-reasoned, logical, documented arguments why this bear market is different; why this time the economic problems are different; why this time things are going to get worse — and hence, why this is not a good time to invest in common stocks, even though they may appear low.”- Jim Fullerton, former chairman of the Capital Group of the American Funds (written November 7, 1974)
Although the quote above seems appropriate for 2009, it actually is reflective of the bearish mood felt in most bear markets. We have been through wars, assassinations, banking crises, currency crises, terrorist attacks, mad-cow disease, swine flu, and yes, even recessions. And through it all, most have managed to survive in decent shape. Let’s take a deeper look.
1973-1974 Case Study:
For those of you familiar with this period, recall the prevailing circumstances:
- Exiting Vietnam War
- Undergoing a recession
- 9% unemployment
- Arab Oil Embargo
- Watergate: Presidential resignation
- Collapse of the Nifty Fifty stocks
- Rising inflation
Not too rosy a scenario, yet here’s what happened:
S&P 500 Price (12/1974): 69
S&P 500 Price (8/2009): 1,021
That is a whopping +1,380% increase, excluding dividends.
What Investors Should Do:
- Avoid Knee-Jerk Reactions to Media Reports: Whether it’s radio, television, newspapers, or now blogs, the headlines should not emotionally control your investment decisions. Historically, media venues are lousy at identifying changes in price direction. Reporters are excellent at telling you what is happening or what just happened – not what is going to happen.
- Save and Invest: Regardless of the market direction, entitlements like Medicare and social security are under stress, and life expectancies are increasing (despite the sad state of our healthcare system), therefore investing is even more important today than ever.
- Create a Systematic, Disciplined Investment Plan: I recommend a plan that takes advantage of passive, low-cost, tax-efficient investment strategies (e.g. exchange-traded and index funds) across a diversified portfolio. Rather than capitulating in response to market volatility, have a systematic process that can rebalance periodically to take advantage of these circumstances.
For DIY-ers (Do-It-Yourselfers), I suggest opening a low-cost discount brokerage account and research firms like Vanguard Group, iShares, or Select Sector SPDRs. If you choose to outsource to a professional advisor, I recommend interviewing several fee-only* advisers – focusing on experience, investment philosophy, and potential compensation conflicts of interest.
If you believe, like some economists, CEOs, and investors, we have suffered through the worst of the current “Great Recession” and you are sitting on the sidelines, then it might make sense to heed the following advice: “Some people say they want to wait for a clearer view of the future. But when the future is again clear, the present bargains will have vanished.” Dean Witter made those comments 77 years ago – a few weeks before the end of worst bear market in history. The market has bounced quite a bit since March of this year, but if history is on our side, there might be more room to go.
Wade W. Slome, CFA, CFP®
Plan. Invest. Prosper.
*For disclosure purposes: Wade W. Slome, CFA, CFP is President & Founder of Sidoxia Capital Management, LLC, a fee-only investment adviser based in Newport Beach, California.