SO WHY HAS THE STOCK MARKET DONE SO WELL OF LATE?

4/15/13

As I have said on numerous occasions in the past, trying to discern why the stock market has done what it has done is nearly as perilous as trying to figure out where the stock market is going in anything but the long term, in which the answer to the latter is “up.”  But people make fabulous livings pretending to know why the stock market is doing what it is doing and where the stock market is going and enlightening the gullible with their “wisdom.”   Further, it’s not pointless to try to determine what the market is doing; we can often learn something in such a pursuit, even when, as in many of life’s endeavors, what we achieve is not likely to be what we initially sought to achieve.

So why has the stock market done so well of late?   (The market is having a horrible day today; as I write this, the S&P and the Dow are down a percent, plus or minus a few basis points and the NASDAQ is down around a percent and a half.  Stocks didn’t do much of anything Friday, but the trend of late has been up, with the Dow and the S&P reaching all time highs, and the NASDAQ reaching a multi-year high, last Thursday.   And who knows?   Today’s action may prove to be an ephemeral blip; notice how nicely the markets recovered Friday.)   The two most prominent explanations are

1. The economy is improving at a steady, if slow, pace and the stock market reflects that as more investors, both professional and individual, buy into the recovering economy story.
2. Due to what I have referred to as Ben Bernanke’s war on the elderly, people have nowhere else to go with their money and thus are moving, albeit in most cases reluctantly, toward taking more risk in the form of dividend paying stocks.

Both explanations are plausible.    The second has more appeal to yours truly, but, as anyone who has read me for more than a few weeks knows, I am something of a permabear.  But I digress.

The real explanation for the stock markets’ exuberance, rational or irrational, may be simpler than even the above two.   As the market has approached and transcended all time highs, people may have become convinced that what their financial advisors, be they genuine investment professionals or mere poseurs, have been telling them is correct:   the stock market always comes back and that, as far as the market is concerned, what goes down must come back up.  

The average person might be saying to himself or herself something like “Well, we’re close to, or at, all time highs EVEN AFTER THE DEBACLE OF A FEW YEARS AGO.  And that fiasco was about as bad as anything we’re likely to see in my lifetime.   If the market can recover from that disaster, it can recover from anything, so maybe the stock market is the place to be, just like my advisor has always been telling me.”

If our theoretical investor looks at the ten year return of the Dow, the S&P, and the NASDAQ, s/he would see that those indicators have returned, annually and respectively, 5.8%, 5.8%, and 8.9% plus the dividend.  And, again, this despite that 10 year period's including the 2008/2009 drubbing.

I don’t pretend to know that this simple, but maybe not all that simplistic, line of reasoning is useful as an investment strategy, but it does seem to explain a lot of investor behavior of late.  And, I have to admit, it is making this seeming permabear consider increasing his long term exposure to stocks…but, as in all things investment wise, gradually.