The bull market that began in early 2009 has finally returned the Dow and S&P 500 to their previous peaks, creating confidence with investors who had been pulling money out of mutual funds for several years finally beginning to come back to the market.
It allows Wall Street to revive its long-time mantra that supports "buy and hold" as a viable strategy, "The market always comes back". But what market always comes back, the market that investors were invested in and have been waiting to come back to recover their bear market losses? Or a newly designed market that has little resemblance to the market that went away?
The claim that the market always comes back is based on the fact that the indexes eventually come back (even though that has sometimes taken 15 to 20 years, as in the 1930s and 1970s). However, the real problem for investors in the recovery of the indexes is that the stocks that make up those indexes are changed so significantly as to make their eventual comeback meaningless as to whether an investor's portfolio has come back.
For instance, 23% of the stocks that were in the DJIA in 1999 were no longer in that index by 2004, just five years later. They were replaced a few at a time by stocks of newer, stronger companies that were more representative of the changing economy. Chevron (CVX), Goodyear Tire (GT), Union Carbide and Sears Roebuck (SHLD) were replaced by Microsoft (MSFT), Intel (INTC), SBC Communications and Home Depot (HD). AT&T (T) was replaced by Verizon (VZ). Eastman Kodak (EKDKQ.PK) was replaced by Pfizer (PFE). International Paper (IP) was replaced by AIG Group (AIG).
So what does it really mean to investors that the market always comes back if the make-up of the indexes by which the market is measured is changed so that it's not the same market that went away?
Don't get me wrong. It's not a conspiracy but a necessity, since the indexes were developed to best represent the overall U.S. economy at any given time. So changes have often been required since the Dow Jones Industrial Average was first developed in 1896.
I hope no one's heirs are still waiting for Distilling & Cattle Feeding Inc., or U.S. Leather Inc. to come back. They were once components of the DJIA, as in later periods were American Cotton Oil, Baldwin Locomotive, and Victor Talking Machines Inc. As time passed and other industries became more representative of the nation's economy, more companies fell out of the indexes, replaced by names like Nash Motors, Mack Trucks, Remington Typewriter, Woolworth, and dozens of others, now also forgotten, but once among the 30 stocks that made up the DJIA, and once prominent in investors' portfolios.
It's been the same with the newer stock indexes, like the S&P 500, introduced in 1957, the NASDAQ, introduced in 1971, and the NASDAQ 100, introduced in 1985.
In just the seven years from 1999 to 2006 there were 109 changes in the stocks that comprise the Nasdaq 100, an index that only contains 100 stocks.
In just 11 years from 1988 to 1999 there were 256 changes made in the stocks that comprise the S&P 500, an index of only 500 stocks. More recently, in the 3 years from 2010 to 2012 there were 40 more changes made in that index.
So you have to wonder which stocks currently in the indexes won't be the next time the market declines and investors wait for them to "come back".
Even worse, many of the stocks that remain in the indexes do not necessarily "come back" just because the indexes do.
For instance, the market indexes have currently come back to previous peaks. However, of the 30 stocks currently in the Dow eleven of them (more than 30%) are still down hugely, an average of 61.2%, from their levels in 2000.
They include some of the best known and popular holdings of investors; Alcoa (AA), Bank of America (BAC), Cisco Systems (CSCO), Dupont (DD), General Electric (GE), Hewlett-Packard (HPQ), Intel, JP Morgan Chase (JPM), Merck (MRK), Microsoft, and AT&T.
The situation is even more dramatic with indexes like the small-cap Russell 2000 and Nasdaq, where many investors have, or had, their holdings. So is the statement that "the market has come back to its previous peaks" not more than slightly deceptive in the way that it implies that if only investors would learn to buy and hold all would be well for them?