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Stock Market's Total Return Outperforms Inflation by About 7% a Year

You are probably right that the CPI is understated. If I remember correctly, the rules used to measure the main urban CPI (there are a whole bunch of CPIs) were changed a few years ago because the federal government was spending too much on inflation subsidies for social security etc. If you look at the dollar against oil prices, you will see that during the Bush presidency, the Fed followed a continuous weak dollar policy from early 2002 all the way through mid-2008 when the S&P crashed and the recession-induced global flight to safety stopped the fall of the dollar. The dollar has rallied since then, but it’s only a matter of time until it resumes it’s downward trek. Nominal interest rates apear to have been kept lower than they should be. The fear of deflation dominates political thinking. Inflation makes it easier and cheaper to borrow.

Since oil is priced in dollars, the Fed’s policy contributed significantly to the bubble in US oil prices. It also was responsible in large measure for the bubble in housing and real estate prices, though legislative meddling via Freddie, Fannie and aggressive mortgage lenders also played a large role. The recession has been worse than it should have been due to misguided government intervention.

Now we are faced with a politically motivated misinterpretation of the 1935 Keynesian approach to business cycle management that is likely to accelerate inflationary expectations. The market was stagnant from mid-1966 through 1982, reflecting high inflation and unemployment all through that period, but the economy didn’t really begin to strengthen until Reagan’s second term. Also, it’s important to keep in mind the well-documented presidential cycle – recessions at the end of every presidential term – that has had an effect on stock market returns.

The Gingrich-Kasich-Clinton deal that produced such phenomenal growth from 1994 to 2000 ( with help from Greenspan’s easy money policy) took the S&P from 435 to 1492, an increase of roughly 243% or nearly 23% per year on average, plus dividends. That is 4 times the long-term 7% return mentioned, a performance so far out of the norm that it’s unlikely to be repeated anytime in the future. The market now appears to be adjusting to the long-term trend line but US and global growth should be below trend for several years. The baby boom generation is going into retirement, so the demographic pressures are different, and the computer revolution is maturing. I expect the 7% return to average out a bit below that until we get a better handle on whether and to what extent the build-up in federal debt levels will have on prices and employment over the next year or two.



On May 03 09:05 AM Dave Wrixon wrote:

> Much depends on whether you give the US CPI any credibility or not.
>
>
> It would seem that inflation was actually running much higher than
> stated during the Bush years, resulting in lower than prudent interest
> rates, which is exactly what has caused this mess.
>
> To have any chance of making a road map out of here, the US needs
> to get it statistics sorted out. Otherwise it is like wandering around
> in the fog without a map or a compass.

S&P 500: Could We Get a Seven-Year Double Top?

Thank you for your perceptive remarks on the stock market. If you look at it from a historicl perspective, you wll find about an 8.0% average growth rate in market averages from the bottom in 1932 to the top in 2000. This included the period from 1966 to 1982 in which the market couldn't get above the 1,000 mark on the Dow 30. From the breakout in 1982 at 1,000 to 11,750 in 2000, the market advanced at slightly better than 15% p.a., about twice the rate from 1932 to 1966. Now, since 2000, the Dow has moved into new highs after a 7-year dip, while the S&P 500 still has 3% or so to go to reach its 2000 high. So in this 7-year period, the market has been essentially flat. But if you measure from 1982 to 2007 as going from 1,000 to 11750 it is still high at about 10.35% p.a. If you measure from 1,000 to today's average of 12,960 (as I write) or 13,000 on the Dow, you get 10.8%, the difference having been earned or created in just the last month or two. So, the market is stilll running better than it's long term average. Of course, even at 8.0% p.a. (it could be less depending on the dates you use) without the 16 year period between 1966 and 1982, and assuming a normal market during that period, the Dow today would be above 23,000.
But that didn't happen and we have to contend with the real world, which today is low to moderate real GDP growth, modest CPU inflation and low to moderate long-term interest rates. So, with that in mind, an argument can be made that we are in for another period like 1966 to 1982 in which the Dow (as a proxy for the market) reaches 13,000 then backs off, tries again and so until the growth rate since 2000 begins to average out into 8% or so on average. The federal government made a mess of things that contributed to the 1966 - 1982 sickness, and it certainly can do that again. Your double-top in the S&P may not kick the market into a new long-term high growth mode after all is said and done. It will be interesting to see what happens. Thanks again for your perspective.

An Inflation Warning from the Money Suppy Data

If one looks hard enough, the old double top is slipping into view. I suspect the trendline will back off from here, which suggests growth of the M2 money supply, hence "inflation", will subside. It's easy to get inflation when the economy is doing well, but not so easy when it starts to slow. Of course the Federal Reserve Board is no better than any of the rest of us when it comes to forecasting the future. No one knows what will happen tomorrow, let alone in June or July, not even the Fed! They have to rely on groupthink when they stop looking backwards and start looking forward. That's why they've caused so many recessions and worse over the years. When you think about it, and put everything in perspective, it doesn't seem to be worth the millions of tax dollars spent maintaining that myth of perfection. The reason most members of congress support the Fed is that they don't know any better.