History of Market Recoveries

It is natural for investors to be concerned when the market is in "bear mode" and their portfolio declines. Fear of further declines and volatility make investors skittish, and the instinctive reaction is to pull money out of the market, trying to stem the losses.

It might help to get some insight into how the stock market behaved in previous bear markets, defined as a period in which stock indices fall 20% or more (that usually happens when the economy is in recession, and unemployment and/or inflation are high).

Historically, bear markets are followed with powerful rallies. According to Prudential Investment Management, in the past nine bear markets (going back to the 1950's), when the market declined substantially as the economy contracted, the average first year recovery saw a 36% return. The following year showed a 12% average return.

For example, the recession of 1973-1974, triggered by the oil embargo and quadrupling oil prices, and coupled with the Watergate scandal, the Nixon resignation and Vietnam War spending, had the country in a very gloomy mood. People anticipated the worst and spoke of the end of the American era. The following year, the Dow Jones Industrial Average climbed 38%, and the year after that an additional 21%. The steep '81-'82 declines brought about by the massive failure of the savings and loans industry and high interest rates aimed at choking inflation, was followed by a 58% first year recovery. In October 2002, the market indices bottomed after the collapse of the great tech bubble, and in the wake of the terrorist attacks of September 11th, concurrent with corporate scandals such as the bankruptcy of Enron. The following year saw a 34% rise in the S&P 500.

In addition, stock market declines typically start before a recession begins, and end much before it. In fact, in all cases observed in the last sixty years, without exception, by the time a recession ends, the market has already rebounded to much higher levels off the bottom. The most pessimistic period economically has been the best time to buy stocks. For example, the S&P 500 bottomed in 1974, although the recession lasted until March 1975. It bottomed in 1990 even though the recession lasted until March 1991. There are many more examples.

We are in a recession right now. People are panicked and markets have seized up, especially credit markets. But almost every country in the world is addressing the financial and economic crisis. The bailouts, stimulus packages, liquidity facilities, central bank interventions, and regulatory reforms will have an impact in due course. Banks will eventually recapitalize and clean their balance sheets and then they will want to start generating profits again. In order to create revenue from the hundreds of billions that have been given to them, they will start lending. Investors will reject government bonds with negative real return and demand higher yields. Attention will shift from capital preservation to profits.

If you have a long term approach and are not leveraged, and as long as you buy shares of companies with strong balance sheets and with durable competitive advantage, then this is the opportunity of a generation. And there are large numbers of companies that are credit worthy, with strong balance sheets and no need to access credit, and they are available at bargain prices.

Alan Schram is the Managing Partner of Wellcap Partners, a Los Angeles based investment firm. Email at [e-mail].

Comments

[drjay79]

I really want to believe and we are all dependant of 401k's. But didn't everyone just say house values never go down? The average person had know idea all this crap was going on behind the scene in mortgages. What happens when the next big wall street crap hits the fan?

[KillTheMessenger]

Sure Allan. The sly is always blue. And a sucker is born every split second.

[RedneckDem]

Hmmm....

Double digit decreases in home values...

Manufacturing industry decimated...

No real, across the board, wage increases for 8 years now....

Replacement jobs at lower wages....

Union's being attacked from Repubs relentlessly....

YEP, lookin' good. Another run on the stock market where the already rich can get richer. Tell me how this will help the average American?

[DuganS1]

There have been large wage increases for those in white collar jobs. Unions are the main reason that areas of our manufacturing sectors have been decimated, although manufacturing isn't nearly as bad off as many seem to believe as industrial capacity is at all time highs and industrial production was at an all time high just this year.

[WorkingClass]

You can put your money in the stock market or put it where the sun don't shine. Either way it will turn to dust in the coming hyper-inflation.

http://www.amazon.com/Choosing-Keeping-Chickens-Chris-Graham/dp/0793806011/ref=wl_it_dp?ie=UTF8&coliid=I13T5V7319QBC4&colid=SOVPOLXLBSUM

[DuganS1]

Doesn't look like inflation now. When oil has gone from $148 to $37 and 10 year treasuries down to a 2% yield, you have deflation - not inflation. If only we could get some inflation now.

[DuganS1]

Inflation implies the US and world economies will get better.

[January]

My question is not about what has happened in the past. My question is why we should believe that past performance is still a good indicator for the future. Whenever have we seen a double-dip housing assault? Nothing has been done to secure continuation of home residence.

My guaranteed factor to make investing arcane is social disorder. Unless something is done to keep people in their homes, and all we have heard from Obama so far is promises to do something, along with job losses, we are looking at going over the falls in a barrel. Reassure me about that and I might have some confidence.

[BobOBrien]

I think Alan makes a really nice case here and as long as you have some basic risk management strategies like time horizon, dollar cost averaging and rebalancing the stock market is still a great place to invest. This in addition, to the fact that we will probably see major inflation just like in the 70's when we do come out of this mess and stocks have historically outperformed inflation.

I do feel that the market will trade sideways for a while maybe a year and 1/2 or so, with a couple of nice rally's as Pres-elect Obama starts passing legislation.

[research]

We won't recover if we keep trying to save the banks directly.

They just keep hording it.

The great depression ended when public work spending went to 500B$ and zoomed with the 5T$ WWII.

http://www.huffingtonpost.com/users/profile/research

[DuganS1]

The economy stopped its downward spiral in tearly 1933 when the banks were shut down and deposits were begun to be backed by the FDIC. Public works projects were already underway to a significant degree by Hoover in 1931 and 1932 but the economy kept spiraling downward because of deleveraging in the financial system. The economy recovered from the early 1933 bottom before FDRs projects were even underway, but still with all the projects unemployment remained over 15%, even counting all the folks who had make believe govt jobs. The economy then sputtered into another depression in late 1937 and 1938 despite all the billions spent on public works, and it did so because of what happened in the financial system. The depression didn't end until about 1940 when export orders from Europe and war related orders from the US escalated because of the war or fear of war, and when gold flowed from Europe to the US which allowed the federal reserve to increase the money supply.

[research]

From when FDR comes in 1933 for three years the economy get's less bad, then in 1934 starts to recover 8-16% per year.

FDR's 500B$ plan works.

In 1937 FDR mistakenly cuts back on spending over debt worries, Depression resumes.

WWII spending restores economy by spending 5T$ on war projects.

Please read up on the Great Depression with this time line:
http://www.hyperhistory.com/online_n2/connections_n2/great_depression.html

[Chavez08]

Hey! Way to re-write history!

[joebaggadonuts]

"...unemployment remained over 15%, even counting all the folks who had make believe govt jobs. "

I guess you don't believe in the Grand Coulee Dam then.

[DuganS1]

"For example, the recession of 1973-1974, triggered by the oil embargo and quadrupling oil prices, and coupled with the Watergate scandal, the Nixon resignation and Vietnam War spending, had the country in a very gloomy mood."

The economy fell into recession when the effective federal funds rate went above 10% in July, 1973. The stock market began to recover about the same time the effective federal funds rate went back below 10% in October of 1974. Today we don't have that luxury as rates were low to begin with. Deflation is much worse for stocks than inflation.

[emerywood]

" This time is not different ! "
" This time is different ! "

That is why we have lucky and unlucky people. Take your pick !

[GlobalInvestor]

Go to the Global Investment Watch blog to read a good article about how to interpret our current economic crisis and why we should use this time as a chance to protect future generations from similar irrational behavior by rejecting outdated economic theories which have dominated our poorly regulated markets for the past fifty years to the detriment of working people and investors...

http://globalinvestmentwatch.com/2008/12/16/why-to-reject-economic-nihilism/

[BillZBubb]

Not one of the periods you mention had the problems we face today. In the past several recessions there has not been a near total collapse of credit. Most of the post-Depression regulations were still in place. There has not been a near zero percent savings rate in the US. There has not been an ocean of debt throughout the economy.

To view the current stock market accurately, you need to go back to 1929. And the market following that meltdown took nearly three years to turn around. Then it took over twenty years to get back to 1929 levels.

Fortunately we have a newly elected Democratic president and congress to get us out of this Republican mess. But, it will take more time than many people realize. This isn't your typical US recession. The market will rebound, but I would not recommend any new investments for at least another six months to a year.

[DuganS1]

The regulations aren't going to matter as far as when we'll come out of recession and when stocks will start moving upward. The savings rate is a bit mis-leading, because it doesn't include 401K deposits and matching or money earned from asset sales. Today there is more money on the sidelines relative to the value of the stock market than ever before. There is a lot of money out there, it's just that no one is willing at this point to take risk. Consumer debt is an issue but it came down last quarter for the first time WW2 (I believe). Consumer debt is also not high for renters, mostly just for homeowners. The good news is many people are filing bankruptcy and extinguishing their debt and the financial institutions are writing off their bad debts quickly and replacing the losses with new money (unfortunately a chunk of it is from the govt). The bad news is that home values continue to go down meaning debt levels are increasing. Deflation is terrible for debtors. There is also good news in that corporate balance sheets are the strongest they've been in decades - outside financials that is.