It's Still a 20-Year Bear Market
It's Still a 20-Year Bear Market
Thanks to the last fortnight’s relentless rally, the ASX All Ordinaries Index is up a whopping 37% from its low. Many commentators are now calling March 6 the bottom and citing all kinds of statistics – from house price growth to credit spreads – to justify their opinion. So is that really it? Have we taken the pain, learned our lessons and consigned that horrible bear market to history?
Perhaps. I have no idea what the market is going to do. But there are a couple of points worth considering.
Firstly, it’s not uncommon for extended bear markets to be interspersed with significant rallies. The graph below shows Japan’s Nikkei 225 Index from 1984 until today.
It is almost exactly where it was 25 years ago. Yet, since the bubble burst in 1989, there has been one 40% rally, two of more than 50% and one, in the early years of this decade, of more than 100%. A three-month rally does not guarantee the bear market is over.
Moreover, most Western economies today have much in common with Japan of the 1990s: a massive debt bubble that is going to take decades to deflate; interest rates close to zero; and forecast fiscal deficits that will leave their respective governments with truly worrisome debt burdens of their own.
While the stimulus has undoubtedly worked and the risk of a Great Depression has almost disappeared, few of the imbalances that got us into trouble have been corrected. Particularly in Australia, some have been exacerbated. Reserve Bank Governor Glenn Stevens had this to say at an address to The Anika Foundation Luncheon last week:
"The households of the Western world are currently feeling that they can no longer consume as they did, in part because the earlier spending is now seen to have been based on an unrealistic set of assumptions about long-run income and wealth. To that extent, there is no real way around a period of adjustment involving lower consumption for a while."
In the US, that adjustment process has begun. The savings rate (the percentage of disposable income that is saved every year) has risen to 7%, from less than zero at the height of the housing bubble.
Australians, however, aren't so easily disuaded. The savings rate is up, but only to 1.8% in the June quarter. And total debt managed to grow 3.4% over the year to 30 June (what credit crisis?). That’s down substantially on the 12.6% average of the past 30 years, but it’s still more than underlying economic growth.
This credit bubble doesn’t need to deflate now. It doesn’t need to deflate any time soon. But it is a Ponzi scheme and whether it collapses overnight or takes 20 years to deflate, the implications for the stockmarket are severe. The All Ords was 3,950 when I originally suggested preparing for a 20-year bear market. It’s up 8% since, but I haven’t changed my view.
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Steve,
I could not agree more. Looking at the Japanes experience and applying it to the English speaking world our share market still have a long way to go before hitting bottom. All that is required is a loss of confidence.
Another interesting issue is house prices. The Japanese house price peaked in about 1990 then fell heavily after nearly 20 years it is still only worth 50% of the peak value.
If this was to occur in Australia it would sent consumption through the floor. This would then flow over into company profits and reduce the demand for shares. I doubt if people would then feel wealthy enough to invest in shares.
One event would then feed off the other on the way done to some unknown bottom.
Paul
Nice article. Please correct me if I'm wrong but I get concerned when people talk about the Nikkei 20 years ago and relate it to now. I feel the same with comparisons to the NASDAQ. As I said correct me if I'm wrong, but I thought the Nikkei at its peak was on a PE of around 100 (as was the NASDAQ). That to me is an obvious bubble so Im not convinced our current market can be related to that period in time. Lets not forget that the US market is still down 30% over the past decade and the NASDAQ is down 60% over the same time frame so there's an awful lot of bad news priced in. Personally Im still with Buffett with the view that todays buyer will do quite OK over the next decade.
That chart starts 25 years ago, before the bubble really started to inflate (as you can see, the Nikkei went up fourfold over the next four years). Totally agree about the US, though, they are already 10 years into their 20-year bear market. My feeling is that it's going to be a similar experience from our 2007 peak (6,800 or so).
Like you Steve I'm not pretending I know what the market will do either but for the sake of a balanced argument there are a couple of counter issues to your Japanese case that may be interesting.
Why not consider Australia's own experience of 73-74. Don't ask me how but following the worst correction ever the market recovered back to the highs by 1976 - and most of those gains were made during the recession of 74-75 and with Government debt on the moon as a % of GDP. There is more than one force at work.
Like Tyron, the risk of using Japan as a proxy is that their market high was abnormal even compared to our own 6850 Disneyland number. Japan after all was the country that had 200 year mortgages in the 80's. Japanese companies historically have had poor return on equity numbers due to their more socially responsible outlook so they are not as profitable (ROE%) as companies in the US and Australia who are more profit focused. This stifles a market recovery normally let alone abnormally. Buffett said he wouldn’t invest there because of the poor ROE.
Finally, while you mention 3% as the saving rate, I have another recent chart from Datastream (Fin Review 5 March 2009, page 23) showing the savings rate now at just under 9%, which puts the rate close to that of the 1960's. More importantly savings rates have been growing ever since 2002 but exponentially since 2008. I’d love to see a good debate on debt and what it means but it needs to be in the context of the country’s (or average individuals) overall cash flow generating ability and balance sheet i.e. assets growth as well.
From what I've read, more than a few Japanese public companies are now net-nets.
I'm generally not contrarian, but in this I felt I need to add my 2 cents worth.
From this and other articles, I'm guessing that Steve is naturally pessimistic, which is a good trait for an analyst, but when economic times are rough and trying to look ahead, I don't think it helps give an indication of what lies ahead.
Do you really think that Australia'a economy is going to copy the Japanese experience and we're going to have a 20 year bear market?
Australia is so different from Japan that I think its wrong to compare the 2 countries at all.
In my mind, it would be better to say the next 20 years are not going to be like the last 20.
Cheers
Mike
I'm not sure if anyone has looked into this, but I think it's worth mentioning. The Japanese bear market in both property and stocks coincided with bull markets in places like the US and Australia, in both stocks and property. Japanese investors who had accumulated savings were buying up foreign stocks, bonds, currency and property to put their money to use. If we are saying that the US, UK, Europe, Japan and Australia are all going to simultaneously go through prolonged bear markets in both stocks and property, and have low returns on bonds due to near zero interest rates, then where will people invest? I realise that this is a weight of money arguement more than an arguement based on fundamentals, but preseumably people need to invest their money somewhere? Does anybody know of any time period(s) throughout history where all the major asset classes in all the major developed markets went through a simultaneous bear market? I think that scenario (if it exists) would present a more accurate point of reference for us than the Japanese experience. Perhaps bubbles in China and other developing markets may develop as investors in the major developed economies look to deploy their money somewhere, much like how our stock and property markets boomed due to Japanese investment? It strikes me as a little odd to have low to no returns in all asset classes, across all markets for extended periods of time.
I do not believe we can compare past happenings with the present - there has been a fundamental shift towards a self- destructive society & I see this movement gathering pace - I believe it encourages laissez-faire mentality. likely to be seen in financial markets as well as other areas of human endeavour - my bet is for bull & more bull - ill-fated in the long term, though - congrats on the usefulness of Intelligent Investor for it's "alerts" on foundering investments & opportunities for arbitrage.
Excellent post and comments! For those who say the market is overvalued with a long way to go (down), I would offer that they look at one of Buffett's favorite metrics for evaluating the price of the overall market (total market capitalization of the stock market/GDP). The recently released annualized figure for GDP is $14.1 billion. When compared to the current market capitalization of the Wilshire 5000 index ($11.87 Billion), the market is trading 84% of GDP. Compare this to when markets were trading around 150% during the tech bubble, according the the World Bank. Incidentally, Buffett points out the market has coughed up some serious returns when bought while it traded in the area of 80% of GDP. I believe this offers some support to the notion the market has hit a bottom. I don't believe it has a longer way to go (down) from here.
Darcy
terminalvalue.blogspot.com
It would be interesting to know this ratio for the Japanese market at various stages in their history, ie during the boom, at variosu stages after the bust, and today. I wonder if anyone knows?
Firstly i dont think we are comparing apples with apples. What was the PE ratio of the Japanese market at its peak?
Secondly i think this whole sought of debate is fine if its just amongst a group of academics. For investors its irrelevant.
Intead of focusing on these intellectual 'what to be' topics, i feel time should be spent analysing the underlying companies.
Companies are organic which means they adjust to changing circumstances. If we are in for a 20 year consolidation of debt patterns does that spell the death of equities? Definately no in my opinion. It may mean consolidation in those industries that have relied on expanding debt, but this could be an opportunity for the leaders in those industries to expand as marginal players are forced out of business.
Long term debt consolidation could also provide opportunities in other industries, whereby the economies of debt ladled countries rebalance to a more sustainable GDP composition (ie less consumption, more the other components). How will this be achieved i dont know , but it WILL be achieved. Time has proved this again and again.
Therefore i will spend my time trying to buy shares in companies with sustainable business models and trading at decent discounts to my interpretation of their intrinsic worth.
Mac, probably the best comment I have read since looking at this blog site and you are not alone in spending a lot of time thinking about sustainability of competitive advantage.
If a company really has one then the numbers almost look after themselves, regardless of anything else, in fact economic blips become opportunities as you suggest (for both the company and an investor).
Steve can I suggest a new category be opened for specific company analysis and in particular discussion on business model/ competitive strategy and the identification of where those advantages lie. I’m sure there will be a lot of superficial comments but the odd gem or idea will turn up making it worthwhile. I have just finished reading a piece by Robert Gottliebsen on the different business models of HVN, JBH and Clive Peters – and it is just junk. We need some intelligent discussion on competitive strategy.
After all "The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company, and above all, the durability of that advantage. The businesses with the largest moat are the ones that deliver the greatest returns to shareholders" - no points for guessing who said that.
Couldn't agree more. More discussion about business moats please!
Just as inflation is defined by some as too much money chasing too few products, investing is just money looking for its best return, so all investing is comparative. Apparently Buffett [besides considering Tobin Q ratios - replacement cost and price to book value] always compares the bond yield for risk free returns with the market's average earning yield as he believes money not paid out in dividends goes into retained earnings, after maintenance and capex, to produce hopefully equivalent ROE, and therefore is not lost, if the management have any talent. Recently the market offerred the better return as its recent rise has shown. As for if it will fall again keep comparing bond yields and the market's earning yield. I am and will get out when this is no longer in favour of shares over bonds. This will happen if all the stimulus raises inflation despite low capacity utilisation and rising unemployment. I believe over the future expect the market to go up and down more than it has in the last 20 years so it will be more like 1965-80. So getting in and out at bottoms and tops will be vital and if that can be done it will be easy to make 15% a year over the next 15 years even if it is a 20 year bear market...which with the amount of comsumer leverage at present I believe it is. Anyway good luck and I hope you made a mint over the last few months to tide you over should the market soften now that it is more fairly valued.
What about China, Steve? Aren't they meant be buying our resources for centuries to come? The more resources they buy, the more bucks Australian mining companies make, which translates into higher prices in resource stocks. Won't mining keep the Australian economy bouyed with the Australian stock market now poised for another great run? The Japanese didn't have lots of coal to sell to China, now did they?
Just because Japan had a 20-year cool, and the US had a 10-year cool, doesn't mean that Australia is going to have a decades-long cool too.
Hmmm, I am currently rereading Intelligent Investor (the book) and it says one of the traps for the unwary is in this type of thinking. Just because you can say China will buy resources from Australia, or the population is ageing, etc, does not mean that any companies will make any money out of it. To do this on an ongoing basis they need the sustainable competitive advantage that Justin and Mars refer to above.
Just wanted to share my thoughts about the Nikkei experience since after the 1st correction in any market people start talking about the nikkei bear market..... The nikkei bubble was a combination of the following factors:
1. Super bubble : At its peak Nikkei had a PE of over 100. Real estate in Japan was valued at a higher price than the total real estate in the rest of the world.... I do not know of any other market that has had such a 'Super bubble', which is why it is taking decades to correct.
2. Custom of cross holdings in Japanese companies. This has ensured that complete purging has not taken place at the proper rate.
3. Large speculative real estate holdings by Japanese banks. Japanese banks at the peak of the bubble held huge real estate holdings at inflated prices which proved debilitating once the bubble burst since required capital could not be provided as stimulus.
4. Incompetent regulators. Japanese policies have contributed to their woes. A classic case is the policy of propping up nearly bankrupt companies from going under.
I do not know of any other markets which have had a combination of all these factors (barring to an extent the US markets in 1930s).
Sajeev
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